Author Topic: minimum savings before paying off loans?  (Read 2671 times)

gfxprotege

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minimum savings before paying off loans?
« on: August 06, 2015, 08:21:20 AM »
Hi there,

I've seen a few different approaches to emergency funds: 3-6 months of expenses or the equivalent of 3-6 months take home pay. I currently have one months worth of expenses in a savings account, as well as another month's salary sitting in index funds. What is a good base "emergency" savings amount to have locked away before I go 100% into paying off my car (and then student) loans?  I currently have about 1500/mo I will be able to save/put towards loans.

Edit: I should note that I've been making minimum payments on both loans. They are also the only debts I owe.

Thanks,
GFX

KCM5

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Re: minimum savings before paying off loans?
« Reply #1 on: August 06, 2015, 08:53:30 AM »
What are the rates on your debts? It might make more sense to pay the off with minimums and invest what you would be paying towards the loans (either in a workplace retirement plan, IRA, or taxable account).

Regarding the emergency fund, that's really personal. I have a Roth IRA that I funded a few years ago that I use as an emergency fund. It has $10k of contributions in it that I could take out if I ever really need it. It's invested in index funds. I've never needed it. But if you do think you would like to have a more accessible emergency fund, I would use expenses rather than take home pay to calculate it.

forummm

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Re: minimum savings before paying off loans?
« Reply #2 on: August 06, 2015, 09:05:31 AM »
For high interest debts I put every penny I could towards them (not even having an emergency fund in cash). For low interest debts I make the minimum payments even though I could easily pay them off right now. I also consider whether I'm taking full advantage of my tax-advantaged savings.

gfxprotege

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Re: minimum savings before paying off loans?
« Reply #3 on: August 06, 2015, 11:41:37 AM »
Thanks for the input. Right now  the car and student loans are at 4 and 5%, respectively. Are those rates low enough to build up that 10k index fund (I'm using betterment) first while making minimum payments? I'm sitting on roughly 50k in debt total (most of it is coming from the student loan).

Is this a terrible idea: with 1500 available to use each month, put an additional 500 towards car (its the smallest loan), 500 into the index fund, and 500 into a savings account?

Thanks,
Jordan

forummm

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Re: minimum savings before paying off loans?
« Reply #4 on: August 06, 2015, 01:37:32 PM »
Thanks for the input. Right now  the car and student loans are at 4 and 5%, respectively. Are those rates low enough to build up that 10k index fund (I'm using betterment) first while making minimum payments? I'm sitting on roughly 50k in debt total (most of it is coming from the student loan).

Is this a terrible idea: with 1500 available to use each month, put an additional 500 towards car (its the smallest loan), 500 into the index fund, and 500 into a savings account?

Thanks,
Jordan

Are you maxing your 401k and IRA? The 5% loan is high enough that I would probably pay it off early. The 4% is borderline.

If you do pay off a loan early, I would usually pay off the higher rate loan before the lower rate loan, regardless of balance. The only reason why I wouldn't is if I needed to get my DTI ratio down to qualify for another loan.

gfxprotege

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Re: minimum savings before paying off loans?
« Reply #5 on: August 06, 2015, 02:41:19 PM »
I'm currently in a contract-to-hire position. Considering the department's history of contract positions (11 of 12 contractors were brought on full time, the other had personal issues), I'm confident in being brought on full time. That will come with a matching 401k, which I plan to make max contributions. Right now, I'm contributing $200/mo to a betterment account. Its not much, but I also only just started it and wanted to get a feel for it before expanding.

I just finished paying off over $5k in medical bills, which felt like a great win for me. Now its just the final car and student loans, which still feel burdensome. I understand your reasoning behind paying off the student loans first (higher principle + higher interest rate = money sink) but I can pay off the car loan easily within a year, and I could really use another win, you know? Plus that would free up an additional 400/mo (which is what i'm paying now, which is well above the minimum payment) to go towards the student loans. I suppose I should sit down with some financial calculators and figure out the difference in total cost based on the order in which I pay them off.

But as far as my original post goes, I thank you all for the help. I think I'll make a small compromise: slightly increase my contributions to my emergency fund and investments, and dump the rest into the car/student loans (still need to figure out which is more cost effective in the long run). 

K-ice

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Re: minimum savings before paying off loans?
« Reply #6 on: August 06, 2015, 02:50:34 PM »
I like this debt reduction calculator file:

http://www.vertex42.com/Calculators/debt-reduction-calculator.html

It will let you chose to Snowball (lowest Balance first)  vs. avalanche (highest interest first).

I believe the avalanche method always saves you the most money but getting the snowball "win" is psychologically rewarding.

Or you can set up something in between so that the car is paid off within 1 year exactly.


   
« Last Edit: August 06, 2015, 02:52:43 PM by K-ice »

gfxprotege

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Re: minimum savings before paying off loans?
« Reply #7 on: August 06, 2015, 03:30:03 PM »
I like this debt reduction calculator file:

http://www.vertex42.com/Calculators/debt-reduction-calculator.html

It will let you chose to Snowball (lowest Balance first)  vs. avalanche (highest interest first).

I believe the avalanche method always saves you the most money but getting the snowball "win" is psychologically rewarding.

Or you can set up something in between so that the car is paid off within 1 year exactly.


 

You sir, are a rock star! I'll save about $500 in interest by paying off the student loans first.

However, I should take into account auto trade-in deprecation rates. If I pay off the car first, it will only take me 9 months. If I focus on the student loans first, it will take me 28 months. Will the car value decrease by more than $500 in the extra 19 months? Probably. Factor in cost of any additional repairs over that time and paying the car off ASAP seems to be the way to go.

Philociraptor

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Re: minimum savings before paying off loans?
« Reply #8 on: August 06, 2015, 03:49:59 PM »
I like this debt reduction calculator file:

http://www.vertex42.com/Calculators/debt-reduction-calculator.html

It will let you chose to Snowball (lowest Balance first)  vs. avalanche (highest interest first).

I believe the avalanche method always saves you the most money but getting the snowball "win" is psychologically rewarding.

Or you can set up something in between so that the car is paid off within 1 year exactly.


 

You sir, are a rock star! I'll save about $500 in interest by paying off the student loans first.

However, I should take into account auto trade-in deprecation rates. If I pay off the car first, it will only take me 9 months. If I focus on the student loans first, it will take me 28 months. Will the car value decrease by more than $500 in the extra 19 months? Probably. Factor in cost of any additional repairs over that time and paying the car off ASAP seems to be the way to go.

Are you in the US? Don't forget that student loan interest is a top line deduction, so reduce that interest rate by your marginal tax rate (i.e. if your marginal tax rate is 25%, subtract 25% of your interest rate; 5% * (1-25%) = 3.75% effective interest rate). This makes paying off the car actually more effective.