Author Topic: CASE STUDY: Where do I send my surplus??  (Read 3596 times)

MMSquared87

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CASE STUDY: Where do I send my surplus??
« on: July 18, 2016, 07:40:01 PM »
This blog and forum have a funny way of simultaneously making me feel like I'm on the right track, while also making me feel like I have no idea what I'm doing at times. So I found out about these Case Studies, and thought I'd give it a shot. My main question is what do I do with my surplus? I know there are a handful of VERY anti-Mustachian line items below, but I'm not necessarily writing this post to find out how to maximize my surplus (right now at least), just what to do with the current one. This might be backwards for many of you, but one step at a time I guess...

Life Situation:
- Married, filing jointly, two exemptions
- My wife and I are 27 and 29 years old, respectively
- No kids
- Reside in Parker, CO
- Gross Combined Salary: $136,250 ($36,250 and $100,000)

Pre-tax deductions:
- My 401(k):
     - $462 per paycheck ($12,000 per year (12%))
     - Employer matches 4% ($4K per year)
- Her PERA:
     - $230 per month
- HSA:
     - I contribute a measly $12.50 per paycheck to my HSA
     - Her employer contributes $100/mo into her HSA, and she contributes an additional $50/mo
- Insurance:
     - Dental: $9/mo
     - Combined Medical: $70/mo (HDHP)
     - Vision: $8/mo
- Additional after-tax Insurance:
     - Spousal Life: $1.50/mo
     - Supplemental AD&D: $10/mo
     - Supplemental Life: $18/mo

Adjusted Gross Income: $7,586/mo

Taxes:
- Colorado income tax rate is 4.63%

Debt:
- Mortgage:
     - $299,300 at 3.75% (brand-new home as of June 2016 that appraised at $450,000, put 30% down, so no PMI)
     - Monthly Payment is $1,721.13
               - Principal and interest: $1,389.30/mo
               - R/E Tax Escrow: $83.33/mo
               - Hazard Insurance Escrow: $48.50/mo
               - Extra Principal Payment: $200/mo
- One Car Loan:
     - $11,250 at 2.99%
     - Monthly payment is $225
     - A little over 4 years left on this, assuming no extra payments
- Regular rolling CC debt, paid off in full every month, no fees

Current Expenses:
- Car Insurance (Two cars): $115/mo (includes various discounts, like paying for 6 months at a time)
- Internet: $65/mo
- TV: $100/mo
- HOA: $90/mo
- Water: ~$75-100/mo
- Electricity: ~$75/mo
- Cell Phone: $135/mo
- Gas: ~$55/mo (fluctuates of course, but this is a 2yr average)
- Netflix: $8/mo
- Google Music: $8/mo
- Misc Expenses/Entertainment/CCs: $2500/mo (somewhat high estimate. and it includes several of the expenses listed above)

Assets:
- Savings and Checking: $58,500
- Fidelity 401(K) (previous employer): $56,900
     - ~90% 2050 Fund
     - ~10% previous employer stock
- Betterment Traditional IRA (rolled over from previous employer): $24,400
- Betterment Taxable ‘Build Wealth’ (90/10): $11,500
     - Currently moving $500 every two weeks from Savings into this Build Wealth account
- Colorado PERA: $8,000
- Combined HSA balance of $4,300 ($2600 of which is investment eligible, is that recommended for a HSA?)
- Merrill Lynch 401(K) (current employer): $2,700
     - Vanguard 2055 Target Retirement Fund
     - Currently contributing $12K per year with $4K match
- Individual Trading Account: $775
     - A single ‘buy and hold’ stock that I’ve had for quite a while. I haven't touched this account in years.
- Home (about $150K in equity)
- Two cars (one with the $11k loan mentioned above, the other is fully owned)

Rough Cashflow Estimate:
$7,586 Gross Adjusted Income
($1,611) Mortgage/HOA
($200) Extra Principal Payment on Mortgage
($100) TV
($55) Gas
($75) Electricity
($226) Car Loan
($1,083) Transfers to Betterment 'Build Wealth'
($115) Car Insurance (although I pay in 6 month increments)
($2500) Combined CC payments, no fees
($122) Misc/surprise expenses to help me get to a conservative and round number
$1,500/mo surplus


The answer on what to do with this surplus might be obvious to many of you, but I'm struggling with the options.
- Increase my extra principal payments on my mortgage? (highest interest rate of my two loans, but not by much)
- Aggressively pay off car loan because it's relatively small/manageable? (psychological benefit more than anything maybe?)
- Increase my contributions to the taxable Betterment account?
- Increase my 401(K) contributions?
- Increase HSA contributions?
- Find another investment vehicle? (I've been interested in trying Lending Club)
- Keep growing the rainy day fund? (Though I think the current one is strong enough as is)

I, like many of you, would like to retire early. I just have no idea how early (or late) is realistic for me.

