Author Topic: Microsoft 401K vs student loans  (Read 6643 times)

ReP

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Microsoft 401K vs student loans
« on: March 08, 2016, 10:55:18 AM »
Hello,
I have viewed previous discussions on 401(k) contributions vs paying off student debt but I'm having trouble applying that info to our situation (and this could definitely because we are very new "mustachians" and just new to finance info in general).

Microsoft will match .50/$1 up to the federal limit (so they'll give us $9000 annually). Last year we paid about $5300 in student loan interest (and had a $2500 tax credit as a result). We refinanced student loans at a lower rate recently so that amount will only decrease as a result and as our principal decreased. So it seems in our interest to contribute to the 401(k) to the max while throwing the rest of our excess income at the student loan debt. Income before any pre-tax contributions is ~$130K.

I'm just going to assume, based on my "newness", that there are a lot of missing variables in my logic. Can you all help us spot those variables to further assess the situation?

Thanks!

neo von retorch

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Re: Microsoft 401K vs student loans
« Reply #1 on: March 08, 2016, 11:05:26 AM »
401K gives you instant 50% ROI plus tax breaks. The interest on your student loans seems to still be tax-deductible at your income level, and paying it off gives you an annual return of... whatever the interest rate is minus the tax break, which is to say, a lot less than 50%. So yes, definitely get the maximum match, and only then put extra towards the loans.
« Last Edit: March 09, 2016, 07:11:06 AM by neogodless »

patrat

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Re: Microsoft 401K vs student loans
« Reply #2 on: March 08, 2016, 11:59:47 AM »
What the other poster said. Take the free money. If you find yourself no longer employed with the company, you have the option to rollover the funds to some sort of IRA. You can withdraw from the IRA (with tax and penalty) if needed to pay on those loans, but more likely you won't need to. Most likely you would still come out ahead doing this if you had to, it takes a while for capitalized interest to catch up to 50% ROI (less IRS penalty)

kpd905

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Re: Microsoft 401K vs student loans
« Reply #3 on: March 09, 2016, 01:27:07 AM »
If the interest rate on your student loans is less than 50%, go with the 401k.

Trip

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Re: Microsoft 401K vs student loans
« Reply #4 on: March 09, 2016, 04:59:41 AM »
Agreed with the suggestions so far. I'm going to assume that your student interest rate is less than

50% + ~6.5-7% annual returns on your investments + the tax benefits

and say go ahead and max out the 401K.

ZiziPB

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Re: Microsoft 401K vs student loans
« Reply #5 on: March 09, 2016, 07:03:09 AM »
What is the vesting schedule for the matching contributions?  Are you likely to stay at the company for the full matching contributions to vest?

BTW, you should edit your post and delete the name of the company. 

Samsam

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Re: Microsoft 401K vs student loans
« Reply #6 on: March 09, 2016, 07:29:03 AM »
What is the vesting schedule for the matching contributions?  Are you likely to stay at the company for the full matching contributions to vest?

It vests right away.

Jack

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Re: Microsoft 401K vs student loans
« Reply #7 on: March 09, 2016, 07:54:32 AM »
Mathematically, it's almost always better to max out not only your 401K but also your (usually traditional) IRA before paying down your student loans. The exception might be if you don't have enough cash flow, the loans are at some sort of gigantic interest rate (>8%), or you're debt-averse enough to act sub-optimally.

ZiziPB

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Re: Microsoft 401K vs student loans
« Reply #8 on: March 09, 2016, 08:16:51 AM »
What is the vesting schedule for the matching contributions?  Are you likely to stay at the company for the full matching contributions to vest?

It vests right away.

There is nothing in the OP's post to indicate that.

Samsam

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Re: Microsoft 401K vs student loans
« Reply #9 on: March 09, 2016, 08:22:29 AM »
What is the vesting schedule for the matching contributions?  Are you likely to stay at the company for the full matching contributions to vest?

It vests right away.

There is nothing in the OP's post to indicate that.

Oh I know! I was just answering your question. This person should definitely take full advantage of the 401k and max it out. 

