A dilemma

March 11, 2009 · 8 comments


I’m torn I don’t know what to do. I essentially have $25K in student loans, this is my only debt. I am able to save about $2k every month. I am torn because I have not yet figured out the ratio of debt payoff to future house savings that I am comfortable with. My minimum payment is $178 a month for the next 20 years on the student loan. I currently make double payments every month which has my student loans being paid in full in approximately 8 years.

I am determined to buy a house within the next two years and have a goal of having between $50-100K in the bank by the time I do that. I currently have $12k in savings and have been stock piling that cash as I am not completely sure what I want to do with it. If I was super intense I could use $7K of my savings and then throw all $2K each month at the student loan which would mean it would be paid off by the end of the 2009. However, doing this puts me three to five years away from buying a house. Although I hope to have about $75K in savings when I do buy a home I have no clue how much of that I will actually put down (too many unknown factors like interest rates, house prices, job security, etc). I do feel like I should throw as much money at the student loan as possible because that 7% interest is no fun. I would be getting a guaranteed 7% return on every dollar I put towards it…which is faaaaaaaar better than my online savings, Roth IRA, or 401K have been doing.

I guess I shouldn’t complain to much…at least this is a good problem to have. I just am unsure at this point in my life how to make that $2k in savings work best for my goals.

Drop it like its hot,

{ 8 comments }

1 J. Money

yessirrrrr, having $2k to play with every month is DEF a great problem to have! but you’re right, gotta have a gameplan up and working.

it’s too hard to tell which is the best way w/out knowing ya all that much, but if it were me i’d just split it right down the middle – pay off $1k and then save $1k. I usually like to go one extreme or the other, but if you have two main goals in mind like that, this would help satisfy both of ‘em pretty nicely.

guess you just gotta determine how fast you want that house ;)

2 Living Almost Large

What’s the interest rates? I’d probably also do the same, $1k to home and $1k to debt.

3 One Chance To Live

Interest rate on the school loan is 7%. Interest rate on the savings account is only 1.65%. Part of me just wants to put it all in savings and once I have a $25k balance decide what to do with it and maybe throw it all at the school loan.

4 Anonymous

I would not put it all in savings, that is a mistake considering the rates. Figure out exactly how much money you want and when you want that amount of money. Then all you have to do is figure out how much you would have to save per month to reach that goal, and put the rest towards the student loans.

Hoopsrule44@yahoo.com (Finance at Goldman)

5 One Chance To Live

Hoopsule: I totally see the wisdom behind that and the math obviously favors that logic. I guess my biggest dilemma with paying off the student loans aggressively is that I want a GIANT downpayment (between $50 and 100K) and if it would delay my home buying at least a year. I probably will start to pay down my student loans quicker though, because with the different in interest rates that makes the most math sense.

6 Abby

Okay, a couple points of contention. Your “savings goal” seems to show that you have $23,000 saved but you say you have $12,000ish.

Also, you don’t really explain the deal behind the “two years.” I think it’s dangerous to assign random goals like that. You get stuck to them. And they can cause you to do things like not pay off 7% debt so that you can put money in a 1.65% savings account. Why two years? What’s so bad about 3? Or even 4 or 5? Ask yourself whether your motivation is based on logical assumptions or just an overall gut motivation.

I’m also just a little worried about the fact that you have all the numbers down pretty pat, but have a) an extremely large range on what you want to save ($50k to $100k is kind of a big gap) and b)that range is only barely mathematically possible. You later say you’re hoping to have “around $75,000″ by the time you buy a house, but you have $12,000 in savings, can save around $2,000 a month, and want to buy within 24 months. Not mathematically possible. Even if you get a raise, which is iffy in this economy, you’d have to throw every cent into savings. Overall, I think you’re being overly optimistic. Which is okay. It means you’re goal-oriented and very driven. But it also means you’re setting yourself up for perennial disappointment. (I just did a piece about financial optimism that apparently we all have. It shoots us in the foot more often than not.)

So, you need to assess the viability of your plan. To begin: You have $12,000+ If you want to have $50,000 in 24 months, you could just about do it. Technically, you could do it in 19 months if you put every cent of the $2,000 in your savings. But, of course, you can’t do that because $178 minimum has to go to the loan payment. In fact, as you said you’re paying twice that, or $356. So that leaves $1644 a month. In 24 months, you could save $39,456 and have a total of about $51,456 plus some rather minimal interest.

In the meantime, your student loan will have been paid down to $20,250 (assuming monthly compounding). That means that you would have made $7912 in student loan payments, but almost $3200 would have gone directly to interest. That’s a little too close to half for my comfort zone.

So my first suggestion is to take a look at the interest in various payoff scenarios. That may help you decide just how quickly you want to save.

For example, if you took J Money’s advice and paid $1000 on each, you’d have a lot less in savings, sure. But your student loans would be down to just under $4100. And how much of what you paid would be going to interest? $2064. A lot more headway and you get to pay less interest.

