Author Topic: Get rid of house or debt?  (Read 4393 times)

marblejane

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Get rid of house or debt?
« on: August 22, 2013, 08:27:53 PM »
I havenít posted much here before but Iíve been lurking for a while, and was hoping to get feedback on where to direct my excess income from some of you. I just graduated from grad school a few months ago, and accepted a position at a large tech company in the Bay Area.

I have a ton of debt. $381,195 worth of debt, to be precise. I currently have $35k in cc debt (down from $43k), $163k in student loan debt, and $183k in mortgage debt. I am struggling to decide how to approach paying off my debts after I take care of a small amount of high interest credit card debt.

Regarding the mortgage, I bought a house at the end of 2008, and moved away from the area (Mid-Atlantic) two years ago to go to grad school. My mortgage is $183k, of which $8.5k is ďsecond principalĒ that will be forgiven if I sell or refinance with negative equity. Zillow is estimating that the property is worth about $130k at the moment. Taxable assessed value is $159k, to be re-assessed this Jan 1.

PI is $1,208/month. Iíve been lucky to have 100% occupancy since I left, and am currently renting at $1,350/mo. I net $1,196 after PM fees, and pay $468 in escrow for TI (high tax area). So, Iím paying $480/mo out of pocket for the property. Again, this is with 100% occupancy and not needing any major repairs over the last few years. I love this house and thought it could be a retirement home for me someday, but the carrying costs just arenít worth it.

I paid off $9.5k in debt since starting my new job ($8k cc and a $1.5k medical bill), and will be able to pay about $1,600/mo from now through December above the minimums for all debts. I wonít have much extra income to pay above minimums in Jan & Feb, but should free up about $800/mo when I move in March. (Made an unmustachian housing decision when I arrived here, but will get roommates as soon as I can get out of this lease, at the end of Feb 2014).

Originally, my thought was to pay off all credit card debt first, then knock out the student loans, and then deal with the mortgage. However, the more I think about it, the more I begin to think that I should make paying down the mortgage my top priority.

My mortgage is not FHA, Fannie or Freddie, so I donít qualify for HAMP or HARP or anything. My mortgage bank has basically said that theyíre not interested in working with me on some sort of refinancing since Iím on time on payments. I donít really think Iíd be comfortable with ďwalking awayĒ or anything like that. I will get some relief from that $8.5k principal forgiveness if I am able to sell for less than what I paid.

Hereís a summary of my debts.


Debt:   Balance          Rate      Mo. Pymt
Mortgage: $183,041 6.75%      $1676 (net $481)
SL #1:    $106,544    5.99%   $1130   (kicks in Jan 1)
SL #2:    $43,008    6.8%      $506      (kicks in Jan 1)
SL #3:    $10,182    5%      $85       (kicks in Apr 1)
SL #4:    $3,467    4.75%   $50
CC #1:    $3,447    19%      $169
CC#2:    $4,098    12.24%   $86
CC#3:    $11,269    11.99%   $224
CC #4:    $16,139   10.24%   $220

Total:   $381,195


My immediate plan is to finish paying off CC#1 and then payoff CC#2. I plan to get this done by the end of 2013.

So which debt should I go after next? If I deal with the mortgage next, I think that Iíll need to bring at least $50k to the table to be able to sell. Here, I wonder if I should pay down principal as I go, or set aside savings for this end. My preference would be to pay down principal, but would love to get thoughts on this.

On the other hand, I could free up a similar amount of monthly cash flow by paying down SL #2 or CC#3&4. The interest rates on these debts are higher than the mortgage rate. However, I am leaning towards getting rid of the mortgage first, since any vacancy or repair would be a bigger hit to my monthly cash flow.

I currently have $30k in a Roth IRA and $10k in a personal IRA (old 401k rollovers), and about a month of expenses in my checking account. I have 6% deducted from my pay for the company 401k match.

Another Reader

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Re: Get rid of house or debt?
« Reply #1 on: August 22, 2013, 09:37:01 PM »
You don't say what your income is.  Your net income is your capacity to pay your expenses and all this debt.  And you have a LOT of debt.  What's especially worrisome are the two student loans that kick in January 1.  Those payments are going to kill your progress on the other debt.  Together they are almost as large as the mortgage.  With the third student loan coming on line in April, the payments will be more than the mortgage.

In your shoes, I would put every last penny toward killing the credit cards.  Sell everything that you can, take in a room mate, work weekends waiting tables, whatever it takes to get those paid off by the end of the year.  You won't get all of them done, but kill the first two and make substantial progress on the third.

