| Turning 26yrs in Jan / retirement situation advice |
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Darga19
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Lots of useful info here, thanks oldguy for your well thought out and informative replies. Sorry for being such a rookie here...but there are still a couple of things I'm not fully understanding. Hey...I'm here to learn after all. 
1. The way the student loans are structured now, our minimum payment for (I believe) a ~15 yr payoff is $670 per month, so the loans would need some sort of restructuring to lower the payment down to $355/m. I'm not sure if this is available to me or not, I'd have to look into that.
2. Our 64k loan is made up of about 10 different smaller loans, most of which have rates between 2-3%. However, there are a few loans that have rates up at 6.8%, which total about 5k. Should those loans in particular be paid off before movin to minimum payments?
3. My last question revolves around monthly cash flow. Our minimum mortgage payments and student loan payments together average about $1525/m currently. Since we're expecting to start a family next year I'm expecting to need significantly more monthly income to cover the extra expense as my wife will no longer work full time, we'll have additional expenses around the house, and I'll have to cover a couple of bills and food, which currently comes out of her check. My original thought, as you know, was to get rid of the student loans to try and free up cash
flow each month as soon as possible. You're thought, it seems, is to restructure the loan to lower our minimum payments and free up cash flow, and invest all extra income, yes?
Thank you for your input.
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Tue Dec 14, 2010 1:42 pm |
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Darga19
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Typically, when I receive my tax returns back (around 4k usually), I make an extra $2k payment on my student loans.
This year I think we'll buy into the Vanguard Target fund with $3k instead of making the large student loan payment. Over time, that should yield a much higher return and be well worth putting off the student loan for that much longer.
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Tue Dec 14, 2010 4:33 pm |
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oldguy
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quote:
My original thought, as you know, was to get rid of the student loans to try and free up cash flow each month as soon as possible. You're thought, it seems, is to restructure the loan to lower our minimum payments and free up cash flow, and invest all extra income, yes?
Not exactly - I'm saying that it is better to keep the loans, regardless of the cash flow, so that you retain the use of the borrowed capital - if you "get rid of the SLs" you will have $64,000 less money available to you when your wife stops working.
Let me try another example to demonstrate the concept.
Say that you have a $100k house loan at 5% for 30 yrs that costs $537/m. And you have the cash flow to 'get rid' of it in 5 yrs, ie $1887/m. So you have a couple choices -
1. Pay it off in 5 yrs, then invest the $1887/m for 25 yrs at 11%.
At the end of 30 yrs the house is paid-for and the invesment is $2,876,000.
2. Keep the $537/m loan and invest $1350/m for 30 yrs.
At the end of 30 yrs the house is paid-for and the investment is $3,580,000. ($700,000 more money - same $1887/m cost for both scenarios)
The point is - no matter how quickly you prepay your low-cost loans, you can never catch up with situation 2.
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Tue Dec 14, 2010 4:35 pm |
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Darga19
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Thanks, I completely understand that explanation you gave. Makes total sense in the long term. But what about factoring in a change in ability to meet the (high) minimum payments due to a reduction in income?
Let's look at some real-ish numbers. Currently, we're making minimum payments on some SL's and paying extra on others, to the tune of about $300/m, so that's $300/m extra 'disposable' income we can move around now. We also have a couple of interest free short term Home Depot and such credit card things that will be paid off in July, before the no interest period runs out, which will free up another $500 to move around at that point.
Ok, say we have a baby 2 years from now and my wife stops working, shorting us roughly $1200/m in income. If we stop paying extra on the student loans now and throw the $ in the bank, plus put the extra $500/m in the bank starting July, that would give us about $16k in the bank in 2 years.
Now at that point, that big $670/m SL payment is still hanging around, and yes we have a lot of $ in the bank, but I'll still have that blanket of a high minimum payment to absorb when she stops working, plus the food and bills that currently come out of her check.