OP also think about the HSA in the future and giving to a trad IRA, then there is all that fun mega backdoor ROTH stuff to think about too.  I'm not sure where your loans should fit in the order of giving to these retirement vehicles and paying off the loan. We would have to know more about your expenses.

Jack

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Re: Microsoft 401K vs student loans
« Reply #10 on: March 09, 2016, 08:23:24 AM »
It doesn't actually matter whether it vests immediately or not: the investment returns by themselves justify prioritizing the 401k over the vast majority of student loans, the tax savings cements it as the optimum strategy, and the company match is just icing on the cake.

Paul der Krake

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Re: Microsoft 401K vs student loans
« Reply #11 on: March 09, 2016, 08:31:10 AM »
Man that is a sweet 401(k) plan! Is it possible to do mega backdoor roth?

*furiously studies data structures and graph algorithms*

Samsam

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Re: Microsoft 401K vs student loans
« Reply #12 on: March 09, 2016, 08:33:42 AM »
Man that is a sweet 401(k) plan! Is it possible to do mega backdoor roth?

*furiously studies data structures and graph algorithms*

yes to the mega backdoor roth.  Although I actually have a question to the group about the limits.  I see people posting things like they have a 53k limit, but is that a regulation or can each 401k plan put a limit on how much you can mega backdoor roth?

Jack

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Re: Microsoft 401K vs student loans
« Reply #13 on: March 09, 2016, 08:41:15 AM »
Man that is a sweet 401(k) plan! Is it possible to do mega backdoor roth?

*furiously studies data structures and graph algorithms*

yes to the mega backdoor roth.  Although I actually have a question to the group about the limits.  I see people posting things like they have a 53k limit, but is that a regulation or can each 401k plan put a limit on how much you can mega backdoor roth?

$53K is the federal regulated maximum. I think 401k plans are free to set their own, lower, limit.

Samsam

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Re: Microsoft 401K vs student loans
« Reply #14 on: March 09, 2016, 08:44:04 AM »
Man that is a sweet 401(k) plan! Is it possible to do mega backdoor roth?

*furiously studies data structures and graph algorithms*

yes to the mega backdoor roth.  Although I actually have a question to the group about the limits.  I see people posting things like they have a 53k limit, but is that a regulation or can each 401k plan put a limit on how much you can mega backdoor roth?

$53K is the federal regulated maximum. I think 401k plans are free to set their own, lower, limit.

gotcha, I guess I am wondering why some companies have a gap then between employee + employer match  < 53k.

Jack

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Re: Microsoft 401K vs student loans
« Reply #15 on: March 09, 2016, 08:59:21 AM »
gotcha, I guess I am wondering why some companies have a gap then between employee + employer match  < 53k.

Because lots of companies are too cheap to pay their employees an extra $35000. (You'll note that's true even of Microsoft, according to the OP: $18K employee contribution + 50% employer match = $27000, and there's no indication that they'd match after-tax contributions.) At my old job, the stingy-ass company was only willing to match something like 50% of the employee contribution up to 6% or $1500, whichever was lower.

Samsam

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Re: Microsoft 401K vs student loans
« Reply #16 on: March 09, 2016, 09:38:31 AM »
gotcha, I guess I am wondering why some companies have a gap then between employee + employer match  < 53k.

Because lots of companies are too cheap to pay their employees an extra $35000. (You'll note that's true even of Microsoft, according to the OP: $18K employee contribution + 50% employer match = $27000, and there's no indication that they'd match after-tax contributions.) At my old job, the stingy-ass company was only willing to match something like 50% of the employee contribution up to 6% or $1500, whichever was lower.

There is no match for after tax contributions but there is a 20k after tax limit.  I think I understand the 47k limit now (18 + 9 + 20 after tax) is under the 53 because the 53k is only if you are over 50 and are doing catchup contributions.

Also, OP I just went back and reread your post and saw your salary number.  I would definitely max out 401k AND give full to the HSA.

