The Money Mustache Community
Learning, Sharing, and Teaching => Ask a Mustachian => Topic started by: justjenn on February 16, 2016, 12:57:02 PM
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Hi everyone,
I have recently graduated from college and got married, so now I am in full debt pay off mode. I just finished paying off our car and one of my smaller student loans. I want to keep this momentum going in the smartest way possible. So to my specific question-
Our highest interest rate debts are DHʻs student loans and our personal loan. Right now DH is still in college, so his loans are still in deferment. He has approximately $21k at 6.8% interest, so we arenʻt making monthly payments on it yet, but itʻs still accruing interest.
We have a personal loan of about $15k at 6.75% interest and are making $306 monthly payments on it.
We have about $1,000-1,200 extra per month we can use towards debt repayment.
My question is which loan should we tackle first? Does the .05% interest rate difference make a huge difference? Should we just stick with paying off the student loan or pay off the personal to free up cash flow?
Thanks in advance for any advice!
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Without doing any math, I'd pay off the personal loan first. It would likely have more impact on credit worthiness if you happened to be looking to borrow more (not that you should, of course, but life plans, buying a home, etc). It's also nice to get "something" paid off rather than only go for the (very slightly) better mathematical option. It feels good and helps you maintain momentum.
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Interest rate is so close, I'd suggest you take the "easy win" and pay off the $15k loan first and then start paying on your DH's loans once he's done with school and out of deferment. Unsubsidized loans while he's in school is a bummer as you're kind of treading water. If it were me, I might devise some kind of complicated system where I pay down both loans simultaneously, but that's not what you asked.
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I would suggest keeping up with the interest on the deferred loans so it doesn't capitalize when your husband graduates, then put any excess money towards the personal loan. The interest rates are so close it's basically a wash and the personal loan is less overall, so you'll be able to get the (mental) momentum boost by paying it off sooner than the student loan.
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Second the above. Normally I go highest APR first, but the difference is miniscule and while many of us poo-poo the Dave Ramsay snowball approach for its emphasis on psychological victories, this is a major difference in cash flow that you're talking about, and it could help you by opening up more options in less time.
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Do you have enough money to cover DH's school expenses until he graduates? If not, it might be best to use to to prevent yourselves from having to take out any additional loans, if there is an origination fee on the student loans.
If that isn't applicable, I would pay off the student loans first, because those are not dischargeable through bankruptcy. Yes, let's all hope you don't ever get there, but many people go through bankruptcy due to circumstances they never predicted and/or could not control.
They are also at the higher interest rate.
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thanks for all of the responses! this helps a lot.
Interest rate is so close, I'd suggest you take the "easy win" and pay off the $15k loan first and then start paying on your DH's loans once he's done with school and out of deferment. Unsubsidized loans while he's in school is a bummer as you're kind of treading water. If it were me, I might devise some kind of complicated system where I pay down both loans simultaneously, but that's not what you asked.
Out of curiosity, what kind of complicated system?
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I vote that you pay off the personal loan first. Yes, the interest rate on it is slightly lower than that of the student loan, but the student loan interest is a deduction on your return, while the personal loan is not deductible.*
*unless you use it for investment, which I'm guessing you didn't do
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I would suggest keeping up with the interest on the deferred loans so it doesn't capitalize when your husband graduates, then put any excess money towards the personal loan. The interest rates are so close it's basically a wash and the personal loan is less overall, so you'll be able to get the (mental) momentum boost by paying it off sooner than the student loan.
When in school, I heard multiple people make this suggestion and seen it recommended on several sites and I just don't get it. Why would you pay interest on a loan while you are drawing from that loan? If you have the money to make interest payments while in school, why not just borrow less? Yes, interest will capitalize, but the starting principal will be lower, so it will accumulate interest slower. Is there something I'm missing here?
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I would suggest keeping up with the interest on the deferred loans so it doesn't capitalize when your husband graduates, then put any excess money towards the personal loan. The interest rates are so close it's basically a wash and the personal loan is less overall, so you'll be able to get the (mental) momentum boost by paying it off sooner than the student loan.
When in school, I heard multiple people make this suggestion and seen it recommended on several sites and I just don't get it. Why would you pay interest on a loan while you are drawing from that loan? If you have the money to make interest payments while in school, why not just borrow less? Yes, interest will capitalize, but the starting principal will be lower, so it will accumulate interest slower. Is there something I'm missing here?
