SVT
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Post by SVT on Feb 3, 2011 16:56:01 GMT -5
I want you to answer the question in the poll based on the below information. Then reply with what you voted (and an explanation why would be nice), then post what interest rate is the breaking point for you personally not to prepay it.
The majority of my student loans ($38k) is at 6.00% interest. That's including the .25% reduction for automatic debit. This is fixed for 25 years that just started a few months ago. I've pretty much made up my mind that, personally, it's not worth it to prepay this debt. I feel that my money can better serve being used elsewhere, ie. stocks. I'm currently below the income limit where interest paid up to $2500 is deductible, too. That lowers the effective rate slightly.
I'm wondering at what point do you decide that it's not worth prepaying the debt? What interest rate is too low to avoid prepaying. I'd like this question answered while thinking of a younger person (20s maybe 30s). To some, that might matter, I don't know.
Again, I want you to answer the question in the poll, reply with what you voted (and an explanation why would be nice), then post what interest rate is the breaking point for you personally not to prepay it.
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Taxman10
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Post by Taxman10 on Feb 3, 2011 17:15:17 GMT -5
I would pre-pay it but that's b/c i don't like debt. 6% though is probably the limit I'd look at for prepayment though. 3% I probably wouldn't pre-pay, 8% i definitely would. 6% might be a toss-up??
GOOD LUCK!!
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spartan7886
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Post by spartan7886 on Feb 3, 2011 17:20:02 GMT -5
I voted yes - we currently double up on a 4.75% mortgage. I could probably talk myself out of prepaying interest under 3.5%, figuring that's a pretty good number for long term inflation. I'm not sure I could get DH to not prepay on a 0% loan.
For debt like your student loans or our mortgage, just because I would prepay doesn't mean I would throw everything I have at it. It's more about the warm fuzzy feeling than the ROI. I would concentrate on funding EF and retirement first, and then if you are doing that adequately, divide remaining money between other savings and after-tax investments and prepaying low interest debt.
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phil5185
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Post by phil5185 on Feb 3, 2011 17:20:18 GMT -5
I borrow 'long, low fixed rate' capital and invest elsewhere. Usually I add to the mortgages (refi) on our houses but also on car notes, 'zero' credit cards, etc.
But my favorite is 30 yr, FR, - the 30-yr means that I can service the debt with a very small cash flow, and the FR means that I am insulated against rate hikes almost forever, yet I have the option to refi again if rates go even lower.
Right now my threshold would be about 6%. (I have one at 5.75% that I'm keeping). Years ago, I have used up to 8% loans and invested at 15% to 18% - that spread actually worked better than today's '6% cost' / '11% return' spread. My guess is that, at some point in the next 30 yrs, a young person will be very pleased to have some 6% FR money locked in.
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Post by Savoir Faire-Demogague in NJ on Feb 3, 2011 17:22:09 GMT -5
I agree with Taxman. 6% is border line. Isn't student loan interest tax deductible??? That would factor in also.
I have not had any consumer debt in nearly a decade. I had $3200 in student loans from the mid 70s. The only debt I have is the mortgage on my summer place, and the interest rate is 6.125%. I am 8 years into a 20 year loan. Just payin' it one month at a time.
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Deleted
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Post by Deleted on Feb 3, 2011 17:23:27 GMT -5
I think i would pay off 6% debt. Our highest interest student loan is 5.25 and we are thinking of paying that off.. that is right on the line for us.
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Post by stillontheroad on Feb 3, 2011 17:27:04 GMT -5
I voted no in the poll, but I'd like to qualify that: I wouldn't prepay a 6% fixed-rate SL unless I was already saving and investing everything I wanted for retirement (ie, 20%+) and had a totally-funded emergency fund (whatever that means to you). 6% is high enough that I wouldn't automatically choose never to prepay it, but I'd need to really have all my other ducks in a row before considering it.
Actually, since you said that you can fully deduct the interest, that means the effective rate is actually 4.5-5.1%, correct (depending on whether you're in the 25% or 15% bracket; I don't recall which one the cutoff falls in)? That pushes me even further to no.
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runewell
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Post by runewell on Feb 3, 2011 17:34:44 GMT -5
Assuming you're in a 15% tax bracket and the interest is deductible, then your effective rate is 6.0% x 0.85 = 5.1%. That's not far off the rate of a 30-yr mortgage. I would probably divvy whatever I had leftover into equal portions of (1) retirement savings, (2) an emergency fund, and (3) student loan prepay. Your emergency fund probably doesn't need to be terribly big, but a few thousand dollars is a good idea.
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Angel!