Now, if we pay down $15k extra in loans, that will give us a smaller minimum payment at that time by about $150/m or so...just an estimate...which would certainly make things easier on me when our income decreases. All the while, we can open our Roth like I mentioned above and start investing for retirement there as well...in smaller amounts...which will grow and we'll access at retirement.
What I didn't account for was the return we'd get on the $ if we invested it rather than pre paid the loans. Obviously as you said, in 30 years the invested $ would outweigh prepaying the loans...I definitely see that. But, we'd get no relief from the high minimum payments 2 years from now when our income decreases.
I totally understand your explanation of keeping lower interest debt around and using the extra $ to earn higher returns....but that assumes your ability to keep up with the minimum payments won't change, right? That's where my concern lies.
Is the best option ever to find balance and pay down debt while investing simultaneously?
Thank you for your thoughts...they are appreciated.
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Tue Dec 14, 2010 7:02 pm |
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Darga19
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Thanks for your input as well!
Its oh so true that things change so rapidly...lots of adjustments will need to come into play as things arise.
I'm just a young spring chicken now (lol) here trying to learn from people that know what their talking about much more than me. I've set myself up at a good starting point I believe in my mid 20s...but by the time I retire SS age will probably be 92 and I'll be funding my own retirement...so it's on my mind right now as a high priority to at least get some plans in place and think about this stuff.
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Tue Dec 14, 2010 8:42 pm |
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oldguy
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quote:
and my wife stops working, shorting us roughly $1200/m in income. If we stop paying extra on the student loans now and throw the $ in the bank, plus put the extra $500/m in the bank starting July, that would give us about $16k in the bank in 2 years.
Maybe you could start paying the min on all loans now and bank her $1200/m for the next 2 yrs. That gives you over $25k in reserve. Then, after you have babies, draw from the $25,000 occasionally if req'd to make a payment. But, again, don't prepay the loan, set the money aside elsewhere - once you put it towards a loan it is gone.
Think of it as a 2-year pilot run to test the theory of living on your income only. Thinking back (way back, LOL) DW stopped work while the kids were preschool age and we lived on my income. Then she went back to work when the kids started school. Some years she worked the 3P to 11P shift, that way the kids only spent a couple hours at DayCare. She is a nurse, worked part time, usually 3 to 4 days/week.
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Tue Dec 14, 2010 9:08 pm |
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Darga19
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quote:
Originally posted by oldguy
Maybe you could start paying the min on all loans now and bank her $1200/m for the next 2 yrs. That gives you over $25k in reserve. Then, after you have babies, draw from the $25,000 occasionally if req'd to make a payment. But, again, don't prepay the loan, set the money aside elsewhere - once you put it towards a loan it is gone.
Think of it as a 2-year pilot run to test the theory of living on your income only. Thinking back (way back, LOL) DW stopped work while the kids were preschool age and we lived on my income. Then she went back to work when the kids started school. Some years she worked the 3P to 11P shift, that way the kids only spent a couple hours at DayCare. She is a nurse, worked part time, usually 3 to 4 days/week.
LOL...good to know I was on the right track thinking wise...I forgot to post above that when we do get pregnant, I was planning on banking her full income and practicing living on my income alone for those 9 months. We're both hoping she'll go back to work part time also...but not sure exactly when of course...so practicing that for a while wil let us get used to the single income thing and also leave us $10k in savings at the end of 9 months.
Also, as nice as it would be to have $25k in the bank for reserve, wouldn't I get a better 'return' by paying th loan? Since we're not talking about a 30yr/11% return investment, saving that 3% on interest is more than we'd earn in our Ally account or similar at 1.3 ish %. Unless there would be a better place to store our reserve than that...?
Very interesting philosophy...I really hadn't thought about it from that angle...continuing to pay minimum payments while stacking up a load of reserve cash is sort of counter intuitive. But on the flipside there is an obvious benefit to having that much extra cash at your disposal...and once that greedy broad Sallie Mae gets my money...it is indeed gone for good. Lol.
