Author Topic: Investing vs. Debt Payment Prioritization  (Read 3568 times)

Mrs3F

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Investing vs. Debt Payment Prioritization
« on: July 30, 2013, 01:02:25 PM »
I know versions of this question have been asked before, but I'd like to get your collective wisdom on my actual numbers.  I hate the fact that I have any debt at all, so my psychological leaning is to pay everything back as fast as possible.  But I've begun to start thinking matematically and am slowly realizing that at certain interest rates, I'd do better to pay minimum payments, and invest the rest.  My debts are:

Student Loans:  $13k @ 5.385%
Mortgage:  $300K @ 4%
Car Loan:  $17K @ 1.7%

I aggressively paying the student loan, and just want it gone (hopefully by year end).  The interest rate on the car loan is so low that I think it makes sense to pay it as slow as possible. 

But what about the mortgage?  Should I drag it out or try to accellerate it?  I would love to be free of it, but even sending every extra penny, it would take a LONG time to pay off.  What does the collective mustachian wisdom say? 

(Other relevant factors:  401K is maxed, efund is comfortably funded)

GreenGuava

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Re: Investing vs. Debt Payment Prioritization
« Reply #1 on: July 30, 2013, 10:02:39 PM »
First, I totally agree with repaying the student loans ASAP.  Even with the tax benefit to the interest, it's still a high effective interest rate.  There's also some additional math to be done with student loans versus other loans:  if you invest, and get sued (or otherwise liable for a large bill, e.g. medical), the assets you could have used to repay the student loan can be taken, but you're still stuck with the loan, even if you have a bankruptcy.

For the mortgage, I assume you aren't paying PMI.  What's your marginal tax bracket?  4% is just slightly above where I'd start to say "pay it instead," but the effective rate is lower.

Car loan - as much as I don't like a $17k car loan, 1.7% isn't bad at all.  I'd pay the minimum on this and invest otherwise, unless the loan requires much more expensive insurance than you'd get otherwise.

Your 401(k) is maxed; great.  Do you contribute to an IRA of some sort?  Before advanced repayment of the mortgage, I'd contribute to an IRA (probably Roth), if you're eligible.  There's only so much tax-advantaged space, and each year, it's use it or lose it.

worms

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Re: Investing vs. Debt Payment Prioritization
« Reply #2 on: July 30, 2013, 10:47:26 PM »
I have never borrowed to finance a car so am completely naive on the workings of the car loans business.  However, I recently saw the figures for a friend's car loan where the rate quoted was on a flat-rate percentage per annum which was applied up front. This meant that the balance due included the four years' interest. Paying off the loan early saves her no interest at all (but she rightly just wants it gone). 

I am sure you have looked at the small print and understand the deal you have, but this one shocked me!

Mrs3F

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Re: Investing vs. Debt Payment Prioritization
« Reply #3 on: July 31, 2013, 08:11:30 AM »
I recently saw the figures for a friend's car loan where the rate quoted was on a flat-rate percentage per annum which was applied up front. This meant that the balance due included the four years' interest. Paying off the loan early saves her no interest at all (but she rightly

My loan is a traditional ammortization loan.  So paying it off would save interest.  I hate the $17K, but my other car died a very sudden death (never a good sign when a trusted mechanic begins with the words "catastrophic failure") when I was 2 weeks away from giving birth to my second kid.  The previous car was purchased used for what was a very good deal on paper, but plagued us with troubles throughout the 2 years we had it.  So we needed a car very quickly, and over-corrected for past problems by buying a brand new Honda Crv.  Not mustachian, but not a total gas-guzzilng nightmare.  I should note that I could have paid cash - but I need a large efund to feel comfortably secure. 

For the mortgage, I assume you aren't paying PMI.

Sadly, you assume wrong.  We bought the house with only 10% down at 5% interest.  When we refied last year we could have gotten a PMI-free loan at about 4.5%, but the math worked out in favor of keeping PMI for the 4%  rate.  Should I perhaps prioritize paying down the mortgage to the point where I can eliminate PMI?  It's $168 a month, so not insubstantial. 

Marginal tax bracket is 28%

Not eligible for a Roth.  My spill-over savings goes to a Vanguard index fund.


willn

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Re: Investing vs. Debt Payment Prioritization
« Reply #4 on: July 31, 2013, 10:49:40 AM »

I should note that I could have paid cash - but I need a large efund to feel comfortably secure. 


I can understand this, but I view this is false security.  You've already spent the money, you just haven't admitted it yet. 

Another way to look at it:  If you owned the car outright, would you go borrow 17K on it to feel more secure?  That absolutely no different that your current situation...

I'd do a debt snowball, hammer the student loan down and then the car loan.  In that tax bracket you should be able to knock these out in a number of months counted on one hand.  And much less if you dip into your emergency fund.  Without the payments, your efund will pop back up fast, too.


SunshineGirl

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Re: Investing vs. Debt Payment Prioritization
« Reply #5 on: July 31, 2013, 11:46:45 AM »
I am late to the game on this, but I recently learned what "recasting" a loan is - you pay a chunk of money which is applied to the principal, and your payment gets reduced accordingly. It's not a refinancing, and it doesn't shorten your loan term, or cut your interest rate, but it cuts your monthly payment and obviously saves interest over the life of the loan.

I hold a loan with 3 1/2 years left with BofA. The interest rate is high because this is a 15-year loan from the late 90s on a rental property, and no matter what interest rate I can refinance it for, the numbers just haven't worked. However, I could pay any amount over $1000 (I'd likely pay $10K) for a $250 fee, and reduce monthly payments and save on interest.