My own comfort zones would have me concentrate everything on the student loan debt, simply because it makes no real mathematical sense to save at 1.65% and have debt accruing at 7%. So I would take maybe $9,000 and pay it on the student loan and then focus most of the payments on that. (Keep some aside to beef up your emergency fund/savings.)Then you can start 2010 with a clean slate and just start saving like a madwoman.

And while you’re saving for a house, clear of student loan debt, you can start to figure out more about how much you’d want to use for a down payment, or need to use given that mortgages are getting tighter. You can find out more about the overall process, and get a better idea of the price range of house you’ll be looking for.

7 One Chance To Live

Abby,

First of all thank you for your lengthy reply. It makes me feel good to know that people you care enough to take the time to respond so thoroughly. With that I guess I should clarify my personal situation a little better.

1) I currently have $12K in my online savings account. The $23K that appears on the upper right hand side is a combination of savings and investment accounts…perhaps I should retitle that graph to make it more clear what “savings” means.

2) I know the range for my down payment for a house is rather large (between $50K and $100k). There is one main reason for this large gap…I will most likely be getting married in the next year and with the help of dual income would be able to save the larger end of that spectrum (closer to the 100k).

3) As for the “raise” issue. I am a government employee and work on what is called a career ladder. That essentially means I get promoted every year for a certain number of years. The raises are significant ($10k and higher) each year for the first three years, after three years the promotions are less significant (like 2k. So even though the economy is rough, I will receive my promotion every anniversary I am with the Fed. I currently make 50K and on my two year anniversary I will move up the career ladder to $62K a year (In which I should be able to save every extra dollar I make as I have not changed my standard of living). Now obviously this is not a guaranteed future income because I could lose my job, but it is as close as you can get to it. And far more likely to come than if I worked in the private sector.

4) As for the $2K that I put in savings every month that is literally SAVINGS. It is after I have paid all expenses (including doubling my school loan payment). So that 2K number is what I literally put in savings and it doesn’t get touched again.

So hopefully that provides a little background in to my situation. And yes I may be slightly optimistic, but I also think my goal is realistic. Here is the math I have run…and maybe I am overlooking something,but it looks right to me. I can save $2k a month for the next 10 months totaling $20K. In 10 months I will receive my government pay increase and have an additional $700 each month I can put in to my savings. If I save $2700 a month for 12 more months that would total $64,400 22 months from now (10 months at 2K, 12 months at $2,700, plus my 12K already banked).

As for the math. I know the logic of paying down high interest debt and ran all of the same number you have. I agree with you and J money that it is best to pay down the student loan quickly and that is probably what I will do. I guess my article was dealing with the “personal” side of finance and struggling with the desire to buy a house. I’m almost sure interest rates will have gone back up and so will house prices, I would love to try and catch the market before it has rebounded a great deal.

Thanks again for your comment, it was greatly appreciated!

8 Abby

Okay, well that clears a few things up.

First of all, congrats on the marriage. Although you need to factor in the costs of the wedding. (We did ours relatively cheaply but it was still around $2,000-3,000. Plus the honeymoon. Of course, you can split the cost, since it sounds like your gf works.

Second, and this is going to sound condescending but isn’t meant to be: I’m glad you understand the difference between logic and emotion. One of the hardest things to do in PF is balance the two. And no one can really advise you well on that because you have a unique viewpoint. My emotions make me hate debt with a passion. So I tend to overfocus on paying down debt. But my husband had had his student loans for almost 10 years, we’d had to rehab them and he was just desperate to get rid of them. So I agreed to overlook the obvious math logic and focused on those instead of credit card debt.

Frankly, I’m a little shocked that the government hasn’t frozen pay raises yet. I would have assumed they would. At least here in WA, we’re looking at a huge shortfall. They’re threatening a bunch of social programs as a way to make ends meet. Lovely.

But if you think you can rely on those raises, then it’s good to look ahead. I’m guessing that your gf doesn’t have debt to cope with? (By the way you say you think you’ll probably be married in a year… be sure to give yourselves some planning time. Best way to save money! Unless you’re lucky enough to have relatives willing to pay.) Also don’t forget money FROM the wedding. That may help your goal.

I guess the big question is how much of a hurry you’re in to get into a 30-year debt (even if you don’t plan to take that long to pay it off) before paying off debt you could be done with in as soon as 9 months or as long as 8 years. I could breakdown the argument in a million different ways, but you’ve probably already gone through most of them. And deep down you probably already have the answer and was hoping for an echo in here. That’s how it goes with most advice seekers, I think. Myself sometimes included.

So if you know deep down that you want the house asap, well that’s that. I would still have you consider something closer to J Money’s idea. If a fifty-fifty split is too harsh, consider $500 extra toward student loans. I still think it’s a worse option (you’d end up with $16,400 in loans and $36,000 vs $4100 and $24,000). But in the end, the numbers need to appeal to you, not me.

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