Author Topic: Advice on gettting my mustache started.  (Read 6814 times)

stoojie

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Advice on gettting my mustache started.
« on: October 23, 2012, 07:31:30 AM »
If you can't do them all at once, is it better to pay off student loans, save for a house, or build up the 401K first?

My husband and I just got married (woohoo!) and I'm trying to get our finances in order so we can save as much as possible while paying off debt. He has about 54K in student loan debt, plus almost 8k in credit card debt. I have around 2k on one of my credit cards and my student loans are paid off. We have about 7k in savings and a combined income of 74k before taxes. We would like to be able to look into buying a house in about a year (ideally around 200K with a 15 year mortgage, in the area we're thinking of buying this should be possible) but I'm not sure if this will be possible while we're also paying down the debt. 

Advice?

arebelspy

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Re: Advice on gettting my mustache started.
« Reply #1 on: October 23, 2012, 07:33:16 AM »
Depends on the interest rates.

What is the CC debt at?  Student loans?
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stoojie

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Re: Advice on gettting my mustache started.
« Reply #2 on: October 23, 2012, 07:49:16 AM »
I think 15% on the credit cards, I'm not sure on the student loans since he recently consolidated.

inthebiz

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Re: Advice on gettting my mustache started.
« Reply #3 on: October 23, 2012, 08:44:05 AM »
First of all, congrats of having a great combined income. There is much you both can do from this point on to get started towards FI. 

Your CC is costing you $125 a month just in interest. Or think of it this way, you can use your $7k in savings to pay off a big chunk, and the 15% you didn't pay in interest is like a 15% return on your money. I wouldn't keep your savings sitting around losing purchasing power. You couldn't invest it and guarantee a 15% return, so what to do with the savings and your CC is pretty clear IMO.

Regarding saving for a home, this is my very humble opinion...

I offer two solutions, the first being what I personally did. Pay off your CC as quickly as possible. Then, figure what is the minumum survival monthly expense amount you both need. Multiply this by 6 (at a minimum) and now you have a decent cushion. With this amount, you should never have to use your CC again unless your able to pay the balance off each month (with current income). However some argue CC's are good to have for emergencies, not the case...unless you can rack up rewards and pay the balance off the same month. I digress.

After savings, then start putting money away for a down payment on a house. Now you're probably thinking..."but we're ready to buy a house and don't want to rent anymore, and this seems like a very conservative approach." It is. Many people underestimate the cost of home ownership and I don't know you and I don't judge, but generally speaking those that carry balances on CC aren't financially prepared to take on home ownership. Even if it's 2-3 years more down the road for you, that's okay. Homes will always be there, but at least you'll have saved properly for it. You can always speed up the process by finding the cheapest living arrangements that you can tolerate to ramp up the savings.

The second solution would be to pay off your CC and then start saving for your home. However a $200K home with a 15 year mortgage is going to be half your net take home once you factor mortgage, PMI, taxes, maintenance (don't underestimate), utilities...so yes, you could probably get into a home. But I'm willing to bet it will be stressful. Ultimately because a 15 yr mortgage is agressive for the size of house and your income. Why not take out a 30 yr mortgage and pay it down as though it were 15? At least you have the option.

Remember, you're asking this question in a forum where the ultimate goal is FI as early as possible. This means spending less, saving more or making more. You won't be doing any of these by getting a house this early in your careers. That's my two cents.

cthulhu

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Re: Advice on gettting my mustache started.
« Reply #4 on: October 23, 2012, 09:08:01 AM »
Another general question - does (do) the 401k(s) match any of your savings contributions?

If they match I would certainly put some priority on contributing up to the match - in the same way paying off the CC "earns" you 15% - the tax savings and employer match "earn" you a great deal on the first day you contribute.

Personally I'd get the 401k up to the match amount (if offered typically 6%), then pay down the debt, and then start seriously saving for the house.  If a 15yr mortgage is your intention, as the previous poster points out, that is an aggressive commitment - and I'd want to enter into that loan with some cushion in my budget and without other debt to service.

Al

inthebiz

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Re: Advice on gettting my mustache started.
« Reply #5 on: October 23, 2012, 09:35:52 AM »
If they match I would certainly put some priority on contributing up to the match - in the same way paying off the CC "earns" you 15% - the tax savings and employer match "earn" you a great deal on the first day you contribute.

