- 4 years ago
- Wedding: September 2013
Pay off debts
Pay off debts
I recommend doing both. I contribute 10% to my 401k (matched up to 6%), am trying to max out my roth IRA contributions and am paying off my student loans. My income is very modest (42k), which means that I still have to follow a strict budget. I’m pretty much still living the same lifestyle I did as a college student.
Hi OP I have a similar situation to yours.
I think you have to consider what your interest rate is on the loans and what your expected return is on retirement. The longer the money is in retirement the more wealth you accumulate, so if you focus solely on loans now you will miss out on that compounding for retirement.
My plan is currently 20% gross income to retirement. And 10% towards my loans; I’m carrying a relatively low interest rate on my school loans. It’s a pretty aggressive plan but I started saving for retirement late in the game and I’m focused on wealth building.
We have done both. We save 15% of our income and are also aggressively paying off student loan and car debt.
How good at investing are you? If you can earn interest at a rate higher than your debt interest raTe, debt is cheap money and leverage it to make more in the long run.
Pay off those student loans! They have the potential to seriously ruin your life otherwise. You’ll have plenty of time to build up the 401K later.
I paid off $27,000 of student loans in a little over two years (put $1000 of my take-home income into it every month. It was painful for awhile, but life is all about deferred gratification). Now, I can buy the things I want guilt-free and focus on saving up for a house and our retirement.
I paid mine off last year, after much debate. At the time I was transitioning and jobs and wanted to minimize my monthly expenses. Now that it’s done I feel like I can save much more aggressively for other things. Discipline will always be key, & I honestly have some work to do in that area.
I’m aggressively paying off the student loans. Our reasoning is that when they are paid off, we will start putting the $2500/mo we haven’t missed into retirement savings. H has a pension and we still put some away, so I feel secure enough that the interest savings will benefit us financially and mentally enlighten that it’s worth it.
I think it depends on your age, how much student loans you have, private vs. fed loand, interest reates, if 401k offers match, etc.
The key is balance. Don’t put all your money in one place. Save for retirement, save for a home, and pay off student loans all at the same time. It will take MUCH longer to achieve your goals but by doing so you will be safe and be rewarded later.
I would never save for retirement vs paying off student loans UNLESS my student loans virutally had no interest on them. Think about it this way… you are putting money away and costing yourself money at the same timeif your interest rate is high. Much better to pay them off and save for retirement when it’s not going to have any financial downside.
We prioritize paying loans, but don’t neglect paying into retirement either. Like a PP said, you have to weigh the cost in interest versus the reasonable expected return over the lifetime of the investment. Right now, we pay about 10% of my pay to retirement and 5% to my husband’s with (I think) 3% matching from the employer. We started really young because having the compound interest over the life of the loan was much more valuable than what that small amount would save in less interest from us in paying down our debts. We pay my husband’s entire rest of his salary to debts.
Once we hit paying off all but our 1.99% car loan and 2.99% personal loan, we’ll only pay the required payment for them because there is a very reasonable chance that we’ll make much more off of the compound interest on investments in our retirement than we’d lose in interest. Plus, at that point we’ll be only around $10k in debt. We don’t carry CC balances.
If you want a great tool for choosing which debts to pay first to maximize your money, use powerpay.org.
You may already know this, but in case other bees don’t realize the time value of money…
Just an example: You have a $8000 4 year, 6% loan with payments of $188
Over the life of the loan, only paying the payment amount, you’ll pay about $1,020 in interest.
Now, say you have only $12 to contribute monthly to EITHER your loan or your retirement.
That $12 a month will save you $70 in interest and 3 months on the life of your loan.
Howevever, if you invest that money:
(Loan Payment only and Retirement) $12/month at a 5% CI rate over 4 years = $650 and then $650 in principle + $200 monthly (now freed from the loan) for 26 years (my target retirement age) = $130,030 in retirement
(Loan First, Retirement After) $200/monthly contribution over 26 years at 5% CI rate = $127,655
so $130,030 – $127,655 (to find the difference in earning potential of time between starting investing now or starting when your loan is finished) and then subtract what you would have saved in interest by paying loan with the $12/month instead of investing = $1355. So, overall you have a good chance of making $1355 in the long run even if you pay more in interest by not paying a bit extra on your loan.
Also, that is with a minimal amount extra. Run the numbers for $120 extra monthly towards either and the difference turns from saving about $500 in interest to earning about $9,000 over the life of the investment….Here’s a tool for figuring out the value of compound interest: https://www.investor.gov/tools/calculators/compound-interest-calculator
Really, if you have a long time, it is almost always better to pay into retirement with the extra money if your loan payments more than enough to cover the interest. If they are just enough to cover interest is really the only way the compound interest on a loan is going to be more than the CI on an investment.
However, there are assumptions you need to weigh: are you going to be equally employed throughout the life of the loan? Are you needing that money for another thing (house down payment, car purchase, baby, etc)? These are all things you want to think about and why people generally want to pay down debt first ‘just in case’ something goes wrong.
GrannyPantiesRock: Currently I put 15% into my 401k and pay an extra 100 a month to my student loans. I feel like my student loan bill is completely manageable and don’t want to skimp on my future by aggressivley paying down a mangeable loan. my employer also matches so it would be stupid to not take advangtage of at least 6% of what they match. I increase my contribution every year so next year Ill be at 18%. I am on track for retirement and feel great about it.
I have 9K left in my loan. I am sure if I had 60K or something I would feel a lot differently.
GrannyPantiesRock: if you have match then you should do 401k to get the match. If your work doesnt match you should put at least a few % in 401k while majority to student loan.
Dont stop 401k completely because that money will build so much. But not having debt will make life so much easier so I would focus on paying off debt.
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