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Post by Angel! on Feb 3, 2011 17:41:24 GMT -5
As a young person, I wouldn't prepay the debt. Personally, I would focus on other goals first - maxing out my 401K, saving for a DP on a house, saving an EF. Putting all your extra money towards a fairly low interest & tax deductable debt pushes all these other goals years further into the future.
Given that you have a good 30 years until retirement, then there is a very good chance anything you invest now will get you a 10% annual return over that time, giving you a much better return than prepaying a debt that is under 5% after tax.
If you were older or feel you are adequately addressing you other financial goals & would feel better prepaying the debt, then my answer would change.
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SVT
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Post by SVT on Feb 3, 2011 17:50:21 GMT -5
I borrow 'long, low fixed rate' capital and invest elsewhere. Usually I add to the mortgages (refi) on our houses but also on car notes, 'zero' credit cards, etc. But my favorite is 30 yr, FR, - the 30-yr means that I can service the debt with a very small cash flow, and the FR means that I am insulated against rate hikes almost forever, yet I have the option to refi again if rates go even lower. Right now my threshold would be about 6%. (I have one at 5.75% that I'm keeping). Years ago, I have used up to 8% loans and invested at 15% to 18% - that spread actually worked better than today's '6% cost' / '11% return' spread. My guess is that, at some point in the next 30 yrs, a young person will be very pleased to have some 6% FR money locked in. Ok, great! Thanks for the reply. The last section implied to me that you voted "NO" in the poll?
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SVT
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Post by SVT on Feb 3, 2011 17:55:12 GMT -5
I voted no in the poll, but I'd like to qualify that: I wouldn't prepay a 6% fixed-rate SL unless I was already saving and investing everything I wanted for retirement (ie, 20%+) and had a totally-funded emergency fund (whatever that means to you). 6% is high enough that I wouldn't automatically choose never to prepay it, but I'd need to really have all my other ducks in a row before considering it. Actually, since you said that you can fully deduct the interest, that means the effective rate is actually 4.5-5.1%, correct (depending on whether you're in the 25% or 15% bracket; I don't recall which one the cutoff falls in)? That pushes me even further to no. Actually, this and what Angel D posted, is exactly what I have in mind. I don't mean that I would necessarily NEVER pay this debt off early but I don't think it's worth prepaying before maxing retirement vehicles, having a sufficient emergency fund, etc. To answer some of your questions, I'll be making $55k in a few weeks. I'll likely be putting enough in the 401(k) to push me down to a 15% tax bracket. Student loan interest is deductible up to $2500/year.
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Post by mtntigger on Feb 3, 2011 18:02:56 GMT -5
Nope, at least not initially. $38K may very well be an entire year's salary for a young person. Focusing on that debt when there are other things "more important" at that time such as becoming independent, getting married, starting a family, finding and keeping a job in a rocky economy, buying a house, etc. would be daunting. Besides the "good" things about student loans are that they are deferrable and, just in case you are a pessimist, they die with you. Only when life has settled down would I concentrate on prepaying off the student loan.
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phil5185
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Post by phil5185 on Feb 3, 2011 18:03:26 GMT -5
The last section implied to me that you voted "NO" in the poll? Correct, sorry.
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haapai
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Post by haapai on Feb 3, 2011 18:13:41 GMT -5
Don't forget about state and local income taxes when calculating the effective rate. Since the student loan interest deduction is before the line, it reduces AGI, which is the usual starting point of state and local income taxes.
I'm confused as to why $38K in student loans would have a 25-year repayment term. Shouldn't it be just 20? Or is that $38K just the amount at 6.0%?
I'd probably hold onto it and nickname it my first mortgage.
Do you know when the balance will dip below $20K? If it is not already consolidated, it might be worth taking the eighth-point bump and consolidating it just before it goes below the cut-off for 20-year repayment. That would extend out repayment a bit more.
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SVT
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Post by SVT on Feb 3, 2011 18:28:10 GMT -5
Don't forget about state and local income taxes when calculating the effective rate. Since the student loan interest deduction is before the line, it reduces AGI, which is the usual starting point of state and local income taxes. I'm confused as to why $38K in student loans would have a 25-year repayment term. Shouldn't it be just 20? Or is that $38K just the amount at 6.0%? I'd probably hold onto it and nickname it my first mortgage. Do you know when the balance will dip below $20K? If it is not already consolidated, it might be worth taking the eighth-point bump and consolidating it just before it goes below the cut-off for 20-year repayment. That would extend out repayment a bit more. It was just consolidated a couple months ago through Direct Loans. I chose the extended repayment plan. Based on the amount of loans I have, I qualified for the extended plan, which allowed me to stretch it out to 25 years. I wanted that for added flexibility.
