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Pay off student loan or Buy home?


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I know the answer already, just wanted to get some different opinions on the topic if anyone cares to share...

 

$130,000 (in canadian, CAD) student loans

$61,000 in savings (USD)

 

Current Exchange is roughly 1.30 for US to CAD. 

After the bank squeezes me, it's roughly 1.27.

There's speculation that the CAD may get weaker against the USD by the middle-end this year. 

 

Two loans:

1. Canadian govt loan - 65,000 @ 5.5%

2. Private loan - 65,000 @ 6.3%

 

I could dump 45k to finish off my 65 private loan (@6.3%) with the current exchange rate and continue to aggressively pay my other until we (wife and I) have saved enough to finish the govt loan off. 

 

OR 

 

Buy a house/get mortgage and plan to pay off loans over the course of 10 years (give or take).

 

Dumping that much into loans scares the crap out of me, but at the same time I feel like it's absolutely necessary. My thinking goes like this... currently paying $1500/month split up between both loans. If I can get that debt off my hands I will have at least 1500 extra each month going to savings/mortgage. My current rent is roughly $1100. Once the loans are paid, we would have 2600 (rent payment + extra cash from paying off loan) to put towards a mortgage. We have been looking for homes, and in general our 30 yr mortgage payment would be around $1800 in the price range we are looking (including PMI, taxes etc). If I paid off the loans I bet we could secure a 15 yr mortgage and afford it pretty easily... which is obviously an advantage paying more principal than interest. I think we could have the second loan paid off by end of next year and start looking for a house at that time. It seems like a no brainer.

 

Guess I am just looking for any other advice/way to look at it.

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Why not buy a starter home at the rough equivalent of your current rent expense?  That way, you build equity and credit rating, get tax credits, etc. without dropping more $$ into 'housing' than you are already.  Putting 20% down on something cheap is a good way to dodge PMI.  Most people buy the house they want, not the house they need, and if you get the loans paid off, and then IT paid off, all of a sudden you'll have large amounts of disposable income for travel, retirement, whatnot.

 

Also, you don't HAVE to have a 15 year loan, if your 30 year loan has no prepayment penalty and you're willing to pay extra straight to principal AS IF IT WERE a 15 year (or shorter) loan.  That gives you the benefits, plus more flexibility if something goes south.  Excel amortization spreadsheet shows how much $50-$200 here and there will save you on your lifetime mortgage costs...

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A starter home equivalent to my current rent would be a 600 sq ft shack in someones back yard. Heh. It's the sad truth though. I could turn my current 5 minute commute to a 60 min commute and probably get within that range but I would go insane in that type of commute. I've done it.. never again. Personal preference, but I get what your saying. 

 

Your right, I think a 30 yr would be more reasonable, and give much more wiggle room. I would likely go that route. You see... I think interest is the devil. Which is why I am considering doing this. If i can get a near 1% decrease on a 15 yr vs 30 yr mortgage, while tipping the scales to paying more principal than interest on my mortgage I would be happy. I just did a mock calculation on a 250k loan:

 

30 yr @ 4.5%: $1,266/month ($329.21 principal, $937.50 interest!!!)

15 yr @ 4%: $1,849/mont ($1,015 principal, $833.13 interest)

 

Preaching to the choir here, but that is insane. Clearly, I want to give myself the biggest advantage financially. The way i see it is if I even get a starter home now, most of my cash is going towards interest anyways. Unless my home increases in value significantly without doing a thing I don't see that as a good financial decision.. at least when I have a large chunk of student loan to pay off. 

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Several things to think about:

  1. Mortgage interest is deductible on US federal income tax, making it attractive to buy vs. rent.
  2. Right now, 15 year loans are only 0.5-0.75% lower interest rates.
  3. Exhausting savings to pay off debt leaves you in a bind if you lose your income.  Yes, your monthly expenses are lower, but where will you get the funds to pay the remaining bills if you don't have anything coming in.  If you start a job hunt and need hospital credentialing, you could easily go 6 months without a paycheck.

Right now, my mortgage payment on a ~1300 sq ft house (albeit in the country), is much less than most folks pay for a 2 bedroom apt. closer in.