In February, I would move to the least expensive housing I could find - a room in a shared house would probably be the least expensive.  Then I would finish off both of the remaining cards.

The mortgage is an albatross that will hang around your neck for a long time.  You can short sell and ruin your credit, otherwise you are just stuck.  Reserve some cash for vacancy losses and repairs and work on the student loans next.  If you are lucky, a rising market will eventually bail you out of the mortgage.

If you cannot handle all the payments on your income, in your shoes I would start looking into the short sale.

mgreczyn

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Re: Get rid of house or debt?
« Reply #2 on: August 22, 2013, 10:06:15 PM »
Congrats on the job and on having the self awareness to tackle your debt issue.

Not sure there is any completely "right" answer here.  By which I mean I'm sure there is a path to take that in hindsight would result in the fastest route out of debt but that might be a higher risk route and you might be more comfortable taking a different route.  On the one hand, you have the risk of a vacancy or a repair on the house, so having a reserve of some sort might help you sleep better.  On the other hand, carrying student loan debt is risky since if you can't pay for some reason, interest capitalizes and you can't get rid of it in bankruptcy. 

I think only taking into consideration the financial side of things, the "right" answer is to pay down the loans and then the mortgage, especially since the house at least can bring in rent, or in a pinch you could live there if you lost your job.

I'll tell you what I did in my own situation, and offer a few things you may not have thought of yet. 

My situation and how I handled it:  I was carrying about $55k in SL debt and a $330k mortgage on our residence.  We put all of our "extra" (non-401k) money in cash since we had a newborn child and my wife was in grad school.  Not strictly speaking the most efficient way to tackle the debt, but it kept me from going completely nuts with worry. When the following conditions were met I paid off my loan in one lump sum:
1) I had enough cash to pay it all off with a little left over
2) I was reasonably sure of my employment for the coming year
3) We were reasonably sure of my wife's prospects for employment post-graduation
It wasn't really as planned-out or precise as it sounds above, but looking back it wasn't until those things fell into place that I felt comfortable writing a $50k check. 

Thoughts on your situation: You could put a little aside to build up a reserve to cover vacancies / repairs while paying down the SL's more slowly. You also have a cushion in those retirement accounts; although they take a chunk out for early withdrawals, there are ways to minimize that pain and if you needed the cash in a pinch, you could get it.  You could treat your IRAs and 401ks as your emergency reserve and direct all of your excess income at the SL's.  One final thought: Zillow is great for getting a general feel for real estate values and trends in an area, but we haven't found it to be exact enough to base the value of a particular property on.  It's only one source of info; that house could sell for a lot more than Zillow says it's worth, the only way to know is to do some research yourself; run some comps, consult a realtor or just put it on the market and see what happens.

Good luck!

marblejane

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Re: Get rid of house or debt?
« Reply #3 on: August 22, 2013, 10:45:35 PM »
Thanks for the responses. I guess the way I see it, my mortgage interest rate is higher than all but one student loan, and even that one (SL#2) is only beating the mortgage by 0.05%. I also think that the risk of vacancy or repairs on the house in the next 3-5 years is a much more likely event than losing my job, which would point towards paying off the house so I can sell. If I lost my job, I would probably end up losing the house, too, so for that reason I don't see the mortgage as "safer." I'd move in with relatives, if it came to that.

I agree that Zillow is not terribly accurate in assessing value. I have been browsing comp sales in the zip code, and I do think I'd be lucky to get $150k. I won't be financially in a position to put the property on the market until at least 2015, probably.

Really, though, at what point do I stop paying down the credit cards and start working on the mortgage? I definitely want to pay down CC#1&2 because of the small balances and to rid myself of minimum payments (and in the case of CC#1, ghastly APR). But if CC#4 is accruing 10.24% interest, does it do me any harm to leave it alone, make the minimum payments, and just focus on getting rid of the mortgage through some combination of principal reduction and savings? I think I'm looking for a way to translate potential repairs and vacancies on the property into a X.XX% increase in the nominal rate on the mortgage, so I can compare that to my other debts.

mgreczyn

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Re: Get rid of house or debt?
« Reply #4 on: August 23, 2013, 08:51:24 AM »
Over on Biggerpockets I've heard the rule of thumb that over time your should expect 50% of your gross rental revenue to go to vacancies, repairs and other expenses not including debt service.   Your house is rented at $1350 per month, so this means that (over the long haul, not a given month) $675 of that would go to vacancies, repairs and your return on capital and the other 675 would be available for debt service.  This situation is different, you're cash flow negative on the property month by month.  If you assume $675 per month vacancy/repair expense on top of that $480 per month, this thing is a major drain on your finances.  Again, that $675 is sort of a shadow expense, right?  It doesn't show up every month but one major repair or one long vacancy and it becomes very real.  I think you may be well served by going after the mortgage as quickly as possible.  As soon as that thing is gone you have more cash available to tackle your other debt.

