Author Topic: Take (personal) loan(s) or withdraw from Roth IRA?  (Read 20796 times)

tylerlekang

  • 5 O'Clock Shadow
  • *
  • Posts: 49
Re: Take (personal) loan(s) or withdraw from Roth IRA?
« Reply #50 on: July 17, 2014, 11:36:19 AM »

Take 40k loan @ 7%, pay back in 5 years:
Earnings: $50k Roth @ 8% annual earnings for 5 years (no new contributions) = 50 * 1.08^5 = $73k

Total interest paid: I'll use a mortgage calculator, $40k loan, 7% interest rate. Total Interest paid is $7.5k

http://www.mortgagecalculator.org/

Net change = earnings - cost = 23k - 7.5k = 15.5k ish
Costs: $40k loan

Ending Net Worth = $73k

Remove 40k from ROTH IRA:
Let's assume your IRA manager has a stated rate of 4%. Your new IRA balance on 8/1/14 becomes $10,000

Earnings: 10k Roth @ 8% annual earnings for 5 years = 1.08^5 * 10k = $15k
Then, at the end of each year you pay back $10k, which then starts "earning" again. Here is the value of these payments at the end of the 5th year.
Y1 payment: 1.08^4 * 10k = $13.6k
Y2 payment: 1.08^3... = $12.6k
Y3 payment: 1.08^2... = $11.6k
Y4 payment: $10k (paid on last day)

Total interest paid for IRA loan: $4.1k, $40k loan @ 4%
http://www.mortgagecalculator.org/

Ending value: 15 + 13.6 + 12.6 + 11.6 + 10 - 4.1 = $58.7k

Some of these are going to be off, as they aren't exactly precise... but you get the idea.

AWESOME POST!! This is exactly what I was hoping to see when I first posted here. Thank you, sir! I owe you lunch, a beer, whatever you want.


Although, I wasn't planning on taking a loan from my IRA. I was going to withdraw the 40k and that was that. Then the 10k every year would simply be extra contributions of my own money, to put the money back in.

But now Angie55 claims you can't contribute more than 5.5k a year to a Roth IRA - which then prompts me to ask, why the heck do I have a Roth IRA?? It was all my own money from the start. Why didn't I just use that to purchase those index funds directly? Then I wouldn't be worried about penalties in the first place.

So perhaps instead of replacing the 40k in the Roth, what I do is take my 10k each year and buy the same funds directly. They'll grow at exactly the same rate as they would if they were in the Roth.

Right? What am I missing?



Anyway, thank you very much for the analysis!


I think the only way I can make it though is if I can somehow get all the money I need for living expenses from the Direct Grad PLUS loans.

The offer they made me in the notice I got this morning won't cut it. Especially if I can't get the money until later in August.

tylerlekang

  • 5 O'Clock Shadow
  • *
  • Posts: 49
Re: Take (personal) loan(s) or withdraw from Roth IRA?
« Reply #51 on: July 17, 2014, 11:44:47 AM »
Cpa Cat, two very helpful posts as well! I owe you lunch and a beer too! :)

- I looked at last semester costs (tuition is frozen for us this coming year) and it should be about 18.7k for the two semesters. So from the 20.28k they give me, I'll have more than enough to pay the interest up front (should only be a few hundred) rather than letting that capitalize in the loan. It costs you more in the end when it capitalizes. That's what they say in the loan training, anyway.

- I know I have a bit of excessive costs. But I still think I'll need between 20k - 25k of living expenses for Aug 14 through May 15 (that includes living expenses from June - bill due Aug 2 - and whatever I pile up this month)

I think my only viable option is to see if I can convince them to give me that as the Direct Grad PLUS loan. It's 7.21% rate with a 4.something % origination fee. So if I took 25k they'd give me 24k at a 4% fee. That should be more than enough.

But .... will they give it to me. They're only offering 11k now.


- Thank you, I get it now on the Roth IRA. Basically, it's a tax shelter from capital gains as long as you're willing to sit on your investment for 30-40 years. It makes sense now. Thank you for explaining it to me!

Cpa Cat

  • Handlebar Stache
  • *****
  • Posts: 1566
Re: Take (personal) loan(s) or withdraw from Roth IRA?
« Reply #52 on: July 17, 2014, 11:51:09 AM »
Re: Paying off student loan interest.