ZiziPB

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Re: Microsoft 401K vs student loans
« Reply #17 on: March 09, 2016, 09:44:56 AM »
gotcha, I guess I am wondering why some companies have a gap then between employee + employer match  < 53k.

Because lots of companies are too cheap to pay their employees an extra $35000. (You'll note that's true even of Microsoft, according to the OP: $18K employee contribution + 50% employer match = $27000, and there's no indication that they'd match after-tax contributions.) At my old job, the stingy-ass company was only willing to match something like 50% of the employee contribution up to 6% or $1500, whichever was lower.

There is no match for after tax contributions but there is a 20k after tax limit.  I think I understand the 47k limit now (18 + 9 + 20 after tax) is under the 53 because the 53k is only if you are over 50 and are doing catchup contributions.

Also, OP I just went back and reread your post and saw your salary number.  I would definitely max out 401k AND give full to the HSA.
That is not true. 
Various plans have various limits that may be lower than the fed limits for a variety of reasons.  Even the $18K limit is not guaranteed under some plans because they may have a percentage limit on contributions that would result in lower paid employees not being able to reach the $18K limit (e.g. a lot of plans have a 20% contribution limit - for someone making $50K per year that effectively limits the max contributions to $10K).  Most limits are an attempt by employers to comply with non-discrimination requirements applicable to 401k plans.

Samsam

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Re: Microsoft 401K vs student loans
« Reply #18 on: March 09, 2016, 09:50:27 AM »
gotcha, I guess I am wondering why some companies have a gap then between employee + employer match  < 53k.

Because lots of companies are too cheap to pay their employees an extra $35000. (You'll note that's true even of Microsoft, according to the OP: $18K employee contribution + 50% employer match = $27000, and there's no indication that they'd match after-tax contributions.) At my old job, the stingy-ass company was only willing to match something like 50% of the employee contribution up to 6% or $1500, whichever was lower.

There is no match for after tax contributions but there is a 20k after tax limit.  I think I understand the 47k limit now (18 + 9 + 20 after tax) is under the 53 because the 53k is only if you are over 50 and are doing catchup contributions.

Also, OP I just went back and reread your post and saw your salary number.  I would definitely max out 401k AND give full to the HSA.
That is not true. 
Various plans have various limits that may be lower than the fed limits for a variety of reasons.  Even the $18K limit is not guaranteed under some plans because they may have a percentage limit on contributions that would result in lower paid employees not being able to reach the $18K limit (e.g. a lot of plans have a 20% contribution limit - for someone making $50K per year that effectively limits the max contributions to $10K).  Most limits are an attempt by employers to comply with non-discrimination requirements applicable to 401k plans.

I see so technically they could make it 53k for everyone, also following all the other % requirements.

Paul der Krake

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Re: Microsoft 401K vs student loans
« Reply #19 on: March 09, 2016, 09:58:39 AM »
The non-discrimination safeguards are killing me. I have a plan with mega roth backdoor option but can only put 32k or so per year, instead of the 53k. Ultimate mustachian problem right there.

ZiziPB

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Re: Microsoft 401K vs student loans
« Reply #20 on: March 09, 2016, 10:06:43 AM »
The non-discrimination safeguards are killing me. I have a plan with mega roth backdoor option but can only put 32k or so per year, instead of the 53k. Ultimate mustachian problem right there.
Haha, only $32K ;-)  Think about the poor bastards whose employers use the HCE limits and force them to take a refund of a portion of contributions made during the year because lower paid employees did not contribute enough...

There are ways to safe harbor a plan but it's expensive for employers.  It usually involves the employermaking certain contributions whether or not an employee contributes, and having a pretty generous match. 

My employer utilizes these safe harbor provisions resulting in a very generous 8% matching contribution that applies to both pre-tax and post-tax amounts.  It's a pretty sweet deal.

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Re: Microsoft 401K vs student loans
« Reply #21 on: March 09, 2016, 12:49:21 PM »
Employer safe harbor requirement is either an unconditional 3% (regardless of whether the employee matches or not) or 100% of the first 3%, plus 50% of the next 2% (so, a total of 4% match on 5% contribution). I just set up a 401k plan for my company, we took the 3% match because it's cheaper for us, all of my employees contribute 3% or more. I'm still limited to the average contribution of my employees, though. Yes, sucks.