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haapai
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Post by haapai on Feb 3, 2011 18:42:51 GMT -5
Ah well, in that case, you can disregard the down-shifting after 16 years gambit. It's a nice card to hold if the bottom falls out of your profession and you want to move to a LCOL area and take a lower-paying job or career but what is done is done.
I was under the impression that it was no longer quite as necessary to consolidate to get extended repayment, but I'm weak on the details.
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Post by debtheaven on Feb 3, 2011 18:44:45 GMT -5
I'd like this question answered while thinking of a younger person (20s maybe 30s). To some, that might matter, I don't know.
I voted yes, prepay. But, I did it before reading your comment (which I think was your intention).
My interest-rate "threshold" is more like 5%, but I live in Europe and I think interest rates are lower here right now.
After reading your comment, yes, I would still pre-pay. My real reason would be not wanting to wait 25 years to "own my brain". The typical mortgage here was 15 years until recently (it's not anymore) so 25 years for SLs seems VERY long to me.
This said, I wouldn't eat rice and beans and live in a frigid house with no electricity to pay that off in six months. But, I WOULD pre-pay it SOMEWHAT. Initially, I'd probably aim to have them paid off in 15 or 20 years instead of 25. I'd reevaluate the situation the next time something significant changed for me financially.
For most people, most of the time, less debt = more options.
I have learned an immense amount from these boards, but like I often quip, the first word in "personal finance" is "personal". I often find that posters ask if they should "do this" or "do that" but personally I find one can usually work towards several goals simultaneously.
This said, I am pretty debt-averse as well, unless it's for an appreciating asset LOL. I'm wanting to pay off a 2480 boiler loan at 2.75% just because it's really bugging me. That loan came at a very bad time for us 18 months ago but we are expecting an influx of cash soon (we're selling a rental and buying another and "skimming" a bit off) and I just want it and the monthly payment GONE. Our problem is income, not debt load, so for us, paying off debt increases our disposable income. For somebody earning a great salary, paying off that loan would be foolish.
So I think where you are in life (age, income, etc) DOES have a lot to do with things.
ETA: Good luck whatever you decide!
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Post by debtheaven on Feb 3, 2011 19:02:04 GMT -5
There's something else that bugs me about keeping your SLs for 25 years. In 25 years, you could conceivably marry, have kids, pay off a home, and those kids would have finished college themselves by then. Personally I wouldn't want to still be paying off my SLs if I had kids who had finished college. I'd rather be helping them with theirs.
But, I don't know what your situation is, whether you are married, with or without kids, a homeowner, etc.
Obviously there is no "right answer", this is just my opinion. Worth exactly what you paid for it LOL.
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Gardening Grandma
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Post by Gardening Grandma on Feb 3, 2011 19:22:44 GMT -5
I voted "yes" for two reasons. 1) I'm debt adverse and 25 years is nearly as long as a mortgage 2) Prepaying gives you a guaranteed return of 6%
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SVT
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Post by SVT on Feb 3, 2011 19:30:00 GMT -5
I voted "yes" for two reasons. 1) I'm debt adverse and 25 years is nearly as long as a mortgage 2) Prepaying gives you a guaranteed return of 6% If you were 25, would your answer be the same? A 6% return is OK, but at 25, I'd much rather take a little risk for a possible 10-12% return. As Phil says, a risk free return is good if that's what you want. Maybe prepaying the debt could be considered as my bond portion of asset allocation LOL
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mesquite77
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Post by mesquite77 on Feb 3, 2011 19:33:26 GMT -5
I voted no. I believe tax deductible 6% will be a good rate over the next 25 yrs. I'm borrowing as much at 5-7% as I can stomach buying cash flowing real estate.
Full disclosure - We borrowed all of the subsidized loans we could when we were in school and used the $14k as a down payment on our first house. We just refi'd our personal residence from 5.5% to 4.5%. I used part the cash out to pay off the last $5k of student loan at 5.5%. Seemed kinda silly to pay off 5.5%, but it was small and seems like the bankers like that all we've got is real estate mortgages.
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Post by debtheaven on Feb 3, 2011 20:03:52 GMT -5
Seemed kinda silly to pay off 5.5%, but it was small and seems like the bankers like that all we've got is real estate mortgages.
Doesn't seem silly to me, that is exactly why I'm wanting to pay off that small, low-interest boiler loan (2480) and what's left of our car loan (3900). At that point all we'll have left is RE mortgage debt. Rental RE.
That is my goal at this point in my life.
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verrip1
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Post by verrip1 on Feb 3, 2011 20:53:15 GMT -5
OP:
I couldn't possibly answer your Y/N question. Haven't the vaguest idea of your overall situation and how much of your money in % is in question here as well as many other factors.