1st loan: Student loan to cover costs of education. Tax deductible interest. Interest accrues and compounds.

2nd loan: Living expense loan. Not tax deductible. Interest accrues and compounds on every additional dollar borrowed.

Why take money from the non-tax deductible loan (raising your non-tax deductible interest) in order to lower your tax deductible interest?

All you're doing is giving up a tax deduction in favor of accruing more non-tax deductible interest. Mathematically, it doesn't make sense.

In your situation, you want to maximize money that counts as a "student loan," because it's tax-favored and minimize the money that isn't a student loan and therefore not deductible. Unless you're planning on going bankrupt. Then the opposite is true.

It makes sense to stop the interest from compounding if you have money to spare for it. But you don't. You are borrowing 100% of your costs. So, in your shoes, you want to keep the favorable interest and lower the disfavorable interest.
« Last Edit: July 17, 2014, 11:53:24 AM by Cpa Cat »

rmendpara

  • Pencil Stache
  • ****
  • Posts: 602
Re: Take (personal) loan(s) or withdraw from Roth IRA?
« Reply #53 on: July 17, 2014, 12:04:23 PM »

Take 40k loan @ 7%, pay back in 5 years:
Earnings: $50k Roth @ 8% annual earnings for 5 years (no new contributions) = 50 * 1.08^5 = $73k

Total interest paid: I'll use a mortgage calculator, $40k loan, 7% interest rate. Total Interest paid is $7.5k

http://www.mortgagecalculator.org/

Net change = earnings - cost = 23k - 7.5k = 15.5k ish
Costs: $40k loan

Ending Net Worth = $73k

Remove 40k from ROTH IRA:
Let's assume your IRA manager has a stated rate of 4%. Your new IRA balance on 8/1/14 becomes $10,000

Earnings: 10k Roth @ 8% annual earnings for 5 years = 1.08^5 * 10k = $15k
Then, at the end of each year you pay back $10k, which then starts "earning" again. Here is the value of these payments at the end of the 5th year.
Y1 payment: 1.08^4 * 10k = $13.6k
Y2 payment: 1.08^3... = $12.6k
Y3 payment: 1.08^2... = $11.6k
Y4 payment: $10k (paid on last day)

Total interest paid for IRA loan: $4.1k, $40k loan @ 4%
http://www.mortgagecalculator.org/

Ending value: 15 + 13.6 + 12.6 + 11.6 + 10 - 4.1 = $58.7k

Some of these are going to be off, as they aren't exactly precise... but you get the idea.

AWESOME POST!! This is exactly what I was hoping to see when I first posted here. Thank you, sir! I owe you lunch, a beer, whatever you want.


Although, I wasn't planning on taking a loan from my IRA. I was going to withdraw the 40k and that was that. Then the 10k every year would simply be extra contributions of my own money, to put the money back in.

But now Angie55 claims you can't contribute more than 5.5k a year to a Roth IRA - which then prompts me to ask, why the heck do I have a Roth IRA?? It was all my own money from the start. Why didn't I just use that to purchase those index funds directly? Then I wouldn't be worried about penalties in the first place.

So perhaps instead of replacing the 40k in the Roth, what I do is take my 10k each year and buy the same funds directly. They'll grow at exactly the same rate as they would if they were in the Roth.

Right? What am I missing?



Anyway, thank you very much for the analysis!


I think the only way I can make it though is if I can somehow get all the money I need for living expenses from the Direct Grad PLUS loans.

The offer they made me in the notice I got this morning won't cut it. Especially if I can't get the money until later in August.

Sorry, missed the Roth part.

You can withdraw the contributions (gross value) without penalty any time (so look back at your statement, and find out what your total contributions were over the past however many years) and that's the total you can withdraw for free** (meaning no direct interest charge).

The point of the Roth is so that once you turn 60, you can withdraw any money and earnings without incurring any tax. No taxes ever again after you contribute.

A 401k is also a good vehicle. If you aren't clear on the differences between 401k & Roth, check out the forums as there have likely been a lot of discussions on that already.

