The Money Mustache Community
General Discussion => Welcome and General Discussion => Topic started by: Bouessa on January 15, 2016, 11:02:43 AM
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Hi Mustachians,
I'm recently married and my wife and I have been consolidating our finances. My wife has about 40K in student debt, which she was able to consolidate and refinance several years ago at a low fixed-rate of just over 2%. I know most Mustachians believe in paying off all debts as quickly as possible, but I wonder if it's actually to our advantage to keep this debt and pay it off over the next several decades rather than ahead of schedule. This is my thinking:
- The effective long-term return on every dollar we pay toward the principal is 2%. If we redirect those dollars into the stock market the (long-term) return will almost certainly be higher than 2%.
- We hope to be able to buy a home within the next 5 or 10 years, and the regular payments on her student loan will help us maintain our (already high) credit rating, which will lead to savings in the form of a better mortgage rate. We have no other debt, so without these loan payments our credit rating will be based solely on credit cards (which we pay in full every month). My understanding is that regular payments on larger debts count more toward your credit score.
- Although it hasn't been an issue recently and doesn't seem likely to be one in the near future, it seems like debt of this kind gives us a good hedge against possible inflation (i.e. inflation effectively "shrinks" the debt without us having to do anything). Since we don't own real estate and don't intend to invest in the other kinds of assets people use to hedge against inflation (e.g. commodities), this debt is a helpful, diversifying element of our portfolio.
Thoughts?
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I might do something similar to what some people suggest in the mortgage payoff threads. Pay the money you would be paying on the loan to yourself in a separate account--50/50, or whatever risk level you feel is appropriate, even 100% should return more than 2%. Then the money is there in case of a catastrophe, but you can get more than the 2% interest rate on the loan.
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You have a SL with a low fixed rate of 2%... You can deduct what little interest you pay on your taxes and it may help your credit history.
I would not pay this off any earlier than you have to. I'd only consider paying it off after
maxing out IRAs
Maxing out 401(k)s
Saving enough for a down-payment (since that is one of your goals).
Even then I probably wouldn't pay it off sooner. It might help your credit score to pay it off once you being house-shopping because it could reduce your overall debt load, but if your credit score is already north of 720 this might not change anything at all.
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I think your first bullet point is the most valid argument. Props for recognizing the advantages and disadvantages. The second bullet regarding the credit score is valid, but an immaterial point. If you've been on time thus far and have a good credit score your score may be marginally affected, but not enough to affect your mortgage rate.
Another important consideration that you may want to think about is will not paying off the loan help you achieve your goal of home ownership faster? My guess is a resounding "yes". It will hopefully get you to the point where you can put 20% down and avoid the deadly PMI.
If I were in your shoes, I'd keep making minimum payments and plow extra cash into a high-yield savings for your house down payment. Investing in the stock market comes after you hit a 20% cash fund for your down payment.
2% is insanely cheap money!