Where to place inheritance, check my math

[markstache]

Hello 'stashers,

My grandfather recently passed away (after 94 great years). He was kind enough to leave me $18k in mutual fund and bond holdings. With expense ratios greater than 1 percent on the mutual funds, I'm planning to liquidate the funds.

I would appreciate suggestions on the optimum way to allocate these funds.

Background:

- Mortgage: we owe $73190 of $77500 @ 3.875, w/ $33/mo MPI
- Student Loans:
  - 2251 @ 3.4
  - 253 @ 2
  - 15k @ 2.375

No credit card debt, and we own our car outright.

With changes in jobs for both my wife and me this year, I'm not certain of our exact income, but we should be squarely in the middle of the 15% marginal tax bracket (US). We could contribute up to $9800 to IRAs. I could start a 403(b) through work, though no match.

When I finish graduate school in 1.5 to 2 years, we plan to sell our house.

My proposal: use $11.5k to make a one time payment on the mortgage and place the rest in Roth IRAs. The advantage of this plan is that we would have 20 percent equity in the house and could end the mortgage premium/insurance. If we were to sell our house in July 2014 (probably the earliest that it could happen), we would have saved $660 in
premiums and $766 in interest. This seems like a 12.4 percent ROI to me.

Does this plan seem reasonable to you? Have I done my math right?

Thanks!

[Another Reader]

You are probably going to have to spend $400 to $500 to get an appraisal to get rid of the PMI.  If you are selling in two years, why bother?  If you have enough income to fund the Roths without some of the inheritance, in your shoes I would probably pay off the student loans and be done with them.  Otherwise, I would fund the Roths and pay down the student loans, assuming I had a solid energency fund.

[markstache]

Your point about the appraisal sent me to do more digging, as I thought I wouldn't have to do that with an FHA insured loan. I was right, one just has to reach a loan-to-value ratio of 78%. The caveat I forgot, however, was that one has to pay MIP for 5 years. As I just recently refinanced, paying down early won't stop the premiums.

Your suggestion is reasonable. I'll probably do something similar to what you suggest.

[sibamor]

This pokes at a larger question I have about inheritance and taxes. I generally follow the rule of thumb "any reportable gift money/cars/etc I save 25% in case of tax implications later" especially as we move into higher and higher tax brackets. I need to do more personal research to avoid a tax payment in the future.

I agree with Another Reader.  You can eliminate 17.5k of student loans debt and take those payments and apply them towards your mortgage to build more equity over the next two years.  Same effect but you eliminate a bunch of unnecessary interest payments for student loans and work on the mortgage versus just on one in order to eliminate a $33/mo expense.

If you shoot me the $/mo payments (required and actual) for MORT and Student Loans I can show you the interest savings you would make.

[marty998]

Yep I agree with paying off the student loans. The problem with leaving small debts with comparatively low interest rates is that they hang around for much longer than they should and end up costing you more than they should.

I reckon there's a psychological benefit to getting rid of 3 of your debts. Frees you up to focus on solely attacking the mortgage afterwards without the hassle of juggling payments to 4 different loans.

Good luck

[markstache]

Monthly student loan costs:

- The $2251 @ 3.4% and the $253 at 2% are held by the same company and the combined cost is $135/mo.
- The 15k @ 2.375 is currently in forbearance as I am a graduate student (the other debt is from my wife's undergrad)

For completeness, there is also a $78/mo payment towards $2k at 0.14% (yes, you read that correctly). I didn't list this one before as the interest seems absolutely trivial.

As for taxes, it is my understanding that the inheritance will not be taxed as income, but is subject to capital gains. However, the basis for the gains is set at the time of my grandfather's passing, so the funds will not have gained or lost much in that window.

[sibamor]

Avoided Interest:
2251 @3.4 and 253 at $2 total interest going forward is 71.82; payoff July 2014.
2k @0.14 interest is 3.45, payoff Jan 2015.

All this is no biggie.

The forbearance 15k at @2.375 startled me at first. It would behoove to dispose of this due to the fact you are just accumulating interest. Thus increasing your principle! I would encourage you to get rid of this as each month adds $30 of interest to your principle.

If you were to take that 11.5k to your mortgage you will be adding ~$40/mo towards your principle due to the reduced interest burden.

So over the next 18 months
No change in mortgage payments: ~4316 in interest payments
make a 1 time 11.5 balloon payment: ~3629 in interest payment
Payoff all loans and use balance towards mortgage: ~4130 in interest payment

I stand correct myself the best option would be to do your original plan.  But that forbearance 30/mo extra makes that reduced 40/mo a net 10/mo. I say get ride of the loans and contribute towards the mortgage with the absence of debt payments.

Good luck with the grad classes!