Something to consider for sure. The bottom line is to be investing in your future and free money (which doesn't benefit you until youre 59.5 for a 401k) is good wherever you get it as long as you're not cash-poor on the front end. Whenever you're carrying a CC balance, you're cash poor, aka having liquidity issues.

cthulhu brings up something for you to consider really. Forgoing maxing out your retirement accounts to save money for a down payment could cost you a lot in potential matches and retirement growth, but this is really a personal decision for you both (being in a home earlier vs saving for retirement). I think you could do both on your income, but you'd have to really be serious about growing your 'staches. 
« Last Edit: October 23, 2012, 09:54:40 AM by inthebiz »

AJ

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Re: Advice on gettting my mustache started.
« Reply #6 on: October 23, 2012, 10:39:19 AM »
This would be my plan:
  • If your employer offers a match, you should take it. There is almost no way you can beat that kind of return.
  • Pay off the CCs next, since the rate is so high.
  • Then it gets more gray. Take a very realistic look at how your mortgage will compare to your rent. Make sure you include a realistic amount for maintenance and repairs. Once you know that, you can better determine if you should pay of the student loans first or buy a home sooner. There will also be lifestyle preferences at play. The longer you can stave off lifestyle inflation the better off you'll be financially - if the numbers lean in that direction.

...(which doesn't benefit you until youre 59.5 for a 401k)...

This is sadly a very common misconception. Google "72t rule".

stoojie

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Re: Advice on gettting my mustache started.
« Reply #7 on: October 23, 2012, 10:54:20 AM »
Thanks for the advice all! My husband's company does do a 4% match on the 401K and we currently have the 4% being taken from his paycheck + the match going into that account. I think what we're going to do for now is address the CC debt first and reevaluate the savings vs. house funding once that is taken care of. The main push for a house is we currently spend a little over 1K for our rental ( which is well located and right smack in between our two jobs) but we wish we could be investing that money rather than having it as only an expense.

inthebiz

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Re: Advice on gettting my mustache started.
« Reply #8 on: October 23, 2012, 11:10:07 AM »
...(which doesn't benefit you until youre 59.5 for a 401k)...

This is sadly a very common misconception. Google "72t rule".

I can't believe anyone would bring up the 72t rule in this circumstance. If you really understood it, you would only bring it up on the very rarest of circumstances. The sad thing is anyone that googles 72t rule thinks they know everything there is to know about it.
« Last Edit: October 23, 2012, 11:12:16 AM by inthebiz »

inthebiz

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Re: Advice on gettting my mustache started.
« Reply #9 on: October 23, 2012, 11:21:51 AM »
Thanks for the advice all! My husband's company does do a 4% match on the 401K and we currently have the 4% being taken from his paycheck + the match going into that account.

I think this is the right approach as long as you're able to take care of that CC. But just some quick math, assuming you and your husband make the same.

37K annual gross at 4% contribution = $1480 invested to get $1480 from company.
Meanwhile, you're paying $1500 a year in interest alone. That doesn't include minimum payments you need to make to go towards your principal. Now you want to pay that off before your first child starts school (meaning not let years go by), you need to double that monthly payment. So now you're paying $1500 to get $1500, but you're no better off CC wise. This is of course all awash if you can do both. But your first priority should be your CC debt, then short term savings. Obviously if you can do this while saving into retirement you should do it.


AJ

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Re: Advice on gettting my mustache started.
« Reply #10 on: October 23, 2012, 11:28:15 AM »
...(which doesn't benefit you until youre 59.5 for a 401k)...

This is sadly a very common misconception. Google "72t rule".

I can't believe anyone would bring up the 72t rule in this circumstance. If you really understood it, you would only bring it up on the very rarest of circumstances. The sad thing is anyone that googles 72t rule thinks they know everything there is to know about it.

Then please, do enlighten me as to how this is not relevant to someone posting in an Early Retirement forum. Why is it only relevant in the "rarest of circumstances", given the nature of this community?

AJ

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Re: Advice on gettting my mustache started.
« Reply #11 on: October 23, 2012, 11:49:16 AM »
The main push for a house is we currently spend a little over 1K for our rental ( which is well located and right smack in between our two jobs) but we wish we could be investing that money rather than having it as only an expense.

Your rental might not be as bad as you think:
  • Interest on a $160k mortgage @2.75% (assuming $200k purchase price and 20% down): $365 a month
  • Estimated repairs and maintenance(1%-3% of home value, depending on the age of the home and your DIY skills): $165-$500
  • Taxes and insurance (totally guessing, since it is location-dependent): $250
Looking at $780-$1115 not including the principal portion of the loan, and assuming your utilities stay the same and you stay the same distance from your work. You'd have to run the numbers for your own circumstances, of course, but it isn't as bad as a $1k expense for rent. Much of that would be going to expenses even if you owned.