Since you're not an expert investor, I suggest you do the following:

- No 401k/IRA/Roth loans or withdrawals... just take out a student loan (if your degree won't earn it's keep in your future salary/career, financing it a different way won't make a difference)
- Stay frugal and pay back your loans within 2-3 years (very doable on an engineer's salary
- Max out your Roth as well as your 401k (tax deferral during working years is a beautiful thing). People will argue until their tongues fall out over which is better. IMO, do both! Paying taxes now vs later is sort of a wash, and ppl will argue forever about it, but the real advantage is tax deferral between today and when you withdraw (no taxes on earnings on earnings on earnings for 25+ years)

Keep it simple. 90% of your fortune will come from mastering the basics (saving, investing, etc), the last bit can be squeezed out by being an expert investor, but not everyone is, so focus on the 90% and be happy.

Good luck!

tylerlekang

  • 5 O'Clock Shadow
  • *
  • Posts: 49
Re: Take (personal) loan(s) or withdraw from Roth IRA?
« Reply #54 on: July 17, 2014, 12:09:18 PM »
I wanted to do my own "more conservative" analysis based on what rmendpara posted.

I'm basing this instead on getting the two federal loans I think I'd need and then using only a 5% return on my index funds. I don't know why I'm stuck on this 5% number, perhaps because I've always heard that's what endowments usually return. But anyway...

Take 20.5k Direct Unsubsidized loan @ 6.21%,
take 25k Direct Grad PLUS loan @ 7.21%,
Plan to pay back in 5 years from graduating (6 years real time):


Earnings: $50k Roth @ 5% annual earnings for 6 years (no new contributions, though I might still try once employed) = 50 * 1.05^6 = $67k, thus total earnings are 17k

Loans costs: (I used a loan calculator http://www.bankrate.com/calculators/mortgages/loan-calculator.aspx  set it to five years with the principle and rate, then multiplied the calculated monthly payment by 60 to get the total cost)

20.5k @ 6.21  -- 23.9k
25k    @ 7.21  -- 29.85k

Total cost: 53.75, total interest paid: 8.25k

Grand total difference = 17k - 8.25k = $8.75k

Remove 40k from ROTH IRA:

Earnings: 10k Roth @ 5% annual earnings for 6 years = 1.05^6 * 10k = $13.4k
Then, at the end of each year employed you pay back $10k, which then starts "earning" again. Here is the value of these payments at the end of the 6th year.
Y1 - in school
Y2 payment: 1.05^4 * 10k = $12.2k
Y3 payment: 1.05^3... = $11.6k
Y4 payment: 1.05^2... = $11k
Y5 payment: $10k (paid on last day)


Grand total difference = 13.4 + 12.2 + 11.6 + 11 + 10 - 50 (original starting point) = $8.2k


Not quite as stark of a difference!

But perhaps 5% is way too conservative? Why 8%?

tylerlekang

  • 5 O'Clock Shadow
  • *
  • Posts: 49
Re: Take (personal) loan(s) or withdraw from Roth IRA?
« Reply #55 on: July 17, 2014, 12:18:21 PM »
Sorry, missed the Roth part.

You can withdraw the contributions (gross value) without penalty any time (so look back at your statement, and find out what your total contributions were over the past however many years) and that's the total you can withdraw for free** (meaning no direct interest charge).

The point of the Roth is so that once you turn 60, you can withdraw any money and earnings without incurring any tax. No taxes ever again after you contribute.

A 401k is also a good vehicle. If you aren't clear on the differences between 401k & Roth, check out the forums as there have likely been a lot of discussions on that already.

Since you're not an expert investor, I suggest you do the following:

- No 401k/IRA/Roth loans or withdrawals... just take out a student loan (if your degree won't earn it's keep in your future salary/career, financing it a different way won't make a difference)
- Stay frugal and pay back your loans within 2-3 years (very doable on an engineer's salary
- Max out your Roth as well as your 401k (tax deferral during working years is a beautiful thing). People will argue until their tongues fall out over which is better. IMO, do both! Paying taxes now vs later is sort of a wash, and ppl will argue forever about it, but the real advantage is tax deferral between today and when you withdraw (no taxes on earnings on earnings on earnings for 25+ years)

Keep it simple. 90% of your fortune will come from mastering the basics (saving, investing, etc), the last bit can be squeezed out by being an expert investor, but not everyone is, so focus on the 90% and be happy.

