Save for downpayment or continue paying off debt?

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Topic Author
lm002e
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Joined: Tue Nov 15, 2011 11:08 am

Save for downpayment or continue paying off debt?

Post by lm002e »

Hi all,

My short bio: 34 years old, single, no dependents (well, two cats). Gross income ~ 75K (though this is variable due to how much overtime is available). I'm a gov't employee with a pension on which I'll be able to draw in 19 years (age 53). I'll receive 70% of my salary at that point. I'm also putting $300/month into my 457(b) and $200/month into my Roth IRA.

Debts: $11K on a vehicle loan and $9K on a student loan.

Question: I'm currently renting but would like to purchase a home in the next 6-12 months. Is it better to use my disposable income to pay down debt or save for a downpayment on a home? I have better than average credit (FICO = 765) so I'm thinking I should be able to qualify for a fairly low interest rate. I'm torn between buying a home now while interest rates are at historic lows or using that downpayment cash to pay off debt.

Thanks in advance for your thoughts.
Last edited by lm002e on Tue Nov 15, 2011 1:35 pm, edited 1 time in total.
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touchdowntodd
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Re: Save for downpayment or continue paying off debt?

Post by touchdowntodd »

imho pay down debt and go into home ownership debt free with a 6-12 month Efund, or dont go in ...

like i said, imho
tryin to do this right... thanks guys
Sulvar
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Re: Save for downpayment or continue paying off debt?

Post by Sulvar »

I agree, pay down your debt first if you can.
epilnk
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Re: Save for downpayment or continue paying off debt?

Post by epilnk »

You don't give us enough information. How much do you already have saved for a downpayment? How big is your emergency fund? What are the interest rates on your loans?

The answer is almost certainly that you should pay off your loans first. But all of the above do matter. If your car is financed on a zero percent deal and you'd be cash flow positive with that loan plus a mortgage there's no need to pay the car off first. And there are life situations when it makes sense to stretch for the house while carrying the other debt. But for most of us the ideal route would be to build the e-fund first (this one is mandatory), pay off the non-housing debt second, then save for a house.
Topic Author
lm002e
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Re: Save for downpayment or continue paying off debt?

Post by lm002e »

Thank you for the replies.

Here's the rest of the info, sorry I didn't include it initially. Car loan at 4.75%. Student loan at 2.5%. I have $2000 in my emergency fund (still working to increase it). I don't currently have anything saved towards a downpayment but in 6-12 months I could reasonably expect to save $10-15K. Also, should I scale back my retirement contributions (Roth and 457, already required to pay 8% of gross pay towards my pension) until I have my e-fund fully built and debts down to zero? I've been leaning towards zero debt and e-fund before home ownership, and it sounds like this is the concensus here as well. Thanks again for the responses. I apologize if this topic has been beaten to death previously.
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Hector
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Re: Save for downpayment or continue paying off debt?

Post by Hector »

Seems like you have a great pension plan. What happens if you loose you job before turning 53? How would pension work in that situation?
Topic Author
lm002e
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Re: Save for downpayment or continue paying off debt?

Post by lm002e »

If I lose my job prior to putting in 23 years of service (age 53 for me), then I have basically 2 options:

1) cash out all money that I contributed (8% of my gross pay) but I would NOT receive any money that my employer contributed (14% of my gross pay). Obviously a terrible option.

2) at age 65 I would be eligible for a monthly annuity that equals years of service x 3% of highest salary.
Last edited by lm002e on Tue Nov 15, 2011 1:57 pm, edited 1 time in total.
555
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Re: Save for downpayment or continue paying off debt?

Post by 555 »

Another big factor is what does a house cost? And what is mortgage vs rent comparison etc.?

You could build some savings that serve as both e-fund and downpayment saving. That is, be prepared to use you whole e-fund as a downpayment, if a good buying opportunity comes along (even if you have some debt).
Grt2bOutdoors
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Re: Save for downpayment or continue paying off debt?

Post by Grt2bOutdoors »

Not sure what region you live in, but could you reasonably expect to pay $100K for a home? The general consensus is to put 20% down on a home purchase. Those who put down less either have substantial assets or obtain an FHA backed mortgage (btw, today's WSJ had an article that FHA is running out of money and may need to be bailed out in order to survive) where they pay a higher than average mortgage rate or need to get to visit the shrink.

My advice is to continue renting and pay off all your debts. Save 12 months of expenses as an e-fund, I say this because assuming you do buy a home, you must be prepared for unforseen expenses. It appears you do not have other assets to fall back on. The e-fund is on top of your downpayment. There is nothing wrong with renting, do not purchase a home if you can not afford it right now.
"One should invest based on their need, ability and willingness to take risk - Larry Swedroe" Asking Portfolio Questions
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FNK
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Re: Save for downpayment or continue paying off debt?

Post by FNK »

Don't accelerate that student loan. 2.5% is lower than inflation.