Just trying to make you feel better about renting. It tends to get a worse rap than it deserves...

inthebiz

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Re: Advice on gettting my mustache started.
« Reply #12 on: October 23, 2012, 12:11:56 PM »
...(which doesn't benefit you until youre 59.5 for a 401k)...

This is sadly a very common misconception. Google "72t rule".

I can't believe anyone would bring up the 72t rule in this circumstance. If you really understood it, you would only bring it up on the very rarest of circumstances. The sad thing is anyone that googles 72t rule thinks they know everything there is to know about it.

Then please, do enlighten me as to how this is not relevant to someone posting in an Early Retirement forum. Why is it only relevant in the "rarest of circumstances", given the nature of this community?

Because you can't just make a blanket statement that 72t is an option for anyone that wants to tap into their retirement accounts early. This forum is great for answering many ER questions, but there is so much misinformation on the internet that I think people get too caught up in trying to show how much they've learned googling stuff.

Let's do some quick math. Let's say a mustachian retires at 40 with $1mm in an IRA. While there are 3 ways the IRS will calculate distributions, let's go with the most conservative. Why? Because you still have 50+ years of life and you can't change the distributions before the 72t period, so you better be earning more than you withdraw. If you are, you're most likely heavy in equites since you need to be returning at least 7%. Now you're exposed to market risk and you can't change your distribution! Back to the numbers: with the RMD selection, $1,000,000 / 43.6 years (IRS life expectancy for 40 yo) = about $23,000 a year you're required to take out the next 19.5 years. Can't take more, can't take less. God forbid you took a 72(t) distribution starting in 2008. I could go on and more detailed but the bottom line is: use a retirement account for the tax advantages and the employee match. If you need income before 59.5, have resources in a taxable investment account. You should be diversifying your tax exposure anyway.
« Last Edit: October 23, 2012, 12:23:43 PM by inthebiz »

Another Reader

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Re: Advice on gettting my mustache started.
« Reply #13 on: October 23, 2012, 12:23:27 PM »
+1 for inthebiz.

As someone that is wrestling with MRD's on an inherited IRA, I can tell you lack of control over minimum distributions can be very expensive.  Having to take money out you do not need when values are dropping like a rock and pay taxes for the privilege is not pleasant.  There's a lot to be said for flexibility and control. 

Taxable accounts and Roths are the way to go for maximum flexibility.

TLV

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Re: Advice on gettting my mustache started.
« Reply #14 on: October 23, 2012, 12:25:37 PM »
with the RMD selection, $1,000,000 / 43.6 years (IRS life expectancy for 40 yo) = about $23,000 a year you're required to take out the next 9.5 years. Can't take more, can't take less. God forbid you took a 72(t) distribution starting in 2008

Yes, you can take more or less. The whole point of the RMD (vs. the other two) method is that it changes with your account value, so your distribution is reduced automatically if your account value tanks (and increases if it surges). That's why you're allowed to switch to the RMD from one of the other two, but not vice-versa.

That said, the rates these days are low enough (23k from 1mm, as in your example) that putting everything in 72t isn't a good idea. The Roth pipeline seems to me like a much better idea for most people.

inthebiz

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Re: Advice on gettting my mustache started.
« Reply #15 on: October 23, 2012, 12:28:56 PM »
with the RMD selection, $1,000,000 / 43.6 years (IRS life expectancy for 40 yo) = about $23,000 a year you're required to take out the next 9.5 years. Can't take more, can't take less. God forbid you took a 72(t) distribution starting in 2008

Yes, you can take more or less. The whole point of the RMD (vs. the other two) method is that it changes with your account value, so your distribution is reduced automatically if your account value tanks (and increases if it surges). That's why you're allowed to switch to the RMD from one of the other two, but not vice-versa.

That said, the rates these days are low enough (23k from 1mm, as in your example) that putting everything in 72t isn't a good idea. The Roth pipeline seems to me like a much better idea for most people.

You're absolutely correct. I meant that as the investor, you can't change the amount. It is automatically figured each year. My point was you have no say in what that amount is.

