Pay off student loans or invest for retirement

[zup28w]

Good afternoon everyone,

First off, I hope you are all having a safe and happy holidays. Now... on to the post...

Recently married (Nov 17, 2012) and my wife and I are doing all the fun post-marriage stuff: joint bank accounts, credit cards, car insurance, etc. She's 32, I'm 33. Now that we're no longer putting away money for the wedding, we have some extra income and we're in the process of determining how we best proceed with her debt and retirement strategies.

My wife has 117k in student loans with an interest rate of 3.38%. Her payments are around $577 per month. She's been paying an extra $200 a month since March ($777 total) to help chip away at the loan. Now she'll have more income at her disposal (an additional $400/month beyond the $200) to either pay down the student loan or invest for retirement. I feel 3.38% is a great rate and therefore we shouldn't put the extra money towards paying down the loan. This is based on the assumption that we could achieve a higher rate of return through investments.

Wife's Current Retirement Status: She is a little behind the ball on retirement savings. She never had an employee sponsored retirement program. At one point she was investing with a lousy brokerage firm where the broker had her 100% in bonds and was making more on commissions that she was in returns. I had her liquidate the accounts January 2011 and we setup a Roth IRA with Vanguard. To keep things simple for her, she's using a Vanguard Target Date fund.

The only other debt we have is my mortgage which we're in the process of refinancing.

Future expenses: In Dec 2013, her car lease expires and we plan on buying (vs leasing) her a newer vehicle. It wouldn't be bad to have some extra money to put towards a down payment.

So here's my strategy. I'd bump down the student loan payments to $750 per month. That leaves us $427/month to either invest for retirement or save up for a down payment. I'd put $327 a month into retirement and put $100 a month towards a car down payment.

Please let me know your thought and suggestions. Thanks!

Regards,
Greg

[The Wizard]

Sounds good, but I'd tweak the plan to keep a minimum $1000 checking acct balance to help with smallish unexpected expenses, not true emergencies.
Then think in terms of where "extra money" (if any) goes each payday. I do agree that 3.3% edu loan is cheap enough to not worry about paying off ASAP...

[Dandy]

I hate debt but the interest rate is fairly low. Retirement savings in important. Being able to fully fund a Roth each year is great if you can do it. If you don't you can't make up that lost option. So, I would fully fund a Roth and use the rest to pay down the loan.

[chicagobear]

I would not pay off a loan with that rate but would invest the money instead.

[zup28w]

Thanks for the feedback everyone!

@TheWizard - We do have additional money set aside in a "high yield" savings account along with a separate emergency fund so we should be ok for any unexpected expenses.

@Dandy - I agree on funding the Roth. When we opened it up, we maxed out 2011 and 2012 contributions. It will definitely be a continued goal moving forward.

@ChicagoBear - I plan on using some investment calculators to show her the difference between paying the loan back and getting 4% back annually.

Greg

[zebrafish]

I would get rid of the debt ASAP but I think it is reasonable to fund a Roth while doing this.

I would NOT invest beyond a Roth to try and "beat" the interest rate of your loans with an investment. Just think if you did this in '08-- you wouldn't even have broken even yet had you done this back then. Who knows what the next several years will bring? Paying off debt has a guaranteed return, and debt represents risk.

I paid off my student loan debt >100K by sacrificing over about 3 years and I've never regretted this one iota-- financially or emotionally.

[zup28w]

Hi Zebrafish,

Thanks for the reply. I think the game plan works with your suggestion. We'll be bringing down her debt and funding retirement within the Roth (we won't be above the annual limit).

I know the market can be volatile, but I think over the long run we'll be ok. If she only invested the extra $600/month towards her loan, it'd still take her 9.8 years to pay it off. The market will definitely go through its ups and downs. We are not retiring for another 30+ years so we have plenty of time to rebalance and adjust our AA as we age.

Greg