Pay off school loans, save, or invest?

[El Gringo]

Hey Mustachians,

I'm looking for some advice on what to put extra money towards. The goals I am balancing are saving for retirement, paying off school loans, and saving money for 1) grad school, and later 2) a house. Here's my financial situation:

-I'm 26 years old and I make a little over $43k per year, gross pay.
-I have roughly $12.6k left in school debt, split between three loans: A consolidated loan with roughly $670 left to pay at 4.75%, a Stafford loan with approximately $5600 at 6.55%, and a Stafford loan with roughly $6400 at 6.8%. I've been paying my minimum monthly payments to ensure that I was building up an emergency fund and investing in my retirement.
-I am contributing 6% of my salary to my 401k to get my employer's 1:1 match of up to 6%. I've been doing that since I started my job 2.5 years ago.
-I am currently putting $200 a month into my Roth IRA, but my goal is to increase the payments in order to max out at $5,500 by the end of the year (I'll be going abroad for work for some time later this year and will both make more money and spend less while I am abroad). Last year I opened the IRA and was able to max it out at $5k. All in all, I have about $20k saved for retirement so far.
-I have $13k saved for emergencies. This is roughly 6 months of expenses. I could probably go lower, but I have more piece knowing I've got this much stashed away.

I plan to go back to grad school in the next 2-3 years (I may start taking a class or two next year, hopefully paid for by employer, but not necessarily). Ideally, I'd like to do all of grad school while working (if I can get tuition reimbursement, great! But if not, at least I still am making money and not living off of debt). But depending on where I go and what I study, I may not be able to do that.

So I'm wondering what I should do with any extra money I have left over at the end of every month.  Should I put extra money towards the school loan with 6.8% interest? Should I save money for grad school (unfortunately it'll probably be too short of a time to safely invest in the stock market)? Or should I increase my 401k contribution (assuming that I already max out my IRA)?

Thanks for your input!

[Khan]

Do as you're doing for the 1:1 match, as that is "free money".

Then, dump the rest towards the 6.8% debt. Getting a return above 6% is never guaranteed, and if required, you can take out student loans again in the future. What do you mean 12k is 6 months of expenses? I'm living comfortably at about 1600$ a month or so and I make ~20k more then you. This isn't to say their is an inherent 'wrongness' to how you live, but examine your fundamentals, and see if there are efficiencies that could be found in your day to day existence.

I wouldn't save towards grad school, as like you said, 2-3 years isn't a very good time frame for the stock market, and it's good you recognize that. Take the 6% return on investment to the bank and be happy. Again, you can get loans in the future to cover the spread if you need to.

[Catbert]

Yep, after getting the match in your 401k I'd hit those student loans.  I'd even forgo the Roth until they're paid off (you have until April 2014 to fund for this year.)

Once you get student loans down to 6k or so I'd strongly consider using your emergency fund to pay-off or look for 0%  balance transfer cc offers.   

[Khan]

I also agree about the cutting off the Roth, though I didn't think about the April contribution limit so I declined to post on that point. As long as you understand the reasoning behind a decision, and follow through, nothing is sacred(except the 1:1 match). I talked a buddy at work out of doing 401k contributions while he gets his affairs in order, and I know for a fact he is following through on that, but saving for retirement, especially at shitty 5% contributions(and with no match) just didn't make sense at this time, and the same goes for you above and beyond the match or in other areas.

If you're willing when you get down towards 6k in debts, I'd also see if you're willing to kill the rest of the liabilities. 12k is a lot to float. Speaking of 12k, is that just in a savings account, or what? I float about 3k month to month, understanding that if bad things happen, I may have to cash out investments at unfavorable rates, but happily taking that chance because savings accounts are so terrible right now.

[El Gringo]

Thanks guys.

Yea all of my savings is in a combination of checking and savings accounts. I know I could better use some of that savings, but it certainly gives me much more peace of mind to have it. If I lowered it, I would feel most comfortable using it to pay off school loans.

In regards to my monthly expenses, I was being liberal in my spending assumptions (or conservative in my calculations for what I need in an emergency fund). I actually 1) am spending less than that per month, and 2) definitely have non-necessities that I could cut out further if I needed to live a more Spartan lifestyle. This is a breakdown of average monthly costs:

-$715 rent (I live in Washington DC and share a house with two other roommates)
-$340 school loans
-$280 groceries (I prepare all my meals except for maybe eating out two to three times a month and/or buying prepared food out of convenience 1-2 times per month. Probably not all those maximums in the same month though)
-$100 utilities
-$70 cell phone
-$70 bike maintenance and parts (this is costs over the past year divided by 12. I recently found a place that has volunteers that work on your bike for free and they teach you what they are doing, so I'm hoping to reduce this price and no longer pay for bike repair labor)
-$70 alcohol (includes combination of going out for drinks and buying six packs for contributions to parties/group dinners)
-$55-60 eating out
-$50 car insurance (see my recent post about input on selling my car/using RelayRides)
-$25 car registration fees (annual fees divided by 12)
-$20 rental insurance
-$10-20 concerts
-$10 gas

And of course every month there are different miscellaneous expenses that happen, but the above captures nearly all of my spending
 

[Khan]

First off, well only thing I should say, is your cell phone. I switched to Virgin Mobile and I highly suggest you look around and find another solution for your cell phone needs. I pay 30$ a month for 2.5 Gb of data, unlimited messages, and I think 250 minutes. Looking further you could go to a Boost or some other plan, but seriously, look around for that and change up your contract.