Look at the interest rate on your debt again and think about the expected return on your retirement investments.  With the exception of SL#4, ALL of your debt has an interest rate equal to or greater than the long term expected return on stocks.  You are in effect borrowing money at the weighted average interest rate on all of that debt plus the negative $1155 on the house in order to invest at 6%-7%. Were I in your shoes, I would consider cashing out those retirement accounts and using the proceeds along with any savings I could scrimp and scrounge together to get rid of the mortgage. 

As far as when to stop paying down the credit cards, now might be the right answer.  A lot depends on your awareness of and tolerance for the various risks attached to each debt category.  Not paying your CCs down aggressively carries a hefty financial cost but otherwise little risk.  It seems there are more substantial risks associated with carrying the SLs and mortgage.
« Last Edit: August 23, 2013, 08:54:41 AM by mgreczyn »

marblejane

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Re: Get rid of house or debt?
« Reply #5 on: August 23, 2013, 02:05:30 PM »
Yeah, the more I think about it, the more I think I should make selling the house the highest priority. The house is in a recourse state, too. I don't think I'm at the point where I would want to cash in my retirement accounts to sell. I think that the penalties would be too high. I also have the option with SL#2&#3 for forbearance or extended payments in the event I'm unable to keep up with payments (b/c of job loss, etc)

Also, it's possible that I'm underestimating the potential sale price. I have found a few recently sold homes in my neighborhood of a similar square footage and quality of build that have sold for as much as $180k. I've put in a call to my PM/realtor to discuss it. Depending on what he says, it's probably worth at least testing the market next spring.

Numbers Man

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Re: Get rid of house or debt?
« Reply #6 on: August 23, 2013, 03:14:07 PM »
I would sell the house if I were you. Especially since you are cash flow negative. The $480 you are paying out of pocket is more than your credit card interest. Get a real estate agent's opinion as to a reasonable selling price. you'll also have to pay real estate commissions. Stop contributing to your 401k plan and divert as much cash to your real estate problem.

The next step is to wipe out the credit cards. The student loans are high, but it seems like you have a decent job and will be able to pay those off in ten years or less. I wouldn't panic over the student loans. If it is to your advantage, use the Income Based Repayment option (IBR) with your student loans until you can solve the real estate problem.

Good luck and keep us posted.

mgreczyn

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Re: Get rid of house or debt?
« Reply #7 on: August 27, 2013, 01:01:17 PM »
One other thought after reading the latest MMM post on the lending club.  You could consolidate all of those credit cards into a single note with a lower interest rate.  Excluding the mortgage, your weighted average interest rate is currently 7.1%.  If you have decent credit and good income, you might be able to get a loan from lending club or something and cover off the credit cards at least.  If you got $35k at 7% to pay off the credit cards, the WA of your rates would drop to 6.3%.  On a total nut of almost $200k that's nothing to sneeze at.  Obviously the lower you can go the better the results.  You could as well try to get $85k to cover off the cards and the mortgage.

marblejane

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Re: Get rid of house or debt?
« Reply #8 on: August 27, 2013, 09:49:20 PM »
Yes, I had the same thought after reading the MMM post today. For right now, I'm just going to put my monthly debt reduction/savings budget into my savings account. I had a brief exchange with my realtor/PM this weekend, but haven't had the chance to follow up with him to get his read on the market and a ballpark list price. Looking at recent home sales in the neighborhood, it seems like there are a lot of people with a low basis (2005 purchase or earlier, recent foreclosure purchases getting flipped) selling quickly (in many cases, 1-7 days on the market) in the $130k-$150k range. I have seen a couple of properties sell for higher than that- one or two at $180k. So, no decisions on the house and credit cards until I get a more accurate estimate of the current market value of the property. I think I'll start a page in the journals section to chronicle what I am doing, and provide more detail on budget, etc. I'll link to it here when it is up.