Only one limited part is clear in your issue, and that I can answer. Do I think you would likely make net more in the stock market than the 6% you pay out in interest? Nope, not a chance.
The reason I say this is because you ask the question in such a narrow manner.
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busymom
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Post by busymom on Feb 3, 2011 21:57:42 GMT -5
Yes, I would prepay this debt. I've never had to file bankruptcy, and very thankful I haven't had to, but have had friends who because of combinations of job losses & health problems had to file, and the one debt you cannot erase is student loan debt. I also don't think you're going to be able to beat 6% in the current stock market. If you have an emergency fund set up, by all means pay this debt early, if you're able.
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SVT
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Post by SVT on Feb 3, 2011 22:20:52 GMT -5
Yes, I would prepay this debt. I've never had to file bankruptcy, and very thankful I haven't had to, but have had friends who because of combinations of job losses & health problems had to file, and the one debt you cannot erase is student loan debt. I also don't think you're going to be able to beat 6% in the current stock market. If you have an emergency fund set up, by all means pay this debt early, if you're able. See the thing is, this would be good advice for the average person who is stupid with money. The ones who buy stuff just because they have the money to blow and who even buy stuff by borrowing money because they don't have it. By me not paying down the debt, the money would be saved, not spent. I think that makes a really big difference. I'd have the money between a savings account, brokerage account, and Roth IRA.
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DVM gone riding
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Post by DVM gone riding on Feb 3, 2011 22:32:26 GMT -5
I would pay it off, but then I can't stand the idea of still having SL debt when my kids are getting ready for college or after even. I am actively paying off SL debt fixed at 5% for 10 yrs, but that is just me. Of course I don't get the deduction any more, if I got the full deduction that would be a different story. Also I first fund the EF and the Roth and 5% to the 401k before I start repaying debt.
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cael
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Post by cael on Feb 3, 2011 22:36:22 GMT -5
I guess it depends. If it were me, I probably wouldn't, only because I have credit card debt I'm working on, which is at at least double the interest rate. My student loan is at 5% I believe and I don't prepay it. I might after my credit card debt's gone, but after that I'll be working on a house downpayment fund, so I probably still won't prepay my SL.
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Opti
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Post by Opti on Feb 3, 2011 22:43:54 GMT -5
"By me not paying down the debt, the money would be saved, not spent. I think that makes a really big difference. I'd have the money between a savings account, brokerage account, and Roth IRA."
The money in the savings account will earn less than 6% in the near future so financially its not a wise move unless you need to build up some savings to CYA. Returns are not guaranteed in a brokerage account and unless you have already successfully gotten returns year after year of over 6% odds are against you in the near future.
If you already had $38K invested in a vehicle that guaranteed interest of more than 7% year over year and could be liquidated easily I'd go for the paying the minimum payment long as possible. However, if something happens in the next 25 years and it isn't paid, the government can take your tax refunds, garnish your wages (which also can hurt future employability). Plus in extreme circumstances, i.e. you need to default, what you will have to pay is going to be interest and fees in addition to the 38K at 6% over 25 years.
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formerexpat
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Post by formerexpat on Feb 3, 2011 23:15:30 GMT -5
I voted no. You can deduct student loan interest making your effective rate about 4.5% [assuming 25% bracket; maybe less than 4.5pc after considering state tax impact?].
On debt that's long term and on the fence of whether I'd prepay or not, I always look at the benefit if I match my asset to the liability [i.e. put the money in a vehicle with the same maturity, 25 yrs in this case, as the liability].
LT returns of bonds are 7%, stocks 10% - blended 50/50 = 8.5%, or a spread of 4% over your liability.
You've got the 30 years AND you can be more aggressive than the 50% split I just gave to earn a higher spread since you're only 25.
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Peace77
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Post by Peace77 on Feb 3, 2011 23:36:15 GMT -5
You didn't mention if you have an emergency fund (EF) or not. I would first have at least 6-9 months worth of living expenses in an EF.
Then, I would put enough in the 401(k) to get the maximum match from your employer.
You don't mention if you have other consumer debt. If so, pay it off next.
Then, I would fully fund a Roth IRA for this year.
Then, I would put the remainder of the funds onto the student loans.
Returns on investments earning over 6% are not guaranteed. Investments can be completely lost in the stock market. However, a paid off debt is is never a loss. You have a guaranteed return on the interest.
If you ever have a financial difficulty or an emergency such as extended illness or injury, less debt is far better than struggling to pay student loans.
Therefore, I vote to pay down the student loans as much as possible.
Paying an additional $10k now will save you 10 years of payments and over $20,000 in interest.
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