Good luck!

Thanks for everything you've said! I really appreciate it!

And I agree with your advice and will try to follow it.


If I can do the student loans for everything, I may try to do that. My intuition is that they won't let me borrow more than what was offered, meaning I'll have to take some of my Roth money out to live on.

In my conservative analysis, the difference wasn't as much. But any mixture of the two scenarios at least pushes it closer to the middle.


Thanks again!

rmendpara

  • Pencil Stache
  • ****
  • Posts: 602
Re: Take (personal) loan(s) or withdraw from Roth IRA?
« Reply #56 on: July 17, 2014, 12:20:17 PM »
You can look up long term S&P index performance and use that. Regardless, the main point is that borrowing (or withdrawing from Roth) is equivalent to taking out a floating rate loan. Even if the "planned" loss is only 5% (if you use that for your projection), it could be anywhere from -20% to +20%. If the market goes down, you could actually "make" money by borrowing now and repaying over time, however, if the market goes up (which over 5 year periods, it typically does) then you will lose potential investment returns.

It's anyone's guess exactly how much it will be, but changes are it will be 7%+.

http://www.moneychimp.com/features/market_cagr.htm (play with it and find whatever you like)

Again, you're speculating on the market.

Fixed rate 6-7% (student loan) vs floating rate withdrawal from Roth (+20% to -20%)... your choice.

Ideally, you can pay most through student loans, and have minimal Roth withdrawal, if any.

Good luck!
« Last Edit: July 17, 2014, 12:22:58 PM by rmendpara »

tylerlekang

  • 5 O'Clock Shadow
  • *
  • Posts: 49
Re: Take (personal) loan(s) or withdraw from Roth IRA?
« Reply #57 on: July 17, 2014, 12:53:49 PM »
So much great info, thank you rmendpara!

Gin1984

  • Magnum Stache
  • ******
  • Posts: 4701
Re: Take (personal) loan(s) or withdraw from Roth IRA?
« Reply #58 on: July 17, 2014, 04:32:09 PM »
Have you even looked into student loans? At my master's program, the financial aid office set an "estimated cost of attendance" that includes tuition, fees & a budget for living expenses. You are allowed to borrow up to the amount of this estimated cost of attendance in federal loans.

If your prior year tax return shows that you haven't been working at all, you may qualify for a Perkins loan (interest does not capitalize while you are still in school, lower interest rate).
Those, similarly to ANY subsidized loan, are not available to graduate students.  We also pay a higher interest rate for our loans than undergrads.

marblejane

  • Bristles
  • ***
  • Posts: 358
  • Location: SF Bay Area
Re: Take (personal) loan(s) or withdraw from Roth IRA?
« Reply #59 on: July 17, 2014, 05:17:42 PM »
Have you even looked into student loans? At my master's program, the financial aid office set an "estimated cost of attendance" that includes tuition, fees & a budget for living expenses. You are allowed to borrow up to the amount of this estimated cost of attendance in federal loans.

If your prior year tax return shows that you haven't been working at all, you may qualify for a Perkins loan (interest does not capitalize while you are still in school, lower interest rate).
Those, similarly to ANY subsidized loan, are not available to graduate students.  We also pay a higher interest rate for our loans than undergrads.

I received a Perkins loan while in graduate school last year. They are available if you meet the income requirements.

EDIT: Here is the link to the federal website on Perkins loans: https://studentaid.ed.gov/types/loans/perkins
« Last Edit: July 17, 2014, 05:19:52 PM by marblejane »

tylerlekang

  • 5 O'Clock Shadow
  • *
  • Posts: 49
Re: Take (personal) loan(s) or withdraw from Roth IRA?
« Reply #60 on: July 18, 2014, 04:07:28 PM »
Cpa Cat (or anyone interested...), would you mind checking me belong RE: loan interest capitalization discussion and your preference for full deferment rather than making interest only payments during the deferment period?