Quote
I think I understand the 47k limit now (18 + 9 + 20 after tax) is under the 53 because the 53k is only if you are over 50 and are doing catchup contributions.
No. The catchup contributions are another 6k on top of that. Plans may opt to match catchup contributions, but this doesn't seem to be an issue in your case. The federal limit is 53k, which is composed of an employee portion (18k + 6k catchup, if over 50) plus an employer portion (35k). This 35k may be composed of matching contributions, which must vest immediately, or profit sharing contributions, which vest according to a plan schedule which gives the company a bit more flexibility. The maximum total contribution is 53k, or 59k for people over 50.

You've got an effective 6.9% employer match, that's pretty awesome. Agree with the other posters that you must take all the money off the table first, shouldn't even be a question in your mind. You should also take advantage of any employee stock purchase plans that are available, and immediately cash them out every month (and re-invest it in a diversified fund).

Samsam

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Re: Microsoft 401K vs student loans
« Reply #22 on: March 09, 2016, 12:56:42 PM »

Quote
I think I understand the 47k limit now (18 + 9 + 20 after tax) is under the 53 because the 53k is only if you are over 50 and are doing catchup contributions.
No. The catchup contributions are another 6k on top of that. Plans may opt to match catchup contributions, but this doesn't seem to be an issue in your case. The federal limit is 53k, which is composed of an employee portion (18k + 6k catchup, if over 50) plus an employer portion (35k). This 35k may be composed of matching contributions, which must vest immediately, or profit sharing contributions, which vest according to a plan schedule which gives the company a bit more flexibility. The maximum total contribution is 53k, or 59k for people over 50.

You've got an effective 6.9% employer match, that's pretty awesome. Agree with the other posters that you must take all the money off the table first, shouldn't even be a question in your mind. You should also take advantage of any employee stock purchase plans that are available, and immediately cash them out every month (and re-invest it in a diversified fund).

I see, reading my documents I was confused because it says the limit is 47k for under 50 and 53k for 50 and over, but didn't realize it could actually go even higher (learning the difference between employer caps and federal caps).  I thought they were just doing some easy book keeping but yes it does look like they are 6k under the federal limit.

The only thing I'm not as familiar on is the ESPP.  I have a feeling that yes I should be buying and selling as soon as it vests but if I had to choose between doing that and mega backdoor roth which is better? Or in the OP's case how would everyone rank 401k, HSA, Traditional IRA, Mega Backdoor ROTH, ESPP, loans (and their %)?

Paul der Krake

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Re: Microsoft 401K vs student loans
« Reply #23 on: March 09, 2016, 01:51:58 PM »
The only thing I'm not as familiar on is the ESPP.  I have a feeling that yes I should be buying and selling as soon as it vests but if I had to choose between doing that and mega backdoor roth which is better? Or in the OP's case how would everyone rank 401k, HSA, Traditional IRA, Mega Backdoor ROTH, ESPP, loans (and their %)?
Hard to say, because the ability to do a mega backdoor roth, while extremely valuable, is next to impossible to put a dollar figure to.

There is definitely value in contributing 7 times the usual Roth amount per year. From a FIRE perspective, it diminishes the need to do a Roth conversion ladder or 72(t) later on, offers better protection than taxable accounts, to say nothing of the standard Roth advantages like tax-free growth. In my humble opinion, it is better than the 15% pre-tax return of the ESPP.

But yeah, ideally do all of them before the student loans.

ReP

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Re: Microsoft 401K vs student loans
« Reply #24 on: March 09, 2016, 08:37:40 PM »
Thanks for the responses, all. Good to get an overwhelming response confirming what we suspected was the right decision for the 401k.

Regarding the backdoor Roth/after-tax additional contributions and all that jazz, we are still in the very beginnings of understanding any of that. So most of this discussion is going right over our heads until we do more research!