70$ a month bike maintenance? That's... what? How? Roll up your sleeves and go learn something, that sounds ridiculous.

definitely have non-necessities that I could cut out further if I needed to live a more Spartan lifestyle.

You don't -need- to live a lifestyle in any way, you just need to figure out what lifestyle is right for you, as long as you understand the costs of consumerism and the idea of finding efficiencies in your life. If going to concerts is your thing, and you'd be happier spending 100$ a month on that, do it, understanding what opportunity costs that brings down the line. It's all about conscious spending, being 'present' for the act of giving part of your life energies(money, Your Money or Your Life) in exchange for goods and services.

[El Gringo]

70$ a month bike maintenance? That's... what? How? Roll up your sleeves and go learn something, that sounds ridiculous.

Haha. You're right that is ridiculous. A few things: I misspoke: that 70$/month is the average over the past 6 months, when I recently had large overhaul of parts, as much of my bike was worn old. The average over 12 months is $40 a month. Out of $492 spent on my bike, maintenance was only $128. $364 was for parts and gear, and that included an expensive helmet and better LCD lights for riding at night. I have ZERO mechanical skills but have always wanted to learn how work on my bike (and other DIY skills) so that I can save money. A few weeks ago I was having problems with my brakes sticking and I took it to the free bike clinic. We worked on the problem together, replaced the back brake cable, and then I did the front by myself. So I am learning!

First off, well only thing I should say, is your cell phone. I switched to Virgin Mobile and I highly suggest you look around and find another solution for your cell phone needs. I pay 30$ a month for 2.5 Gb of data, unlimited messages, and I think 250 minutes. Looking further you could go to a Boost or some other plan, but seriously, look around for that and change up your contract.

This is good to know. I'm on a family plan with the rest of my family and a while ago Verizon switched the way they charge data and minutes and it became more expensive. I've been frustrated with the amount I am paying and I've wanted to try and find a cheaper plan.

You don't -need- to live a lifestyle in any way, you just need to figure out what lifestyle is right for you, as long as you understand the costs of consumerism and the idea of finding efficiencies in your life. If going to concerts is your thing, and you'd be happier spending 100$ a month on that, do it, understanding what opportunity costs that brings down the line. It's all about conscious spending, being 'present' for the act of giving part of your life energies(money, Your Money or Your Life) in exchange for goods and services.

You're exactly right. I've cut down on things that aren't as important to me but have kept the things that do bring me joy. By non-necessities, I basically meant, if something happened like I lost my job, I could cut things like my concerts or beer out to minimize spending, unlike rent, utilities, and groceries (which I try to minimize as much as possible already).

Thanks so much for your advice on where to allocate my money, as well as critiquing my budget!

[El Gringo]

One more related question I thought about. I think I definitely will direct my extra money towards paying off school loans, but in the interest of becoming more educated: Hypothetically if I started decided to put my money towards saving for grad school with the 2-3 year time frame in mind, would it make sense or be foolish to invest in a bond fund? I don't really have a deep understanding of how bond funds work. It seems nice because it's much more liquid than individual bonds, and I could invest in it for a shorter time period, but still reap the benefits of a portfolio that includes higher-earning longer-term bonds, right? Is there significant risk involved? I know interest rates are so low that they can basically only go up, which would devalue bonds...but the bond fund would also be buying newer bonds when that happens, right?  Any light on this matter would be hugely educational to me.

Thanks!

[Khan]

So, at the moment bonds have extremely low rates, and investors go to bonds because they are one of the safest investment forms because in the event of, say, a bankruptcy of a corporation, bondholders get their payouts first.

But at the moment, the yield is so low, that I wouldn't touch bonds. For a timeframe like that, government bonds are yielding less then inflation, and to climb the yield tree you have to move to riskier and riskier investments. Aren't government subsidized school loans interest free while you're in school? If so, then I'd invest money after paying off the debts, and when you're getting closer to coming back to school, see if there's an exit point from the market, and if not, leave it in there and take out loans.

That said, I'm a more risk-oriented person. I believe the non-invested money is dead money. I'm also a huge fan of good dividend companies and REITs. There are some bond funds that suit your needs but I'm not familiar with them.