Author Topic: Payoff massive student loans or invest?  (Read 4325 times)

metaphysik

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Payoff massive student loans or invest?
« on: June 12, 2015, 02:09:39 PM »
Hi all,

My wife and I just had our first child and she is staying home to take care of him at least for the first year, possibly more. She has a very large student loan balance from both undergrad and grad school, about $110K in total, all federal. The blended rate is about 6.5% and is not tax deductible at my income level (this also makes her inelgible for IBR). She was working part-time and making just enough to clear the monthly payments (about $1250). I'm taking responsibility for paying the loans while she's home with our child.

This year I've been in super saving overdrive. I've been maxing both our Roth IRAs and my 401k and 'staching about $3k per month in taxable as well. Our savings rate has been about 65%! I want to keep up with this because it's been incredibly motivating watching these balances grow.

We own our home and have an unused HELOC in my name with available credit of $106K at a rate of 4.25% and would be tax deductible and so effectively 3% (25% federal, 10% state/city). I have been thinking of rolling the student loan balance onto the HELOC. However, this would pretty much require us to pay off the balance in about three years because we are planning on moving to a forever home in a better school district and would be using the home sale proceeds as down payment on the more expensive houses in the town we are targeting. By my calculations we should be able to pay off this balance in three and a half years by suspending taxable investment contributions, so it is feasible given our plans, at the expense of FI date.

So here's my question: Do we refinance student loan into the HELOC and pay if off as fast as possible or keep investing and pay the minimums?

Pros:
  • Much lower interest rate, 3% vs 6.5%
  • Gives us a concrete three year plan to kill this debt
  • Guaranteed rate of return
  • Psychological benefit of being debt-free sooner
Cons:
  • Lose federal student loan protections
  • I assume legal responsibility for the debt
  • Delays FI date

Right now I am leaning towards leaving the loans where they are but the interest rate is obnoxiously high and the sheer size of it makes me uncomfortable. Mathematically I know that refinancing is the smart move, but there are so many question marks around it. I would appreciate any advice, thanks!

ShoulderThingThatGoesUp

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Re: Payoff massive student loans or invest?
« Reply #1 on: June 12, 2015, 02:22:47 PM »
How will suspending taxable investments in favor of getting a guaranteed 6.5% return move your FI date?

MDM

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Re: Payoff massive student loans or invest?
« Reply #2 on: June 12, 2015, 02:23:17 PM »
So here's my question: Do we refinance student loan into the HELOC and pay if off as fast as possible or keep investing and pay the minimums?

Pros:
  • Much lower interest rate, 3% vs 6.5%
  • Gives us a concrete three year plan to kill this debt
  • Guaranteed rate of return
  • Psychological benefit of being debt-free sooner
Cons:
  • Lose federal student loan protections
  • I assume legal responsibility for the debt
  • Delays FI date

Right now I am leaning towards leaving the loans where they are but the interest rate is obnoxiously high and the sheer size of it makes me uncomfortable. Mathematically I know that refinancing is the smart move, but there are so many question marks around it. I would appreciate any advice, thanks!

metaphysik, welcome to the forum.

Your pros all look good, and the cons seem weak at best.  E.g.,
  - how likely is it that you will need federal protection?  Unlikely?  Very unlikely?  ...?
  - if you are concerned about legal responsibility for "her" debt then you have larger marriage issues you need to address.
  - does it really delay the FI date?  Answer depends on the investment return you are assuming for your taxable investments.  You could assume more than 6.5%, but not much more (at least not realistically).  For small percentage differences it shouldn't affect time to FI very much.  What do your calculations say?

thingamabobs

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Re: Payoff massive student loans or invest?
« Reply #3 on: June 12, 2015, 02:28:07 PM »
how about just refinancing the loans to a lower rate? SoFi? DRB? CommonBond? That way her payments will go a lot farther in regards to knocking down the principal.

metaphysik

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Re: Payoff massive student loans or invest?
« Reply #4 on: June 12, 2015, 02:36:12 PM »
How will suspending taxable investments in favor of getting a guaranteed 6.5% return move your FI date?

I estimate that my taxable investments will grow at higher than 6.5%, closer to 8%. And delaying taxable investments will make it harder to FIRE before 59.5 since we're only 30 and will need to grow the taxable 'stache substantially to get through the first five years of a Roth conversion ladder.

metaphysik

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Re: Payoff massive student loans or invest?
« Reply #5 on: June 12, 2015, 02:40:56 PM »
metaphysik, welcome to the forum.

Your pros all look good, and the cons seem weak at best.  E.g.,
  - how likely is it that you will need federal protection?  Unlikely?  Very unlikely?  ...?
  - if you are concerned about legal responsibility for "her" debt then you have larger marriage issues you need to address.
  - does it really delay the FI date?  Answer depends on the investment return you are assuming for your taxable investments.  You could assume more than 6.5%, but not much more (at least not realistically).  For small percentage differences it shouldn't affect time to FI very much.  What do your calculations say?

Thanks for the welcome! I have gained so much from reading this forum.

I agree the likelihood of needing federal protection is very unlikely. Taking on the debt does give me some pause because it means I am on the hook for something I was not before. Anything could happen: death, disability, divorce. You never know what the future could hold, no matter how unlikely.