Found a great resource here: http://www.hesc.ny.gov/content.nsf/SFC/HESC_Interest_Capitalization_Estimator

So using the example of the Federal Direct Unsubsidized student loan that I plan to take to pay for my school costs this coming fall and spring semesters. (the tool assumes a standard 10 year repayment term and 6mo grace period)

Full Deferment

Total Fees:   $219.97
Loan Funds Disbursed:   $20,280.04
Amount Financed:   $20,500.00
Grace Period:   6 months
Full Deferment (including grace) Period:   16 months
Total Capitalized Interest:   $1,697.40
Total Repayment Amount:   $22,197.40
Monthly Payment:   $248.78
Total Interest Cost (after repayment begins):   $7,656.68
Total Cost of Loan:   $29,854.08


Making interest-only payments during the deferment period

Total Fees:   $219.97
Loan Funds Disbursed:   $20,280.04
Amount Financed:   $20,500.00
Grace Period:   6 months
Full Deferment (including grace) Period:   16 months
Total Interest Paid During Deferment:   $1,697.40
Total Repayment Amount:   $20,500.00
Monthly Payment:   $229.76
Total Interest Cost (after repayment begins):   $7,071.19
Total Cost of Loan:   $29,268.59


I guess I'm still not quite understanding how full deferment is a better option. Something to do with tax deductions for the interest ... but I thought you were allowed to deduct the interest you paid, not simply interest that has accrued (and will be capitalized).

Thanks for your patience and I look forward to understanding better!

seattlecyclone

  • Magnum Stache
  • ******
  • Posts: 4771
  • Age: 34
  • Location: Seattle, WA
Re: Take (personal) loan(s) or withdraw from Roth IRA?
« Reply #61 on: July 18, 2014, 06:17:42 PM »
In your second example, you paid $1,697.40 in interest during school. That means if you were deferring interest payments, you could have gotten by with a smaller initial loan. I ran the "full deferment calculation" again with a principal that's $1,697.40 lower, and got a monthly payment of $230 and a total cost of about $27,650.

Cpa Cat

  • Handlebar Stache
  • *****
  • Posts: 1566
Re: Take (personal) loan(s) or withdraw from Roth IRA?
« Reply #62 on: July 19, 2014, 08:48:34 AM »
Yes, it's true that the interest will capitalize.

But so will the interest on your non-deductible "living" loan.

Paying interest on your student loan makes sense if you had $20,000 in student loans and $20,000 cash for your living expense.

But you have no cash for your living expenses. You have only more debt. That living expense debt will likely be at a higher interest rate and will not be deductible.

What you are not factoring into your calculations is: How much extra interest will you pay on your living expense loan if you take money and pay it toward your student loan.

If you have an extra $70 in your hand - What makes more sense? Paying down the student loan or paying down the living expense loan?

The truth is that every $1 you use to pay down the student loan interest isn't extra money - it's a $1 you borrowed elsewhere and will pay interest on.

I'm saying that in all likelihood, it will be to your benefit to lower the non-deductible living expense loan first. Now, we don't currently know the exact terms of that living expense loan, because it doesn't exist yet. BUT we so know that the student loans will have a fixed interest rate, the interest will be deductible, and you will have a lot of flexibility regarding your payment terms.

tylerlekang

  • 5 O'Clock Shadow
  • *
  • Posts: 49
Re: Take (personal) loan(s) or withdraw from Roth IRA?
« Reply #63 on: July 19, 2014, 12:42:41 PM »
Yes, it's true that the interest will capitalize.

But so will the interest on your non-deductible "living" loan.

Paying interest on your student loan makes sense if you had $20,000 in student loans and $20,000 cash for your living expense.

But you have no cash for your living expenses. You have only more debt. That living expense debt will likely be at a higher interest rate and will not be deductible.

What you are not factoring into your calculations is: How much extra interest will you pay on your living expense loan if you take money and pay it toward your student loan.

If you have an extra $70 in your hand - What makes more sense? Paying down the student loan or paying down the living expense loan?

The truth is that every $1 you use to pay down the student loan interest isn't extra money - it's a $1 you borrowed elsewhere and will pay interest on.

I'm saying that in all likelihood, it will be to your benefit to lower the non-deductible living expense loan first. Now, we don't currently know the exact terms of that living expense loan, because it doesn't exist yet. BUT we so know that the student loans will have a fixed interest rate, the interest will be deductible, and you will have a lot of flexibility regarding your payment terms.