Also, the risk there is if the markets rally, now you're taking more than you need and you simply can't refuse it or reinvest it back into the same account.
« Last Edit: October 23, 2012, 12:37:55 PM by inthebiz »

ErinG

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Re: Advice on gettting my mustache started.
« Reply #16 on: October 23, 2012, 12:33:39 PM »
I borrowed money from my 401k to pay my closing costs. The money was put into the 401K by me and then matched dollar for dollar by my employer. I can borrow up to 1/2 of my vested balance for up to 5 years at a rate of 4.25%. The interest goes back to me into my 401K. I lose money on the quarterly maintence fee and on investment returns. If I did not contribute that money in the 1st place, I would have lost out on the match and on the investment return anyway. If I had reduced my 401K contribution amount to below the max match threshold to "afford" to save up the closing costs, then I would have "lost" money.

If your employer offers a 100% match up to 4%, you should be contributing 4%.

Then get rid of the credit card debt, fast, and don't rack it up again. I think then you just have to run the numbers to decide which kind of debt you like better, mortgage debt or student loan debt. Either pay the minimums on the student loans and save like monsters for your down payment, or shelve the house idea for the moment and attack the student loans with viciousness.

At a gross income of 74K, a 200K mortgage (for 15 years??) is going to be hard and things break and shit sucks. Why not get a 30 year and pay extra on it? That way you can scrape your savings back into shape after the purchase for emergencies. There will be expensive emergencies.



AJ

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Re: Advice on gettting my mustache started.
« Reply #17 on: October 23, 2012, 12:35:33 PM »
Because you can't just make a blanket statement that 72t is an option for anyone that wants to tap into their retirement accounts early. This forum is great for answering many ER questions, but there is so much misinformation on the internet that I think people get too caught up in trying to show how much they've learned googling stuff.

I didn't make the blanket statement that everyone should take that option - merely that it was an option. I was reacting to your blanket statement that the funds would be of no use until age 59.5. That isn't true, and even for all its restrictions, 72t can be a good option for people wanting to retire early.

I suggested google not to compete with you, but because this subject comes up A LOT on these forums and most people don't know anything about it. I was tired of explaining it.

with the RMD selection, $1,000,000 / 43.6 years (IRS life expectancy for 40 yo) = about $23,000 a year you're required to take out the next 9.5 years. Can't take more, can't take less. God forbid you took a 72(t) distribution starting in 2008

Yes, you can take more or less. The whole point of the RMD (vs. the other two) method is that it changes with your account value, so your distribution is reduced automatically if your account value tanks (and increases if it surges). That's why you're allowed to switch to the RMD from one of the other two, but not vice-versa.

That said, the rates these days are low enough (23k from 1mm, as in your example) that putting everything in 72t isn't a good idea. The Roth pipeline seems to me like a much better idea for most people.

This. You can also split your IRA before taking the 72t if you want to take out less and save a portion for 60+ only.

There are a lot of factors to weigh, and 72t isn't going to be the best for everybody, but that doesn't mean it isn't an option that should be factored in. Saying that a tax-advantaged account is worthless when it isn't is just another way of spreading misinformation.

inthebiz

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Re: Advice on gettting my mustache started.
« Reply #18 on: October 23, 2012, 12:49:09 PM »
@ AJ - I agree. In the interest of educating I don't think anyone is better off, more confused probably. Financial forums and sites are great and educational, but there are too many factors involved to not talk to a professional with stuff like this. And I concede that this can be frustrating when I read opinions on these sites about financial advisors. I could make another argument with your example of splitting but there's no point. I'm trying to keep it simple to answer the question, you opened pandora's box with 72(t) distributions.

AJ

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Re: Advice on gettting my mustache started.
« Reply #19 on: October 23, 2012, 01:02:19 PM »
@inthebiz - I didn't mean to open a box, and I think as far as the OP's immediate course of action goes everyone is in agreement - including the OP themselves :) And I think you an I are on the same page as far as wanting good information spread - just perhaps have different ideas of the best way to go about that.

I can sometimes be quite persnickety about facts being expressed with 100% accurate precision, even when that isn't realistic to expect.

twinge

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Re: Advice on gettting my mustache started.
« Reply #20 on: October 24, 2012, 01:28:54 PM »
Quote
The main push for a house is we currently spend a little over 1K for our rental ( which is well located and right smack in between our two jobs) but we wish we could be investing that money rather than having it as only an expense.

Don't fall into the idea that purchasing a house is  an "investment" and rent is not.  With the costs of buying and selling a house, the interest payments, the lost opportunity costs on your down payment, the cost of maintenance (both in money and time) it is not a given that a house represents a better "investment" than renting.  In many instances a house can be a liability.  You have to do the math on your situation.