What to do with extra money in 2018

[belly05]

Hi Everyone –

I’m looking for advice on what I should be doing with surplus money in 2018.  I'm new to the forum so hopefully, this is the correct spot to post this question. I’m also a fairly new convert so I'm still getting my feet under me regarding how to optimize my savings rate and where to store surplus money.  First I’ll give some background on my situation and then the specific numbers, any/all advice is greatly appreciated!

Background:

From 2009 – 2016 I ran my own little website design company and generally lived a pretty anti mustatian life. Late in 2016 I stumbled upon this website and like most readers ended up burning through the articles, getting more enthralled with Pete’s way of life as I went.  About 3 months after finding the blog I decided to make some big changes in my life:

I was in the habit of doing monthly reconciles for my business, but my own personal finances were a complete mystery.  Savings rate… no idea?  Yearly expenses…. No clue.  To fix this I simply started doing monthly reconciles on my personal accounts.  Each expense got a category, and everything was logged in a simple google doc…. It was eye-opening. I was essentially spending all of my money every month, or close to it.  If I kept the same pace up I was looking at a retirement date of 60+ years old.

After coming to the realization that my life really was “an exploding volcano of waste” I made changes.  Cut out all frivolous purchases and after a few months, I had my savings rate up to a cool 68%.  From there the main issue I realized is that I didn’t have a big enough fire hose of money coming in every month, my personal business afforded me great flexibility and solid quality of life, but I would still need to do mandatory work for another 20 years unless I got a bigger fire hose…. So I took the leap and set out into the “real job” world for the first time in my life. As luck would have it I found a great opportunity, 5 miles away from my house.  I can bike to the office every day and as an added bonus half of the ride is through Forest Park, an amazingly awesome park in the middle of the city I live in.

Now that all of the background is out of the way, I’d like to explain my current situation, and get some advice on where to spend surplus money:

Living Situation and Finances:

Property 1:
From 2010 – 2017 I lived in a 2 family house.  The house was purchased in 2010 for 132,000.  Over the past 7 years I lovingly rehabbed the house with the help of my dad, he is a mechanic and in general very handy + has a great network of friends in the skilled trades. 
Current numbers = 102,300 owed on 30 year loan @ 4.2%, house value ~ 180,000.


Property 2:
In March of 2017 after coming across the mustache blog and getting a “full-time job” I lucked into an amazing real estate deal.  My Mom and I had long wanted to start a real estate company together and had been passively looking for a property for the past 3 years. As luck would have it we were introduced to a man who owns a 6 family house 2 blocks from my current house and he wanted to sell it!  I had long admired this property, it's situated on the corner of a beautiful park right near my house.  We ended up doing the deal without real estate agents, and the owner financed half of the purchase at a very good interest rate. Current numbers:

Purchase price $600,000
Down Payment $60,000

Loan 1 $300,000 @ 4%.  (This is with the previous homeowner).  There is 290,000 left as of December 2017.  Please note I have a handshake deal with the owner that I will not prepay for the first 3 years, contractually I legally can pre-pay but I won’t break this handshake deal.

Loan 2: 240,000 with a local bank @ 4.5%.  This is a commercial loan. There is currently 234,000 left on this loan as of December 2017.  No pre-payment penalty. The loan is amortized over 15 years.  After 5 years from March 2017 I will need to refinance the loan.


Property 3: (currently living here)
In November 2017 another great deal popped up in my same neighborhood for a single family home that had just gone through auction.  The house was purchased for $112,000.  Current numbers $89,000 left on the loan.  This is a commercial loan at 4.5% amortized over 15 years.  5 years from March 2017 I will need to refinance the loan.

Expenses:

1,737 per month (I can itemize them into categories if that helps)

Income:

3,788/month after taxes from main job
$1,950/month from web design company in the form of rent.  *Please note this money is paid directly to the real estate company I started in 2017 to purchase property 2 and 3.  The web design company rents space in the 6 family building for servers, this has already been verified with an accountant & lawyer.
$1,500/month Home 1 rent.  There are two units in this house rented out to friends, one for 700 and one for 800.  Both are below market value but I'm very close with the friends and it's helpful for them to have the lower rent right now so raising the rent in 2018 is not an option.  Even with the lower rent, the property is cash flow positive ~400/month.