« Last Edit: July 18, 2016, 07:46:18 PM by MMSquared87 »

SwordGuy

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Re: CASE STUDY: Where do I send my surplus??
« Reply #1 on: July 18, 2016, 07:54:10 PM »
Max those 401Ks, particularly if you can get a low fee total market or s&p 500 index fund
Then max IRAs or Roth IRAs.



Goldy

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Re: CASE STUDY: Where do I send my surplus??
« Reply #2 on: July 18, 2016, 08:50:28 PM »
Fund two roths and max your 401k

Gronnie

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Re: CASE STUDY: Where do I send my surplus??
« Reply #3 on: July 18, 2016, 09:03:48 PM »
Max all tax advantaged accounts. 401k, HSA, and IRAs.

bearkat

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Re: CASE STUDY: Where do I send my surplus??
« Reply #4 on: July 19, 2016, 11:56:22 AM »
Do you itemize your deductions? It could be that your post-tax deduction interest rate on your mortgage is actually lower than your car loan.

Maybe I missed something, but...
I get 3.75% * (1-fed rate) * (1-state rate) = 3.75% * (1-25%)*(1-4.63%) = 2.68% < 2.99% on your car loan

If you were inclined to pay down debt, I'd pick the car loan.

~Ari~

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Re: CASE STUDY: Where do I send my surplus??
« Reply #5 on: July 19, 2016, 12:03:34 PM »
This is what I would do...pay off car loan with all surplus as soon as possible. Once paid off - use your surplus and what you are paying monthly in car payments to your 401K to max it out and contribute to ROTH IRAs for the both of you.

robartsd

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Re: CASE STUDY: Where do I send my surplus??
« Reply #6 on: July 19, 2016, 12:52:08 PM »
Max your tax advantaged savings. $1500/mo is enough extra to max your 401(k) ($18k/yr) and IRAs ($5,500/yr for yourself and $5,500/yr for your wife). Depending on your tax rates, the reduced tax liability might be enough to also max out both your HSAs with just the current $1500/mo surplus. The ~$1200/mo surplus you currently allocate to extra mortgage principle and/or taxable investments could also be reduced if needed to max your HSA. You currently have plenty in savings/taxable accounts and enough surplus to max tax advantaged accounts while still contributing to taxable investments. I'm sure looking at expenses in greater detail could yield even more surplus to invest. Your "volcano of wastefulness" might not be shooting lava high in the air, but there's still a decent flow down the mountainside. How soon do you want to be FI?


frugaliknowit

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Re: CASE STUDY: Where do I send my surplus??
« Reply #7 on: July 19, 2016, 01:16:51 PM »
I would in order:

1.  Stop adding extra principle on the mortgage (for now at least).
2.  Destroy the car note.
3.  Start a car replacement fund for each car.  Perhaps open a separate "balanced fund" (low risk/some growth) for this purpose.
4.  Get rid of the individual stock.
5.  Increase HSA to the extent that you feel you're not putting enough in to cover expenses.
6.  Increase either 401K or, if you'd like some tax diversification (not popular among mustachians), contribute to roths or do some "back door Roth IRA" if not qualified for strait up Roth.
7.  Optionally, knock off some mortgage principle, mostly for diversification (you guys are young...).
« Last Edit: July 19, 2016, 01:21:45 PM by frugaliknowit »

robartsd

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Re: CASE STUDY: Where do I send my surplus??
« Reply #8 on: July 19, 2016, 01:31:36 PM »
6.  Increase either 401K or, if you'd like some tax diversification (not popular among mustachians), contribute to roths or do some "back door Roth IRA" if not qualified for strait up Roth.
Backdoor Roth is not easily available to OP - already has $24,400 in a tIRA; but OP is still eligible for Roth IRA. OP may not be eligible for deducting tIRA contributions, so a strait up Roth IRA is likely the right IRA here.

Mother Fussbudget

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Re: CASE STUDY: Where do I send my surplus??
« Reply #9 on: July 19, 2016, 01:57:14 PM »
I would in order:

1.  Stop adding extra principle on the mortgage (for now at least).
2.  Destroy the car note.
3.  Start a car replacement fund for each car.  Perhaps open a separate "balanced fund" (low risk/some growth) for this purpose.
4.  Get rid of the individual stock.
5.  Increase HSA to the extent that you feel you're not putting enough in to cover expenses.
6.  Increase either 401K or, if you'd like some tax diversification (not popular among mustachians), contribute to roths or do some "back door Roth IRA" if not qualified for strait up Roth.
7.  Optionally, knock off some mortgage principle, mostly for diversification (you guys are young...).
I'm with frugalknowitall here.  +1.
We get questions like this often, and in every case, the answer varies according to your financial situation.
I assume everyone sets aside a 3-6 month emergency fund, and works forward from there. 

