Is Forbearance Bad for Your Credit Score?

Forbearance offers a temporary financial reprieve, allowing individuals facing unexpected hardships to pause or reduce loan payments. It can prevent immediate default during difficult periods like job loss, illness, or natural disasters. Understanding forbearance and its credit implications is important for informed financial decisions. This article explores its mechanics, credit reporting, repayment options, and steps to safeguard credit.

Understanding Forbearance

Forbearance is a temporary agreement between a borrower and a lender, allowing a pause or reduction in loan payments during significant financial hardship. Common reasons include job loss, reduced income, unexpected medical expenses, or natural disasters.

To initiate a forbearance, borrowers generally need to contact their lender or loan servicer directly. It is advisable to reach out to the lender as soon as financial difficulties arise, ideally before missing any payments, as payment history significantly influences credit scores. During this initial contact, borrowers typically explain their financial situation and may be required to provide proof of hardship, such as recent bank statements or medical bills.

The terms of forbearance, including the duration of the payment pause or reduction, are negotiated between the borrower and the lender. While forbearance offers relief, it is not loan forgiveness; the missed payments, along with any accrued interest, will eventually need to be repaid. The specific terms will vary based on the type of loan and the lender’s policies.

Impact on Credit Reporting

The primary concern for many borrowers considering forbearance is its effect on their credit score. When managed correctly, forbearance is generally not considered a negative mark on a credit report, unlike a missed payment or delinquency.

Lenders decide how they report financial hardship plans to credit reporting agencies. If a forbearance agreement is in place, the account may be reported as “active” with a new agreed-upon payment amount, potentially $0, or noted as being “in forbearance” in the remarks field.

The CARES Act provided specific protections for federally-backed loans during the COVID-19 pandemic. Under this Act, if a borrower was current when entering forbearance due to COVID-19, the lender reported the account as “current” to credit bureaus. This prevented negative credit impacts even with paused payments.

For forbearance agreements outside of specific legislative mandates like the CARES Act, the reporting can vary. While a lender might note that an account is in forbearance, this notation itself is not inherently negative information and should not impact credit scores if the borrower adheres to the agreed-upon terms. However, if payments were missed before entering forbearance, those delinquencies will still appear on the credit report. It is crucial for borrowers to have a clear understanding with their lender about how the forbearance will be reported to ensure accuracy.

Indirect effects on a credit score can also occur, even if forbearance is reported correctly. For example, if focusing on essential payments during forbearance leads to increased balances on credit cards, a higher credit utilization ratio could indirectly lower a credit score. Therefore, while forbearance itself aims to prevent negative credit impacts, maintaining other credit obligations is still important.

Navigating Post-Forbearance

Once forbearance concludes, borrowers must repay any missed or reduced payments. Lenders typically offer several options to address this accumulated amount, avoiding an immediate lump sum requirement:

Reinstatement: The borrower pays the total amount excused during forbearance, along with any accrued interest or fees, in a single lump sum.
Repayment Plan: This adds a portion of missed payments to the regular monthly payment for a specified period, typically up to 12 months.
Payment Deferral or Partial Claim: This permits the borrower to resume regular monthly payments, while missed payments are added to the end of the loan term. This deferred amount becomes due when the loan matures, the home is sold, or the loan is refinanced.
Loan Modification: This permanently changes the terms of the original loan, such as adjusting the interest rate or extending the loan term, to make monthly payments more affordable. This can incorporate the missed forbearance payments into the new loan structure.

Protecting Your Credit

Taking proactive steps during and after forbearance can help minimize negative effects on your credit. Communication with your lender is key: understand the specific terms of your forbearance agreement and how it will be reported. Confirming the agreement in writing prevents misunderstandings regarding repayment and credit reporting.

Regularly monitoring your credit reports from all three major bureaus (Equifax, Experian, and TransUnion) is a prudent step. This allows you to verify that the forbearance is being reported accurately and to dispute any errors that may appear. If an error is found, contacting both the lender and the credit reporting agency promptly is important for correction.

If financially feasible, making partial payments during forbearance, even if not required, can reduce the total amount owed at the end of the period. Planning for the end of forbearance by adjusting your monthly budget and understanding your repayment options can help ensure a smooth transition back to regular payments and safeguard your credit.