ReP

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Re: Microsoft 401K vs student loans
« Reply #25 on: March 09, 2016, 08:40:22 PM »

Quote
I think I understand the 47k limit now (18 + 9 + 20 after tax) is under the 53 because the 53k is only if you are over 50 and are doing catchup contributions.
No. The catchup contributions are another 6k on top of that. Plans may opt to match catchup contributions, but this doesn't seem to be an issue in your case. The federal limit is 53k, which is composed of an employee portion (18k + 6k catchup, if over 50) plus an employer portion (35k). This 35k may be composed of matching contributions, which must vest immediately, or profit sharing contributions, which vest according to a plan schedule which gives the company a bit more flexibility. The maximum total contribution is 53k, or 59k for people over 50.

You've got an effective 6.9% employer match, that's pretty awesome. Agree with the other posters that you must take all the money off the table first, shouldn't even be a question in your mind. You should also take advantage of any employee stock purchase plans that are available, and immediately cash them out every month (and re-invest it in a diversified fund).

I see, reading my documents I was confused because it says the limit is 47k for under 50 and 53k for 50 and over, but didn't realize it could actually go even higher (learning the difference between employer caps and federal caps).  I thought they were just doing some easy book keeping but yes it does look like they are 6k under the federal limit.

The only thing I'm not as familiar on is the ESPP.  I have a feeling that yes I should be buying and selling as soon as it vests but if I had to choose between doing that and mega backdoor roth which is better? Or in the OP's case how would everyone rank 401k, HSA, Traditional IRA, Mega Backdoor ROTH, ESPP, loans (and their %)?

We're confused on the ESPP too - but since we're still working on getting expenses down we may not have much left over after the 401k, HSA and student loans.

Axecleaver

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Re: Microsoft 401K vs student loans
« Reply #26 on: March 10, 2016, 11:14:43 AM »
Well, the ESPP is free money, so you should be doing it with your paycheck. The key is selling your purchases immediately.

Let's say that your plan gives you a 15% discount (they vary). Let's also assume negligible movement in the stock price between when you get it and when you sell it - you're exposed to some risk that the price goes down, but generally, stocks trend upward over time.

You get paid on Friday, buy $1000 in stock for $850, then sell it on Monday and get your check deposited to your account. You just got a 17.6% return on your money in a week. Transfer that into your checking account and spend it on your living expenses.

Where people get in trouble, is buying the company stock and holding on to it through a misguided sense of loyalty (actually, this is what ESPP's are designed to encourage). Then they end up dumping half of their retirement savings into one company's stock, the company goes out of business, and they're left with nothing for 30 years of service. So, don't hold it more than a quarter and you avoid most of the risk.

katstache92

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Re: Microsoft 401K vs student loans
« Reply #27 on: March 10, 2016, 11:46:20 AM »
Like Axe mentioned, ESPPs vary on the discount.  My company has an ESPP but no discount.  So I do not participate.

Brilliantine

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Re: Microsoft 401K vs student loans
« Reply #28 on: March 10, 2016, 12:07:27 PM »
OP, why are you referring to yourself as "we"? Is that the royal we? :) Are you the spouse/legal partner of a Microsoft employee? Until I saw the annual salary, I was ready to yell "two people on MS salaries can't deduct the student loan interest!!!" :)

The MSFT ESPP discount is 10%, and they don't do the whole dance about the fair market price at thebeginning of the offering period vs the end, etc.

My minor rant about the softie ESPP is that I still haven't found a way to do a "quick-sell". By the time I can put in a sell order, the share price goes down, eating into the 10% discount. Annualized, it is still a pretty decent chunk of change but, you know.. Rants are not supposed to be all rational all the time. :)

Brilliantine

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Re: Microsoft 401K vs student loans
« Reply #29 on: March 10, 2016, 12:14:02 PM »
Oh, and, OP. Do take the ESPP. If you do it throughout the year, it is 1.5% additional income. No joke.

If you have to, defer some payments to the end of the ESPP period, but definitely take that free money.