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Not sure where you are but it sounds like it is probably on the coast. IMO the RE market in many of these areas as well as DC and other major inland cities is pretty frothy. Residential prices in LA, SF, Seattle and Vancouver are also being augmented by speculation money from China any some think this could be responsible for 20% of values in some high demand areas. I have a friend in LA who hates her rental situation and is determined to buy a house for $900K which was under 500 very recently. One common metric to gauge relative value is to compare rental rates to the equivalent house prices and as high as rents are in these areas they are actually somewhat cheap in relation to house prices. This usually occurs near a market top. Also, what you have seen over the last year or so is a plateau with some price deterioration in the slightly less hot areas. This is also typical of a top. We have not had a recession for nearly 8 years and one is probably due. I realize the problems with market timing, but consider continuing to rent and pay off some loan money and wait for a correction. Good chance there will be a significant one within 2 years IMO.

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This is not a black and white issue.  Lot's of variables.  My gut feeling would be to payoff the loans.  Then save towards your home.  I would go for a 30 year mortgage and pay it off in 15 or less.  Double payments.  I do the same with my cars  4 year loan and paid of in < 2 years.  Speak to an accountant. Also where are you looking for a home?  Al markets differ.  Are you both working, etc?

PS My last 2 home I paid cash.  I am debt free.

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I was/am in a very similar situation.  I graduated with loans and had enough cash to either cut my loans in half and buy a home, or continue to rent and pay off around 65% of my loans.  There isn't always a clear cut answer depending on interest rates, RE prices, etc., but where I am located rentals are actually somewhat difficult to come by.  On top of that, I am simply tired of renting.

 

So, we decided to buy a home with a mortgage of ~$1600 (including $65/mo of PMI) and only pay down our loans a portion of the way.  Now we are going to be putting an extra $2000-$3000 each month toward getting my student loans down even more.  We should be completely paid off in 2-3 years.  During this time we are also going to be fully funding our ROTH IRAs and getting the match from my work 401k.  We could probably pay off my loans in 10-12 months if we just focused on loans, but we have the flexibility to continue investments and I think that is also important.

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Debt is bad.  You are never wrong to kill the debt.
 

Debt is also risk.  If you lose your job (injury, lawsuit, arrest, etc....it happens) you are burdened with that debt.

My advice - Keep an emergency savings set aside for true emergencies, then throw everything you've got at your debt.  Live like paupers, work extra shifts, take your lunch with you....and KILL the debt.

You don't mention how much you make a year, but it seems to me that you could be completely out of debt in about 18 months.  Then if you were to save HARD for another 2 years you could likely have 20% down on a pretty nice house, then take out a 15 year fixed rate mortgage.  If you save HARD for another 5-6 years, and threw that money at your house, you could probably have the mortgage paid off in about 7 years.

That's you owning a house outright, and being completely debt free, in about 10 years.

THAT would be my goal.

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Thanks for all of your thoughts. 

 

Boats... make roughly 120k (depending on bonus), wife around 60k. I agree that we could likely have that hefty loan(s) paid off in 18 months. Thats the goal at least. We've never really had a budget, but I am enforcing it now. I appreciate your feedback. 

 

mgriffiths... dang, 2-3k per month toward loan with a $1600 mortgage. I imagine your financial situation is stellar.. or you know how to budget. With our salary I doubt we could ever accomplish that without skimping (we are pretty health conscious and that can get expensive), but that's our lifestyle and we don't really want to budge on that much. 

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$180K, minus $60K for taxes leaves $120K.  Live on $60K (about the average household income in US) and you can be debt free in ONE YEAR.

Live like that for another 2 years and you could 50% down on a pretty nice home.  Then increase your standard of living over the next five years as you pay off the home....then you would be GOLDEN!!

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Our total household income this year will be around $145k.  We have been good budgeters from when we first got married, and the only thing we have done to increase our cost of living since school is our new home.  We rarely eat out, and a fun evening for us is renting a movie from Redbox (with a coupon code - so it's less than $0.50) and getting a pizza (again with a coupon code).  Most would consider us living like paupers or that we are "house poor," but the reality is that we have set financial goals and are working very hard to achieve them.  Honestly, I would like to be have the option to completely retire in around 10 years.  I have zero plans to actually do that, but it would be nice to be able to cut back to part time as I want, or if healthcare continues to go sideways have the flexibility to make changes as needed.  We have other goals as well, but that one goal forces us to really pay attention to our finance if we are serious.

