Pay towards 401k or student loans? Any advice appreciated.

[katmartian]

Hi everyone,
I have recently started reading mrmoneymustache.com and I am trying to start a money mustache for myself. My question is do I keep my 401k at 15% as it is or do I reduce my 401k contribution to 5% to keep my employer match and throw everything I have at student loans? I am 26 years old and I have never saved any money before this year. I am in an assistant manager position and I really like my job- I make about $16/hour which comes out to ~$2000/month before taxes. My student loans are $11900, ($5000 at 4.3%, $5000 at 5% and $1900 at 6.8%.)

What I've been doing since I started reading about money mustaches is putting $260 towards my student loans ($160 towards the higher interest one first) and my 401k is at 15%, $400/month. If I keep this up my net worth will be $0 in one year. It will take me 4 years to pay my student loans off this way, whereas I could really start chopping away at it if I contributed less to my 401k. Also, I am in a pretty low tax bracket right now so I was thinking it might make more sense to do an IRA if I decide to contribute more to my retirement while I'm paying these loans off. Also I have chosen low fee funds for my 401k- .17 and lower.

I also have a line of credit that is 0% apr until november- I've been paying that too. Maybe I should pay that first. Anyway I'm $700 in the hole on that one.

I do not own a car, I bike to work some days but not always. I take the train which is $4 per day round trip. Unless I have groceries I ride my bike home, which makes my commute $2/day. My rent and utilities are $550/month.

I am also looking into graduate school (if I can get a scholarship) and I've also been doing team tree house.com to get more skills and up my income.

Anyway, I don't know if I included enough information. But any advice is appreciated.

[solon]

I think temporarily reducing 401k contributions is an excellent strategy! Keep contributing enough to get the maximum employer match, because that's an amazing return, but your next highest returns will come from knocking down those student loans. After the debt is gone, you'll quickly catch up in the 401k.

[Wanderlusting]

Does your 0% line of credit have any penalties for failing to pay off by November, like back interest or an absurd interest rate? If either is the case i'd try to knock that out quick then reduce your student loans. I'd say that student loans should take a priority over 401k savings except for matching, don't want to throw away free money. I'm in the same boat as you are with paying off student loans and trying to save for retirement at a similar age, but student loans are a guaranteed return, so they usually make more sense to pay off.

[marblejane]

Hi Katmartian,

First, before getting into whether you should pay down your student loans or invest in your 401(k), make sure that $700 line of credit gets paid off. This is the top priority.

I am a little confused by your numbers. You say that you make about $2,000/mo or $24,000/yr gross, but you contribute 15% of your pay to your 401(k), which is also $400/mo? 15% of $2,000 is $300/mo. Otherwise, if we assume that $400 is 15% of your salary, then you make $2,666/mo or $32,000/year. I'm asking because I think it makes a difference in your situation.

I would weigh the interest savings benefit of paying off the student loans earlier against the tax benefits of your 401(k) contribution and the student loan interest deduction. You will pay more in taxes if you reduce your 401(k) contributions to pay off your student loans. The question is whether that increased tax burden is worth the interest savings and/or the peace of mind of not having loans. You'd need to run the different scenarios to answer this.

[curiousnomad]

I'm in a similar situation.

My loans range from 2-8%. My 401k is getting 6%, but avoiding 25% in taxes! I feel like I *should* be paying off the loans faster, but it seems like the tax advantage outweighs the debt by a lot. Am I looking at something the wrong way?

[frugaliknowit]

Skip the unmatched 401K until your SL's are paid off.  This is a better use of capital with a guaranteed 4% rate of return (in the form of interest savings) and tax certainty.  When you have the SL's paid off and want to resume more retirement savings, I would opt for a Roth IRA before the unmatched 401K due to its tax certainty and because you are not in a high tax bracket.

[ampersand]

It probably depends a lot on your personal preference. I'd be inclined to knock out all the debt first after meeting the employer matching. Definitely until the high interest loan is paid off. You might reevaluate then. Does your employer match contributions to a Roth 401k?


Sent from my iPad using Tapatalk