While you are correct, you will come out slightly ahead by just taking a lower loan amount, the reason students take loans is because they don't have the cash to put towards the lump tuition payment in the first place. However, many students do work through out college giving them the monthly income to make smaller payments through out the time they are in school.
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thanks for all of the responses! this helps a lot.
Interest rate is so close, I'd suggest you take the "easy win" and pay off the $15k loan first and then start paying on your DH's loans once he's done with school and out of deferment. Unsubsidized loans while he's in school is a bummer as you're kind of treading water. If it were me, I might devise some kind of complicated system where I pay down both loans simultaneously, but that's not what you asked.
Out of curiosity, what kind of complicated system?
Since you asked, I would probably do what others here have suggested and figure out how much interest is accruing daily on that loan (yes, it accrues daily, and it sucks--when we finally paid ours off, there was a little calculator to figure out how much we'd owe on whatever date we were making the final payment) and make small payments every payday to pay down the interest plus a small amount of principal every two weeks (or however often you get paid), and then throw a bigger amount of money at the $15k private loan. Plus, it can be weirdly fun to watch your balance go down, even in small increments. :)
Something like this:
Paid every two weeks (assuming $500 each paycheck to make payments), so make two payments to each loan each month:
$75 to unsub loan
$425 to private loan
You'd still be able to watch the $15k loan go down dramatically each month, but you'd also be sticking it to the man by paying down the unsubsidized loan while in school.
I would also track how much in interest I would be saving by doing this, because I am weird and like knowing how much I saved. :)
But, I'd also add that federal student loans (assuming that's what the larger loan is), even unsubsidized ones, come with a variety of features that private loans don't--forbearance in hardship being one of them, so it's not a bad idea to just throw all your spare money at the private loan while you can, and then just start paying on the other one when it comes due. The forbearance thing could come in handy if you or your spouse isn't able to work for some reason and the income stops or slows down. I also got forbearance on a loan for a couple months while I was in the process of consolidating--they kept moving my loans from servicer to servicer after I graduated, and I had filed consolidation paperwork on one servicer while the loan was going elsewhere. It gave me a couple months breathing room while I figured out where my loans had gone and could re-file the paperwork. I could afford the payments (we did something very similar to you two, throwing an extra $1000 or so at our loans each month) but it was a good option.
I also want to say--this is absolutely awesome that you are paying these off aggressively. You get huge props for this! I graduated with my master's in 2009 and most of my grad school classmates are still paying on their student loans, while DH and I were able to pay off our total of nearly $54k in debt by 2013, and then we sent him back to grad school and were able to pay for it with our savings instead of taking on more loans. This definitely isn't the "easy" path, but it has made our lives a lot less stressful.
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Does the .05% interest rate difference make a huge difference?
No.
Go to http://www.vertex42.com/Calculators/debt-reduction-calculator.html, download the Excel file there, and enter your numbers to see exactly how much difference it doesn't make.
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$1000 - $1200 per month.
I would not take out any additional student loans and cash flow the rest of DH's school expenses. Since he is still in school I am going to assume that the $21k was accumulated in no more than 3 years and no less than 1 year. If the $21k was accumulated in 3 years that gives a cost of ~$580 per month, leaving you with $420-$620 per month to pay the accumulating interest on the already received student loans and send the rest as extra to the personal loan. This will save you from an additional $7000, plus interest, in student loan debt over the last year of school. If the $21k was accumulated in 2 years that gives a cost of ~$875 per month, leaving you with $125-$325 per month to pay the accumulating interest on the already received student loans and send the rest as extra to the personal loan. This will save you from an additional $21k, plus interest, in student loan debt over the next 2 years. If the $21k was accumulated in 1 year that gives a cost of ~$1750 per month, obviously you would not be able to cash flow this but you could take on less new student loan debt, $9k a year instead of $21k a year by applying $1000 per month to his schooling. This will save you from an additional $36k, plus interest, in student loans over the next 3 years.
If you are already cash flowing the rest of DH's schooling and still have $1000-$1200 extra, I agree with some of the other previous posters. I would pay the interest to the student loans monthly to stop of from capitalizing and send the rest to the personal loan.