 

Basically, 100% of my wife's income is going towards my student loans, while my income covers our monthly expenses, investments, and then anything leftover again goes toward my loans.  We already have a solid emergency fund that we hopefully won't ever need (yeah right!!!).  Once my loans are paid off, then the vast majority of the money going to debt will go towards investments, which will be around $45k.

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Average household income in the US is around $50-$55k, but isn't that before taxes?  So depending on deductions, average net pay is around $45,000.

 

As for paying off a house as quickly as possible, it is all about interest rates.  I just bought a home last month with a 30 year mortgage at 3.5% interest rate.  Corrected for inflation (assumed at around 2%) that is approximately a 1.5% annual interest.  On top of that I get a tax deduction for any mortgage interest I pay.  On top of that, my investment return over the last 10 years (including the crash of 2008) has been well over 10% (probably closer to 15% honestly).  Obviously it would be wrong to assume that the stock market will always increase, and honestly we are due for a pretty decent correction - but true gains from the stock market have been around 7-8% since its inception.

 

So, if we conservatively assume 1% inflation, my interest rate is essentially 2.5%.  Tax savings bring that down some more, but I'll ignore that.  If we then conservatively assume an annual 5% return on investments, then I come out ahead by 2.5% if I put extra money into my investments rather than pay down my mortgage.

 

Of course every individual has to look at their own financial situation, but I have yet to find a solid argument for paying down a mortgage other than the potential stress lifted by "owning" your home (the quotes are because in most states in the US, you never truly own your home due to property taxes and other related fees/taxes).

 

I am 100% open to reading why it may be better to pay down a mortgage though.  I am always looking for ways to improve financially.

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I would never fund any retirement account until and unless I was debt free.  Tax policy is designed to prompt you to do just that, but I see more value in being debt free than in having a HUUUUGE nest egg squirreled away somewhere.  As medical providers, we're knowledge workers; retirement is a luxury, not a mandate based on how our bodies will be broken down by manual labor.

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Average household income in the US is around $50-$55k, but isn't that before taxes?  So depending on deductions, average net pay is around $45,000.

 

As for paying off a house as quickly as possible, it is all about interest rates.  I just bought a home last month with a 30 year mortgage at 3.5% interest rate.  Corrected for inflation (assumed at around 2%) that is approximately a 1.5% annual interest.  On top of that I get a tax deduction for any mortgage interest I pay.  On top of that, my investment return over the last 10 years (including the crash of 2008) has been well over 10% (probably closer to 15% honestly).  Obviously it would be wrong to assume that the stock market will always increase, and honestly we are due for a pretty decent correction - but true gains from the stock market have been around 7-8% since its inception.

 

So, if we conservatively assume 1% inflation, my interest rate is essentially 2.5%.  Tax savings bring that down some more, but I'll ignore that.  If we then conservatively assume an annual 5% return on investments, then I come out ahead by 2.5% if I put extra money into my investments rather than pay down my mortgage.

 

Of course every individual has to look at their own financial situation, but I have yet to find a solid argument for paying down a mortgage other than the potential stress lifted by "owning" your home (the quotes are because in most states in the US, you never truly own your home due to property taxes and other related fees/taxes).

 

I am 100% open to reading why it may be better to pay down a mortgage though.  I am always looking for ways to improve financially.

1st:  Because of risk.  Lose your job.  Get into an accident and become disabled.  Suddenly that mortgage payment becomes a huge burden, and your house is foreclosable.

 

2nd:  Because it ties up your income.  Can you imagine your lifestyle, and the reduction of STRESS, if you had ZERO debt payments?  You would stop working to make payments, and instead work to live.

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I would never fund any retirement account until and unless I was debt free.  Tax policy is designed to prompt you to do just that, but I see more value in being debt free than in having a HUUUUGE nest egg squirreled away somewhere.  As medical providers, we're knowledge workers; retirement is a luxury, not a mandate based on how our bodies will be broken down by manual labor.

 

 

You must not work in EM...

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Didn't read all responses but are you single or have others in the household?  If single, and I say this seriously if just starting out, consider a moveable home (tiny house, travel trailer) and pay off student debts.  You still have equity in the property, get to pass on paying property taxes on real estate, and can always sell property (at a loss compared to traditional real estate most likely depending on the part of the country).  Home ownership rates in the U.S. are reported to be declining amongst Millennials and Generation-X'ers.  At the same time you're not "fixed" to a particular area of the country if that matters at all.  I'm frankly surprised more college students don't go this route and that I haven't heard of more individuals providing rental space access for same near college campuses.  Cost could be half of four years in a dorm and you still have something at the end.  Just my $0.02.