As far as FI date, it doesn't seem to make too much difference either way but I'm not sure I understand why. Some guidance with how to model this would be appreciated!

metaphysik

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Re: Payoff massive student loans or invest?
« Reply #6 on: June 12, 2015, 02:43:11 PM »
how about just refinancing the loans to a lower rate? SoFi? DRB? CommonBond? That way her payments will go a lot farther in regards to knocking down the principal.

I've looked into it, because I thought that a private student loan refinance would be the best option: a low rate and no need to payoff quickly. I looked at all of the lenders you listed but it seems they all require the debtor to have earned income or a job offer, which my wife does not have. I would be happy to co-sign, but I don't want to apply to all of them just to be turned down.

little_brown_dog

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Re: Payoff massive student loans or invest?
« Reply #7 on: June 12, 2015, 03:26:33 PM »
not sure if it will work since your wife currently doesn't have any income, but SOFI allowed us to use our combined total household income and list my husband as my co-signer on our application. they wouldn't accept me any other way as my income was too low, but were happy to consider us once they realized that my husband makes much more that i do. this will probably only work if your credit is great though (800+) and your debt to household income ratio is reasonable...

also, sofi allows you to get pre-approval without a full credit pull. you just create an account, including your household income and the total debt you want to finance and they will immediately tell you if you should apply or not.

metaphysik

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Re: Payoff massive student loans or invest?
« Reply #8 on: June 12, 2015, 05:48:36 PM »
Thanks, I'll check out Sofi and some of the other lenders!

MDM

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Re: Payoff massive student loans or invest?
« Reply #9 on: June 12, 2015, 06:34:08 PM »
As far as FI date, it doesn't seem to make too much difference either way but I'm not sure I understand why. Some guidance with how to model this would be appreciated!

Here's a quick equation - put your numbers into Excel and see what you get.  For loans with interest rates identical to your assumed investment returns, subtract the remaining principal due from your current retirement fund balance and use the difference as "A".  Add the annual loan payments to your annual retirement contributions and use the sum as "S".

For loans with interest rates different from your assumed investment returns...ignore the differences and do the same as above* and accept that the error is likely to be less than the error in all the other numbers chosen for the calculation. ;)

Time in years to FI = Ln((S + i*E/WR) / (S + i*A)) / Ln(1 + i)

A = Amount currently invested in funds you will draw upon in retirement, $
E = Total (including taxes) annual expenses in retirement (today's dollars)
i =  Real return on invested retirement funds, e.g., 3% (conservative - we hope...)
S = Annual amount invested in funds you will draw upon in retirement, $/yr
WR = Withdrawal Rate planned for retirement, using Trinity Study definitions (e.g., 4%)

See http://forum.mrmoneymustache.com/welcome-to-the-forum/early-50s-what-should-be-my-target/ for more discussion.

Also see http://forum.mrmoneymustache.com/welcome-to-the-forum/how-did-you-figure-your-fire-date/msg642786/#msg642786.


*If you want to ignore Occam's Razor, see http://forum.mrmoneymustache.com/ask-a-mustachian/fire-in-8-years/msg620471/#msg620471 for the equation derivation.  You could use different A and S terms, each with a different return, etc., etc., .....

ClaycordJCA

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Re: Payoff massive student loans or invest?
« Reply #10 on: June 13, 2015, 12:35:10 AM »
Check with an accountant re tax deductability of a HELOC. My recollection is that deductibility may be limited to $100K if loan not used for house improvement, etc. 

surfhb

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Re: Payoff massive student loans or invest?
« Reply #11 on: June 13, 2015, 09:18:04 AM »
Run the numbers all you want.   You're in a shitload of bad debt!!!

See if you can refi, but pay it off ASAP
« Last Edit: June 13, 2015, 09:20:19 AM by surfhb »

forummm

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Re: Payoff massive student loans or invest?
« Reply #12 on: June 13, 2015, 09:51:16 AM »
How will suspending taxable investments in favor of getting a guaranteed 6.5% return move your FI date?

I estimate that my taxable investments will grow at higher than 6.5%, closer to 8%. And delaying taxable investments will make it harder to FIRE before 59.5 since we're only 30 and will need to grow the taxable 'stache substantially to get through the first five years of a Roth conversion ladder.

Over the medium run (5-10 years), your taxable investments are unlikely to yield 8%. Asset prices are too high. And then you'll have to pay tax on at least some of the returns you do get. Whereas loan interest is usually deductible. And you have way too much debt to be worried about the first 5 years of retirement. You can also withdraw any Roth contributions (not rollovers, not earnings) without penalty at any time, so that can help you with the first 5 years.

metaphysik

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Re: Payoff massive student loans or invest?
« Reply #13 on: June 13, 2015, 04:24:51 PM »
Thanks for the comments and support. Our hair is on fire and I've been in denial about it. We're going to refi and kill this debt!

Paul der Krake

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Re: Payoff massive student loans or invest?
« Reply #14 on: June 13, 2015, 04:49:39 PM »
In 3 years, your newborn will still be 2-3 years away from kindergarten. Unless you feel very strongly about where a 3 year old goes to pre-school, you could delay the purchase of your forever home by a few years, giving you more flexibility.