The investment order I recommend:
1) Max out your 401K contribution to get the dual benefit of saving pre-tax dollars, and reducing taxable income.
2) Max out your HSA account (must have a HDHP to have an HSA account).  http://www.madfientist.com/ultimate-retirement-account/
3) Max out a T-IRA or ROTH IRA contribution.  A tax-advantaged $5,500/year saving bucket above and beyond the 401K/Roth401K.
4) Invest in a taxable account.  You can always invest in a taxable account. Purchase low fee ETF's >> Total Stock Market Fund / Total Bond Market Fund, and/or REIT's if you want a real-estate component to your investment portfolio but don't want to be a landlord (http://www.mrmoneymustache.com/2011/08/15/become-a-lazy-landlord-with-reits/)

Also... set your investments up to DRIP - Dividend Re-Investment Program.  Each stock trading company lets you re-invest dividends into the stock that generates dividends.  In most cases, you'll have to manually specify you want dividend reinvestment for each holding in your account. 
Keep up the good work, and all the best!

MMSquared87

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Re: CASE STUDY: Where do I send my surplus??
« Reply #10 on: July 20, 2016, 10:03:46 AM »
I would in order:

1.  Stop adding extra principle on the mortgage (for now at least).
2.  Destroy the car note.
3.  Start a car replacement fund for each car.  Perhaps open a separate "balanced fund" (low risk/some growth) for this purpose.
4.  Get rid of the individual stock.
5.  Increase HSA to the extent that you feel you're not putting enough in to cover expenses.
6.  Increase either 401K or, if you'd like some tax diversification (not popular among mustachians), contribute to roths or do some "back door Roth IRA" if not qualified for strait up Roth.
7.  Optionally, knock off some mortgage principle, mostly for diversification (you guys are young...).

On #1, Why? (just curious) I see the benefit it has over the life of the loan and it's hard to ignore.
On #3, Do you mean prepare now for an eventual new (used) car to replace the current ones?

And everyone seems to agree I should max out my 401(k), but is there anything other than the stock market I should be testing?

MMSquared87

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Re: CASE STUDY: Where do I send my surplus??
« Reply #11 on: July 20, 2016, 10:06:28 AM »
Max your tax advantaged savings. $1500/mo is enough extra to max your 401(k) ($18k/yr) and IRAs ($5,500/yr for yourself and $5,500/yr for your wife). Depending on your tax rates, the reduced tax liability might be enough to also max out both your HSAs with just the current $1500/mo surplus. The ~$1200/mo surplus you currently allocate to extra mortgage principle and/or taxable investments could also be reduced if needed to max your HSA. You currently have plenty in savings/taxable accounts and enough surplus to max tax advantaged accounts while still contributing to taxable investments. I'm sure looking at expenses in greater detail could yield even more surplus to invest. Your "volcano of wastefulness" might not be shooting lava high in the air, but there's still a decent flow down the mountainside. How soon do you want to be FI?


This might be a dumb question, but how do I get the tax-deferred benefit of contributing to my traditional IRA if it's not immediately taken from my paycheck like my 401(k) contributions? I've only had this traditional IRA for about a month (rollover from an old 401k), and I'm not entirely familiar with how the $5,500/yr max works.

mskyle

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Re: CASE STUDY: Where do I send my surplus??
« Reply #12 on: July 20, 2016, 11:06:47 AM »
This might be a dumb question, but how do I get the tax-deferred benefit of contributing to my traditional IRA if it's not immediately taken from my paycheck like my 401(k) contributions? I've only had this traditional IRA for about a month (rollover from an old 401k), and I'm not entirely familiar with how the $5,500/yr max works.

When you file your taxes, your taxable income will be reduced by the amount that you put into your tIRA, so you won't pay taxes on that. So if you put $11,000 into tIRAs your refund will be ~$2750 more or your taxes owed will be ~$2750 less (I'm guessing your marginal tax rate is 25% but not sure what deductions you're taking, etc.) Or you can adjust your withholding now.

robartsd

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Re: CASE STUDY: Where do I send my surplus??
« Reply #13 on: July 20, 2016, 11:35:22 AM »
Stop adding extra principle on the mortgage.
This advice is based on a belief that you'll come out financially ahead if you invest the money instead. 3.75% is a reasonably low rate and you might be claiming the interest payment as a tax deduction further reducing the effective rate. Of course paying off debt has non-financial rewards for some people that makes it worthwhile even though the math doesn't support it.

Destroy the car note
Not sure why the same person advocating holding on to the mortgage as long as possible is also advocating paying off the car. Although the car loan has a lower nominal interest rate than the mortgage, the actual cost of carrying the car loan may be higher due to mortgage interest tax deduction and cost of insurance coverage required by your auto lender (above what you would choose yourself). Still 2.99% is a decent rate and investing may be the better option with this money as well.

Tax benefits of IRA
To get your income tax withholding more inline with your actual expected taxes, file a W-4 with your employer. The IRS has a online tool to help you estimate how many allowances to claim on your W-4. Otherwise the benefits won't come until you get your income tax refund.

MDM

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Re: CASE STUDY: Where do I send my surplus??
« Reply #14 on: July 20, 2016, 01:00:27 PM »
My main question is what do I do with my surplus?

See the 'Investment Order' tab on the spreadsheet referenced in How To: Write a "Case Study" Topic for thoughts on this question.