Thank you. Everything you say makes perfect sense.

Though here is one thing for you to consider: I am not going to take a person loan (in the regular sense). I am going to take a second Federal (fixed) loan that they offered me to use for my living expenses (though it won't be enough to cover what I think I'll need).

Principle: $11,414
Fee: 4.29%
Total amount dispersed: $10,924.34
Rate: 7.21% (fixed)


So let's pretend that I can get by on living expenses through May '15 using just the excess from the school costs loans (<$2k) and this other federal student loan of almost $11k. So I don't have to take any other loans (which I most likely won't anyway) or touch my Roth IRA (that would be great, but I'm not getting my hopes up).


Now, both my loans are Federal student loans so they're both "deductable" - as you say. I don't know what that means or what you're meaning is by that. But anyway, if I used $1700 from the other loan to pay the interest on the school costs loans then when I do my taxes next spring I can claim a deduction of $1700, right?

And since I won't have made very much money in 2014 (only a little bit from work in Jan, <10K and they already withheld some of that for taxes) then the government should be cutting me a check for $1700, right?

Or if I'm missing something or just don't understand, could you point me in the right direction so I learn?

Thank you very much for your help! :)

samburger

  • Bristles
  • ***
  • Posts: 257
Re: Take (personal) loan(s) or withdraw from Roth IRA?
« Reply #64 on: July 19, 2014, 12:50:15 PM »
Why do you need $25k to make it to May?

I live in Minneapolis and $25k/year supports two adults with two cars, pets, and an apartment in an unnecessarily swanky neighborhood.

If you're not supporting a family on that, your living expenses are way high. Can you cut back, at least while you finish school?

Malaysia41

  • Magnum Stache
  • ******
  • Posts: 3314
  • Age: 46
  • Location: Verona, Italy
    • My mmm journal
Re: Take (personal) loan(s) or withdraw from Roth IRA?
« Reply #65 on: July 19, 2014, 12:53:46 PM »
Why do you need $25k to make it to May?

I live in Minneapolis and $25k/year supports two adults with two cars, pets, and an apartment in an unnecessarily swanky neighborhood.

If you're not supporting a family on that, your living expenses are way high. Can you cut back, at least while you finish school?

Exactly what I've been thinking.  Could you post your user case study #s with your expected expenses and maybe we can help you dial the living-expense side of the equation down.

Cpa Cat

  • Handlebar Stache
  • *****
  • Posts: 1566
Re: Take (personal) loan(s) or withdraw from Roth IRA?
« Reply #66 on: July 19, 2014, 01:50:21 PM »
Though here is one thing for you to consider: I am not going to take a person loan (in the regular sense). I am going to take a second Federal (fixed) loan that they offered me to use for my living expenses (though it won't be enough to cover what I think I'll need).

Principle: $11,414
Fee: 4.29%
Total amount dispersed: $10,924.34
Rate: 7.21% (fixed)

So now you're paying 7.21% in order to pay off 6.8%. It just doesn't make mathematical sense. I get that you're trying to stop your loan interest from ballooning and compounding, but when you're borrowing 100% of the money that you'll be spending, there's no sense to paying debt off with higher interest debt.

Quote
Now, both my loans are Federal student loans so they're both "deductable" - as you say. I don't know what that means or what you're meaning is by that. But anyway, if I used $1700 from the other loan to pay the interest on the school costs loans then when I do my taxes next spring I can claim a deduction of $1700, right?

Yes. If you look at form 1040, line 33, that's where you deduct your interest paid.

Quote
And since I won't have made very much money in 2014 (only a little bit from work in Jan, <10K and they already withheld some of that for taxes) then the government should be cutting me a check for $1700, right?

Not quite. With your income so low, you'll get your withholding back regardless. But you won't get the $1700. A deduction isn't refundable. Only credits are refundable. In fact, your deduction will essentially be wasted unless you had enough income to owe taxes.

When you consider your debt, think about it in regular terms. Which debt would you choose to pay off first if you had the luxury of spare money? The one with the highest interest rate. As such, whatever loan has the highest interest rate is the one you keep as low as possible.