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Wed Dec 15, 2010 3:09 am |
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Darga19
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quote:
Originally posted by coaster
Well, at least you'll be funding MY retirement during your working years. 
Well...thankfully I have that on my side! 
quote:
Originally posted by coaster
Ya, I know, if I was your age today, I'd feel the same way. The whole Social Security program somehow got twisted from an old-age anti-poverty program to a government pension, so now it's conceived of as the latter, while still being operated as the former. I don't know what the answer there is. But planning now to fund your own retirement.....sounds like a smart move to me.
I'm not sure what the answer is or if there ever will be an answer. I'm just assuming I'll get screwed and not get anything or they'll raise the age so high it won't really matter at that point. If I ever can collect some SS and actually put it to good use I'll be happy then but I refuse to count on it!
My goal is to live modestly, keep a smaller house and what not, and spend wisely when we do spend. Save as much as I can, and earn as much extra income as I can via my side business (I'm a gigging musician on the weekends).
Plus there could potentially be a large luck factor for me. They say the economy hits a large downturn every 100 yrs or so. If I was fortunate enough to go through the major economic downturn of my lifetime at such a young age and things are generally positive for the next 40 ish years, we could be very lucky and make out well. I bought my house cheap (although I'm still underwater on it...ugh) and I started investing when the market was low. So...hopefully our outlook in the long term is positive...at least we have to think that way!! 
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Wed Dec 15, 2010 1:07 pm |
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oldguy
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quote:
Also, as nice as it would be to have $25k in the bank for reserve, wouldn't I get a better 'return' by paying th loan?
I used 'in the bank' as a generic term for keeping the money - I have always kept ours in a taxable SP500 index fund, averaging 11%/yr. And when we have short term needs in a 'down' market, I borrow. That way we are always in a long term 30 yr product, never in savings accounts.
Eg, I never pay cash for a new car, I 100% finance and leave our $30k in the SP500. On average, the $30k doubles to $60,000 in 6 yrs and the $30k car ends up costing about $33,000. If, instead, I pulled $33k out of our SP500 fund, I would use $3000 to pay my capital gains tax and $30k to pay cash for the car.
SS - when I was a fresh-out engineer in 1963, I went to Personel with one of my first paychecks and asked 'how do I opt out of this?' LOL - and then I went on to pay the max contribution for 35 yrs straight. If I could have had the SS contribution (and my employers contribution) I would have an extra million or two today.
OTOH, many people wouldn't, they would spend as they go and now we would be covering them via welfare. So we need the SS Net - not everyone can have a full-time high paying job fopr 35 yrs.
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Wed Dec 15, 2010 1:37 pm |
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Darga19
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quote:
Originally posted by oldguy
I used 'in the bank' as a generic term for keeping the money - I have always kept ours in a taxable SP500 index fund, averaging 11%/yr. And when we have short term needs in a 'down' market, I borrow. That way we are always in a long term 30 yr product, never in savings accounts.
Eg, I never pay cash for a new car, I 100% finance and leave our $30k in the SP500. On average, the $30k doubles to $60,000 in 6 yrs and the $30k car ends up costing about $33,000. If, instead, I pulled $33k out of our SP500 fund, I would use $3000 to pay my capital gains tax and $30k to pay cash for the car.
A taxable account...can you describe the upsides and downsides to this approach? I'm not too familiar with this. Is it an appropriate choice for a non experienced investor such as myself? Is it accessible money, similar in that respect to a savings account, or is it like a retirement account?
Also, the question I still find myself asking is, don't you feel trapped by all those minimum payments?? I mean, say you really couldn't afford to take on another minimum payment for a car or something without sacrificing something like savings or retirement contributions?. If the market was down and you had your money in stocks, you could be in a bad spot right? Whereas if you paid the loans down, you'd have 'extra' money available to you on a monthly basis. If the market was high you could sell and not take on the extra monthly payment, but if not, would it be worth sacrificing something at that point...?