Since both Roth and 457 contributions are withdrawable, just keep contributing. If you decide to buy a house, you'll be able to pull them out. If not, hey, you've got retirement savings! In fact, max out your Roth contributions. You can treat the Roth as an emergency fund if the investments are conservative enough. After that, I'd pay off the car loan - 4.75% is high these days, and your existing loans are taken into account when underwriting a mortgage.

If you expect to pull out your retirement funds, invest them into something conservative. For example, Vanguard Target Retirement Income or even Total Bond Market.

And do your soul searching and homework before buying real estate.
Topic Author
lm002e
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Re: Save for downpayment or continue paying off debt?

Post by lm002e »

I live in Austin, TX and $100K is most likely the low end of the housing market here. There is an outside chance that I could get a home for 50% off through a HUD program called "Good Neighbor Next Door". Unfortunately, there are very few homes that qualify for this program (only 7 listings in the entire state as of this morning).

Sounds like the concensus is to keep saving. I'm definitely ok with that. Should I scale back my retirement contributions in order to build my e-fund more quickly?
lakpr
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Re: Save for downpayment or continue paying off debt?

Post by lakpr »

Like another poster said above, 4.75% on a car loan is too high. With your credit score of 765, you should be able to easily refinance it to between 2% to 2.5%. I can point you towards DCU or PenFed who are advertising 1.99% refinance options on auto loans. You may find similar rates at credit unions near you or those you qualify for. Since your time horizon to purchase a home is at least 6 months away, the inquiry hit you take on your credit reports for this refinance should fade away by then.

I strongly suggest to not reduce your contributions to the Roth, in fact, if I were you, I would max out the contributions. As long as the Roth account is established 5 years ago, all contributions into it are withdrawable (but not the earnings). It sounds like this is the case with you, or at least it will be the case when it's time for you to buy the house. I'd suggest to rebalance your portfolio to have at least 40% in bond index funds (if available) and 10% in money market funds. With this done, in the worst case scenario, the Roth account acts as both your emergency fund as well as your down payment account.

Any money left over after you take the above steps can be put aside in a separate account (and thus reduce your required withdrawal from the Roth account at the time of purchase)
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Hector
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Re: Save for downpayment or continue paying off debt?

Post by Hector »

lm002e wrote:If I lose my job prior to putting in 23 years of service (age 53 for me), then I have basically 2 options:

1) cash out all money that I contributed (8% of my gross pay) but I would NOT receive any money that my employer contributed (14% of my gross pay). Obviously a terrible option.

2) at age 65 I would be eligible for a monthly annuity that equals years of service x 3% of highest salary.
If I were you, I wont hurry up in taking mortgage. Pay off all the debts, have enough EF, save for 20% down payment and then think about taking mortgage.
stoptothink
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Re: Save for downpayment or continue paying off debt?

Post by stoptothink »

lm002e wrote:I live in Austin, TX and $100K is most likely the low end of the housing market here. There is an outside chance that I could get a home for 50% off through a HUD program called "Good Neighbor Next Door". Unfortunately, there are very few homes that qualify for this program (only 7 listings in the entire state as of this morning).

Sounds like the concensus is to keep saving. I'm definitely ok with that. Should I scale back my retirement contributions in order to build my e-fund more quickly?
Just Googled "Good Neighbor Next Door." I was very very close to purchasing a home late last year, in cash for $75k, through what sounds like a similar program that was a conglomeration between the city of Houston/Harris County and my employer. The only reason I backed out was because I was beginning to sense marital issues and didn't want to add a huge complication should we get divorced...very wise decision on my part.

I definitely agree with the others, saving for a down payment should be down the list of priorities. Since my experience, I have kind of gotten over the "owning a home is the American dream" and now very much enjoy the freedom of not being a homeowner. I will not even consider it again until I have begun starting a family and it will very likely be purchased in cash. E-fund is a personal comfort thing, nobody can tell you how much quickly accessible cash you need to feel safe. I am in a slightly different situation as I have no debt, so I maximize my retirement savings at the expense of my e-fund, which sits firmly at about 1 month's salary(~3 months living expenses). I do have a taxable retirement account with about 24 month's expenses that sort of serves as a separate e-fund. You can not get that tax-deferred space back.
eclipsis
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Re: Save for downpayment or continue paying off debt?

Post by eclipsis »

lakpr wrote:I strongly suggest to not reduce your contributions to the Roth, in fact, if I were you, I would max out the contributions. As long as the Roth account is established 5 years ago, all contributions into it are withdrawable (but not the earnings).
Actually, all contributions (to a Roth IRA) are eligible for withdraw immediately without the 10% early withdraw penalty or taxes.

Also note, under certain circumstances, contributions & earnings can be distributed tax and penalty free. The rules for a Qualified Distribution include a first time home buyer ($10,000 life time maximum). See IRS for more details
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