For you, your interest rates from highest to lowest:

Roth IRA loan (interest rate = forgone gains; may be as much as 20%, unlikely to be lower than 8%).
Living expense loan (interest rate 7.21, tax deductible when you have income)
Student loan (6.21%, tax deductible when you have income)

Gin1984

  • Magnum Stache
  • ******
  • Posts: 4701
Re: Take (personal) loan(s) or withdraw from Roth IRA?
« Reply #67 on: July 19, 2014, 07:24:05 PM »
Though here is one thing for you to consider: I am not going to take a person loan (in the regular sense). I am going to take a second Federal (fixed) loan that they offered me to use for my living expenses (though it won't be enough to cover what I think I'll need).

Principle: $11,414
Fee: 4.29%
Total amount dispersed: $10,924.34
Rate: 7.21% (fixed)

So now you're paying 7.21% in order to pay off 6.8%. It just doesn't make mathematical sense. I get that you're trying to stop your loan interest from ballooning and compounding, but when you're borrowing 100% of the money that you'll be spending, there's no sense to paying debt off with higher interest debt.

Quote
Now, both my loans are Federal student loans so they're both "deductable" - as you say. I don't know what that means or what you're meaning is by that. But anyway, if I used $1700 from the other loan to pay the interest on the school costs loans then when I do my taxes next spring I can claim a deduction of $1700, right?

Yes. If you look at form 1040, line 33, that's where you deduct your interest paid.

Quote
And since I won't have made very much money in 2014 (only a little bit from work in Jan, <10K and they already withheld some of that for taxes) then the government should be cutting me a check for $1700, right?

Not quite. With your income so low, you'll get your withholding back regardless. But you won't get the $1700. A deduction isn't refundable. Only credits are refundable. In fact, your deduction will essentially be wasted unless you had enough income to owe taxes.

When you consider your debt, think about it in regular terms. Which debt would you choose to pay off first if you had the luxury of spare money? The one with the highest interest rate. As such, whatever loan has the highest interest rate is the one you keep as low as possible.

For you, your interest rates from highest to lowest:

Roth IRA loan (interest rate = forgone gains; may be as much as 20%, unlikely to be lower than 8%).
Living expense loan (interest rate 7.21, tax deductible when you have income)
Student loan (6.21%, tax deductible when you have income)
Which may be a reason to pull some from a traditional IRA.  At least enough to cap out the standard deduction, personal exemption, and federal tax credit for tuition.  All of those are non-refundable.

tylerlekang

  • 5 O'Clock Shadow
  • *
  • Posts: 49
Re: Take (personal) loan(s) or withdraw from Roth IRA?
« Reply #68 on: July 19, 2014, 09:03:41 PM »

So now you're paying 7.21% in order to pay off 6.8%. It just doesn't make mathematical sense. I get that you're trying to stop your loan interest from ballooning and compounding, but when you're borrowing 100% of the money that you'll be spending, there's no sense to paying debt off with higher interest debt.

Yes. If you look at form 1040, line 33, that's where you deduct your interest paid.

Not quite. With your income so low, you'll get your withholding back regardless. But you won't get the $1700. A deduction isn't refundable. Only credits are refundable. In fact, your deduction will essentially be wasted unless you had enough income to owe taxes.

When you consider your debt, think about it in regular terms. Which debt would you choose to pay off first if you had the luxury of spare money? The one with the highest interest rate. As such, whatever loan has the highest interest rate is the one you keep as low as possible.

For you, your interest rates from highest to lowest:

Roth IRA loan (interest rate = forgone gains; may be as much as 20%, unlikely to be lower than 8%).
Living expense loan (interest rate 7.21, tax deductible when you have income)
Student loan (6.21%, tax deductible when you have income)

Well the fact that I won't even be able to use the tax deduction takes the cake. I won't be making interest only payments during the deferment period on either loan.

It was a bit of a moot point, because I didn't realize the interest that would accrue during the deferment period was so high! Can't really afford to throw $1700 at it when I need that money to stretch living expenses out as long as possible on that loan before having to find other money.