Hmm so let me see...what I need is an accessible and safe investment option with a return that will all but guarantee beating the rate on my student loan!! Easy right? That way, I'd be earning more than I'm paying in interest on the loan, and if something came up I could always pull from the investment rather than taking on more debt and more monthly payments that I might have to struggle to make. Options...or am I living in a dream world...? Lol. I expect the latter.
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Wed Dec 15, 2010 3:38 pm |
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oldguy
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quote:
Account types - the key metric is return, stay in 10% to 12% investments. The tax status of your accounts is way less important than that return. There are 3 tax status categories - 401k (pretax), Roth (posttax), and taxable. The taxable account is immediately available (2 days) - it grows tax deferred, when you need to sell some you pay only a 15% max capital gains tax on the profit. A very useful account, often overlooked in these days of 401k & Roths. And it is reversible, you can overfund it, and then take it back next week if necessary.
That is from my Dec 13 reply above.
A taxable account is an investment with a broker that is outside of the govt retirement system - ie, a personal account in a fund company such as Vanguard or Fidelity - or a broker such as Charles Schwab. We use the SP500 Index Fund at Vanguard.
quote:
Also, the question I still find myself asking is, don't you feel trapped by all those minimum payments?? I mean, say you really couldn't afford to take on another minimum payment for a car or something without sacrificing something like savings or retirement contributions?.
That would be your clue to NOT buy another car. Actually, cars are one of the primary limits to wealth in the US, low earners seem to like $50,000 4WD Big Dually pickups that take an enormous % of their income (yeah, I know, stereotyping). But most millionaires drive older cars - Sam Walton of Walmart drove an old pickup, a local owner of 11 dealerships drives only decade old cars, and so on. A late-model car depreciates at $4000/yr, if you upgrade it at 5 yrs, the $4000/yr goes on forever - that amounts to a few million by the time that you are 80. Kinda funny - our local school parking lot is full of new cars as the teachers try to keep up with the Joneses - except for an old 82 Chev pickup parked under a tree (the wealthy math teacher).
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If the market was down and you had your money in stocks, you could be in a bad spot right? Whereas if you paid the loans down, you'd have 'extra' money available to you on a monthly basis.
LOL - you're still missing an important piece of the puzzle. If you paid the loans down, the money will be GONE. Eg, a $20k loan - you can struggle to pay it down in 20 months - or, you can keep it and put that $1000/m into the bank and have a new $20,000 account. Would you prefer ZERO cash and no loan - or, $20,000 earning 11% and a $400/m commitment to a $20k loan?
But, yes, if the market drops to half value just as you face an emergency, you are forced to make an unfortunate sale - and your emergency has been compounded. In 35 yrs, the 11%/yr returns have FAR out weighed any unfortunate forced sales.
quote:
Hmm so let me see...what I need is an accessible and safe investment option with a return that will all but guarantee beating the rate on my student loan!!
The 'accessible' part is correct. But you should avoid the "safe & guarantee" parts, you can never build wealth that way. A wage earner cannot 'save" their way to wealth, you need to use the power of compounding to build wealth - and that means 'risk'.
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Wed Dec 15, 2010 5:13 pm |
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Darga19
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quote:
Originally posted by coaster
Darga, I think your financial goals are exemplary. I wish more people of MY generation (including myself) had thought the way you think when we were that age. My sense is that a much larger portion of your generation is financially prudent, as you are, and that once this country gets through these baby boomers (that would be me), things will be looking pretty good for your generation when you're ready to retire.
Just live your life as it comes, doing your best, steering a middle course, hoping for the best, having a plan for the worst, and being content with the result --- it will work out.
Thank you for the compliment. I know things will work out in the end...but I tend to overthink stuff, especially when I make big decisions. I tend to consider and exhaust every option...to the point of driving my wife and sometimes even myself crazy. 