Current Savings:
$246.71/month House 1 mortgage principal
$125.00/month extra house 1 mortgage principal
$458.33/month Roth
$279.00/month HSA (please note this comes directly from web design business)
$475/month betterment taxable account

*Please note the Roth and Betterment accounts were started in 2017 after finding the money mustache blog so all have negligible amounts, around 10k each.

Surplus:

Currently, there is a $2,145/month surplus I’m not sure what to do with.  By February 1st, 2018 this will rise to 2,545.24/month…. I’m not sure what to do with this extra money.

My gut tells me that the best thing I could do is shove it all into the loan on the 6 family property that is with the bank.  This property is already cash flow positive, and once the loans are paid off it would generate positive cash flow of around 5,000/month.  *Please note, the finances of this property are all logged in the separate real estate company, as an added safety margin I want to keep these separate from my own personal finances which is why I did not include the numbers in my post.

The other option I’ve been weighing is that on the one year anniversary of employment I’m eligible for a 401k from the company I work at. This anniversary is Feb 1st 2018. I’ve never had a 401k but they do seem advantageous to reduce taxes… Should I max out the 401k and then put anything that is left towards the commercial loan on the 6 family?

Please let me know if any other details are needed to provide advice, and Please let me know your thoughts on where best to allocate the current surplus! 

Thanks!

[GGNoob]

I would max out the 401k as soon as you can contribute and the put the rest into a taxable brokerage account.

This is my preference, but the mortgage interest rates are too low to bother paying off.

[belly05]

Thanks for the advice GGnoob!

I have been worried that paying into the mortgage is more an emotional move and not the financially "correct" move. Do you know of any online calculators I could use to 100% verify?  Or is it really as simple as:

paying mortgage off nets me 4.5% return

vs

maxing out 401k nets me 7 - 8 % return from the market + tax benefits
moving the rest to taxable brokerage accounts nets me 7 - 8% return from the market

[jpdx]

Without a doubt, max out your tax advantaged accounts. That means 18.5k/year in your 401k.

Do you still have self-employment income? Then you can also do a SEP IRA.

Do you have kids? You can do a 529 and save 9% on state income tax.

Check out "Investment Order" at the top of this forum.

Enjoy those bike rides through Forest Park!

[belly05]

Without a doubt, max out your tax advantaged accounts. That means 18.5k/year in your 401k.

Do you still have self-employment income? Then you can also do a SEP IRA.

Do you have kids? You can do a 529 and save 9% on state income tax.

Check out "Investment Order" at the top of this forum.

Enjoy those bike rides through Forest Park!

Thanks Jpdx!

I don't have any self employment income, that money is now rent that is sent to the real estate company each month.  I do have a SEP IRA from previous years that I forgot about though!  I'll make sure to ask the accountant when we do our taxes next month if I can contribute any to that for 2017.

no kids right now but I'll mention the 529 to my sister since she just had triplets so that will probably be really useful for her.

I'll look for the investment order post now.

And thanks, the bike rides are so much more enjoyable than I thought they would be!  Its honestly probably my favorite part of the day now.

[jpdx]

Regarding the SEP, you need business profit in order to contribute, and the max is usually 20% of profit for self employed people.

Regarding the 529, note that this goes at the bottom of your (or your sister's) investment order. It only makes sense to contribute here if you've already maxed out the other accounts, which provide savings on federal *and* state income taxes.

[MrUpwardlyMobile]

As others have said, max any tax deferred accounts (401k).  I’d look into whether you can contribute to a Roth IRA next and then tend to diverge from the others though.  I’d split any surplus between investing in a tax deferred account and your highest interest loan.  4.5% on your home is not too far off a modest return from the mark with an index fund.  The difference is that the loan yields a guaranteed gain in the short term while the market can do all sorts of things in the short term.  Re-evaluate the allocation for the surplus every 12 months.