Thanks again!

tylerlekang

  • 5 O'Clock Shadow
  • *
  • Posts: 49
Re: Take (personal) loan(s) or withdraw from Roth IRA?
« Reply #69 on: July 19, 2014, 09:06:39 PM »

Which may be a reason to pull some from a traditional IRA.  At least enough to cap out the standard deduction, personal exemption, and federal tax credit for tuition.  All of those are non-refundable.

Wouldn't I take an additional 10% penalty though, if I did that?

tylerlekang

  • 5 O'Clock Shadow
  • *
  • Posts: 49
Re: Take (personal) loan(s) or withdraw from Roth IRA?
« Reply #70 on: July 19, 2014, 09:12:39 PM »
Why do you need $25k to make it to May?

I live in Minneapolis and $25k/year supports two adults with two cars, pets, and an apartment in an unnecessarily swanky neighborhood.

If you're not supporting a family on that, your living expenses are way high. Can you cut back, at least while you finish school?

Ideally yes, and I will try. I track all my spending and it hasn't been pretty since May. Hopefully once school starts up again in Sept I can get it back under control somewhat.

But I still have to pay an expensive CC bill for June (due at the start of Aug) and will have to pay another expensive CC bill for July (due at the start of Sept). Hopefully Aug won't be quite as bad.

I decided to get a new CC that has 0% interest for the first 15 months on purchases and balance transfers AND no fee on balance transfers for the first 60 days. So I'll throw my current CC balance on that thing and make minimum payments until my loan money comes in at the end of Aug.

I decided I could part with a couple things that will get me enough cash to make it on rent/utilities until then.



Thanks again all for the great input! Perhaps with some luck and sacrifice, I'll be able to leave the IRA's unscathed.

Gin1984

  • Magnum Stache
  • ******
  • Posts: 4701
Re: Take (personal) loan(s) or withdraw from Roth IRA?
« Reply #71 on: July 20, 2014, 10:09:49 AM »

Which may be a reason to pull some from a traditional IRA.  At least enough to cap out the standard deduction, personal exemption, and federal tax credit for tuition.  All of those are non-refundable.

Wouldn't I take an additional 10% penalty though, if I did that?
No, because it would count against your tuition/fees that the IRS allows you take money out of the traditional IRA for.  Just keep proof of your tuition/fees for that year.

Emg03063

  • Bristles
  • ***
  • Posts: 458
Re: Take (personal) loan(s) or withdraw from Roth IRA?
« Reply #72 on: July 20, 2014, 11:14:24 AM »
The point of the Roth IRA is to save for retirement, not for school expenses.  It is also extremely valuable if you use it long term.  Over the short term it would be much easier for you to liquidate your retirement savings to pay for school, but over the long term you would be much better off taking a higher rate loan for school, paying that back quickly to minimize the interest cost, letting the ROTH money grow and continue funding that account.

No that's not what I was asking.

What I mean is to consider the two scenarios below:

a) Take 50k in contributions over to Vanguard and put it into their low cost index fund shares. You can take your 50k in and out at any time with no penalty or taxes. But if you try to take out the earnings before 59.5, you're penalized.

b) Purchase 50k of those same low cost index fund shares directly (via some means, I don't know exactly how). Then you can take the 50k and the earnings out at any time you want with no penalty (other than buy/sell commissions, I suppose).


How is there any advantage in a over b? That's what I was asking. Sorry - it's a bit of a tangent to the discussion.

The advantage of A is that you don't have to pay taxes on dividend and capital gain distributions on money in the tax sheltered account every year, and you don't pay tax on the appreciation of the shares when you sell.  In B you do.  The calculation you're looking for is basically as follows:

1.  Determine your expectation of the long term performance of your retirement funds (most planners are using ~8% these days AFAIK, but obviously nobody has a crystal ball).

2.  Determine what you expect your marginal tax rate to be over the repayment period under consideration.

Assuming your student loan interest is tax deductible, the opportunity cost of pulling your money out of the retirement accounts is the rate in A minus (your student loan interest rate)/(1-your marginal tax rate).  Unless your expectations for the stock market going forward are really low,  I'd go with the loan package.  You can always pull money out of retirement accounts later if you can't get a job and are in a cash crunch with paying the loan off, but if you pull it out now, you can't put it back.
« Last Edit: July 20, 2014, 11:24:10 AM by Emg03063 »