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Wed Dec 15, 2010 5:18 pm |
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Darga19
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quote:
Originally posted by oldguy
quote:
Account types - the key metric is return, stay in 10% to 12% investments. The tax status of your accounts is way less important than that return. There are 3 tax status categories - 401k (pretax), Roth (posttax), and taxable. The taxable account is immediately available (2 days) - it grows tax deferred, when you need to sell some you pay only a 15% max capital gains tax on the profit. A very useful account, often overlooked in these days of 401k & Roths. And it is reversible, you can overfund it, and then take it back next week if necessary.
That is from my Dec 13 reply above.
A taxable account is an investment with a broker that is outside of the govt retirement system - ie, a personal account in a fund company such as Vanguard or Fidelity - or a broker such as Charles Schwab. We use the SP500 Index Fund at Vanguard.
I must have missed this...sorry about that. Makes perfect sense. Just one question, would this effect tax returns also, i.e. will I get a statement and have to pay taxes as I accumulate earnings, or, just the 15% tax on whatever I sell when I sell it? Also, and I could certainly research this for myself also, are there typically minimums for investing in funds of this sort?
quote:
Originally posted by oldguy
That would be your clue to NOT buy another car. Actually, cars are one of the primary limits to wealth in the US, low earners seem to like $50,000 4WD Big Dually pickups that take an enormous % of their income (yeah, I know, stereotyping). But most millionaires drive older cars - Sam Walton of Walmart drove an old pickup, a local owner of 11 dealerships drives only decade old cars, and so on. A late-model car depreciates at $4000/yr, if you upgrade it at 5 yrs, the $4000/yr goes on forever - that amounts to a few million by the time that you are 80. Kinda funny - our local school parking lot is full of new cars as the teachers try to keep up with the Joneses - except for an old 82 Chev pickup parked under a tree (the wealthy math teacher).
But, yes, if the market drops to half value just as you face an emergency, you are forced to make an unfortunate sale - and your emergency has been compounded. In 35 yrs, the 11%/yr returns have FAR out weighed any unfortunate forced sales.
The 'accessible' part is correct. But you should avoid the "safe & guarantee" parts, you can never build wealth that way. A wage earner cannot 'save" their way to wealth, you need to use the power of compounding to build wealth - and that means 'risk'.
I couldn't agree with your opinion on cars any more! Having nice cars is of the lowest priority to us, so long as they are reliable. I'm 6'3" 215lbs so I like a decent sized car and it has to be big enough to haul guitar amps around...but those are my only real criteria. We both drive GM sedans, one a '99 and one an '01, which we're completely fine with driving until their wheels fall off. When one eventually does need to be replaced, I'll find another smashed up car for $2k and have my father in law help me fix it up (he's a body guy and master mechanic). That will get me a pretty decent lower mileage car for cheap. I don't have any plans to buy a $30k new car anytime soon! Maybe someday when our kids are raised and I'm comfortable I can get that nice summer driver Corvette I've dreamed of having since I was 12.
I suppose a more appropriate example would not be taking on another minimum payment like a car payment, but taking on more day-to-day living expenses as we have children and my wife stops working like I mentioned. Your strategy idea is to continue making the minimum payment on the loans, and just slowly draw from the taxable account (all the while earning nice returns on that money) as needed / when needed to cover these new expenses, correct? If so, I think I finally understand what you mean.
As you can tell, I'm not afraid of asking questions till I'm blue in the face if I don't understand something. Thank you for your time and patience and all the helpful information and explanations.
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Wed Dec 15, 2010 6:02 pm |
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Darga19
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Never mind about the tax question for the taxable account, I just noticed coaster's post about paying taxes yearly and also on capital gains when you sell.
Thanks!
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Wed Dec 15, 2010 6:13 pm |
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portfolio_analyst
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My suggestion is that you do old school practice (life cycle funds).
That means while you are young (between 20-40) you mostly invest in stocks. That's because you can still aford some risk. When you are in middle age going towards old age up (40 - 60) years you invest into bonds and after that you only have deposits in your portfolio. This I think is bullet proof advice.
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Wed Dec 15, 2010 6:30 pm |
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