Dear Credit Card Adviser, I want to pay off my student loans gradually with credit cards. My plan is to pay whatever amount I owe that month on a card and pay it off immediately. With $40,000 in student loans, those credit card points and 1 percent back in rewards will really build up. Will this strategy be good for my credit score? -- Chris
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This strategy may be tricky to execute. For starters, many student loan lenders won't accept payment via credit card. The U.S. Department of Education, for instance, confirmed it will take credit card payments only as a last resort; the borrower must prove they cannot pay any other way.
"Some private lenders accept payments by credit card but then tack on a fee to cover the cost of the fees charged to them by the credit card issuer," says Mark Kantrowitz, publisher of college financial planning site Edvisors.com. You'll also pay a fee, typically between 3 percent and 5 percent, if you try to skirt payment restrictions by using a credit card check or cash advance.
"In some cases, interest begins accruing immediately on a cash advance," Kantrowitz says.
These charges could easily negate any rewards points you're hoping to rack up ... assuming you're actually earning them.
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"Many credit card issuers do not allow such payments to count for reward points," Kantrowitz says. "In any event, it doesn't make good financial sense to pay a 3 percent service charge to earn 1 percent in rewards."
Now, in terms of a credit-building strategy, "it's certainly not going to help your credit scores and could hurt them," says John Ulzheimer, president of consumer education at CreditSesame.
A missed payment on a credit card can cause a person's score to drop 70 to 90 points, depending on their current score.
Moreover, a student loan is an installment loan, meaning you're required to pay a set amount each month for a fixed period of time. A credit card, on the other hand, is a revolving loan. You control how much you owe at any given moment, up to your credit limit, and you're required to pay only the minimum set by issuers, which can be as low as $15 or 1 percent of your full outstanding balance. (In other words, it's easy to run up a big credit card bill and get stuck with it indefinitely.)
If you deviate from your plan and are unable to pay off the full credit card balance at the end of the month, the student loan payment(s) could wind up negatively skewing your credit utilization rate, which is how much debt you are carrying versus how much credit you have available. Experts generally recommend keeping utilization to around 20 percent to 30 percent. The lower, the better.
Keep in mind that issuers often report balances to the credit bureaus on the statement's closing date, not your bill's due date, so even a small lag time between charging the loan payment and paying down the subsequent credit card balance could inadvertently affect utilization.
Plus, carrying the balance will likely make the debt more expensive, since the average credit card annual percentage rate is higher than the average student loan interest rate.
In other words, paying down one loan with another is a bit of a slippery slope and may cause more trouble than it's worth. To build solid credit, focus on using your credit card responsibly and making all the payments on your student loan on time.
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