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Responding to the discussion regarding mortgage vs. debt - I completely agree with the comments about reducing your stress when you have your mortgaged paid off, and I understand the idea that you never truly know how secure your job is - just ask all those people in 2008.

 

BUT, this is why you have a 4-6 month security fund that is liquid.  It doesn't have to just be cash sitting in a savings account, but it can be.  Of course this won't cover everything forever, but the vast majority of people are able to find work in that time period after losing a job. And, if I were to lose my job down the road, then I use a portion of my nest egg to pay off the mortgage, but in the meantime I get to use that nest egg to increase my income through investments.  Obviously a different line of thinking, and neither is wrong, just a different philosophy.  There is relative risk with either avenue.

 

As for retirement, it's not about wanting or needing to, it's about having that flexibility and control.

 

GetMeOuttaThisMess: There are some that offer rentals around college campuses, but home prices around universities are usually massively inflated.  Also, it is my understanding that student loans will cover room and board on campus no questions, but does not always cover rental off campus.  I also definitely agree about the idea of not being fixed to one specific location.  As soon as I knew I was leaving teaching to pursue PA school my wife and I sold our home because even if I could have stayed there for school, we wanted the flexibility to be able to move for my future job - which is what we did and so far it has worked out wonderfully!

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Responding to the discussion regarding mortgage vs. debt - I completely agree with the comments about reducing your stress when you have your mortgaged paid off, and I understand the idea that you never truly know how secure your job is - just ask all those people in 2008.

 

BUT, this is why you have a 4-6 month security fund that is liquid. It doesn't have to just be cash sitting in a savings account, but it can be. Of course this won't cover everything forever, but the vast majority of people are able to find work in that time period after losing a job. And, if I were to lose my job down the road, then I use a portion of my nest egg to pay off the mortgage, but in the meantime I get to use that nest egg to increase my income through investments. Obviously a different line of thinking, and neither is wrong, just a different philosophy. There is relative risk with either avenue.

 

As for retirement, it's not about wanting or needing to, it's about having that flexibility and control.

 

GetMeOuttaThisMess: There are some that offer rentals around college campuses, but home prices around universities are usually massively inflated. Also, it is my understanding that student loans will cover room and board on campus no questions, but does not always cover rental off campus. I also definitely agree about the idea of not being fixed to one specific location. As soon as I knew I was leaving teaching to pursue PA school my wife and I sold our home because even if I could have stayed there for school, we wanted the flexibility to be able to move for my future job - which is what we did and so far it has worked out wonderfully!

We were fortunate that we didn't need loans for our daughter. It is also dependent on the type of loan as I recall. In our situation, in one of the highest priced markets in Texas, a $30-45K home on wheels would've been cheaper than dorm/apt. rental. The problem is finding a place for your structure. I don't know what prices are for travel trailer parks in that area.

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I'm of the belief that there is no good debt. There is acceptable debt, but if you have the option, the answer is always to kill debt first.

 

And ALWAYS have at least $10k in emergency savings, or 3-6 months of income.

 

Without debt you have so much more freedom in life. Freedom to move, freedom to change jobs, change CAREERS, freedom to eventually not have a full-time job.

 

Home ownership offers mainly emotional/QOL benefits when you account for the costs of buying your first home and the costs of home maintenance and all the other things you don't think about when you're a renter. You need tools, furniture, your wife wants to decorate, empty rooms get filled, etc. Trust me you will be making a trip to Home Depot at least once a week for the first 6 months. If you truly want to save money you'll live in a studio apartment.

 

There's also the philosophical issue of paying stable debt (mortgage, student loans) off slowly so you can maximize investment savings, versus paying it off ASAP and delaying the investment process until later in life, which doesnt allow compound interest to do it's thing. Depends on what you value, what your loan repayment options are, etc.

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  • 4 years later...

OP, sounds like you guys are going to be okay either way. Paying off debt is never a bad idea. I also like real estate more than renting, especially if you like the area and are comfortable. But you have to see yourself somewhere for at least 2 years, more ideally 5 to make it really worth your time. But you also aren’t paying much for rent or living expenses it sounds like. Remember to enjoy your money too and don’t torture your wife too too much if you are the saver and she’s more a spender. 

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