Great Salary with $8k in Student Loans and $12K in savings.

edarroyo · Post by **edarroyo** » Sat May 07, 2011 4:42 pm

Hello all
I'm new here and I hope someone can give me some sound advice on what to do. I recently graduated from college and was lucky enough to land a well paying job. I have a student loan for $8k with a 6% interest rate which I don't have to start paying until the end of July. I also have $14k saved up in a savings account with 0.01% interest rate. My questions are:

Should I pay off all of my debt in one payment and avoid any interest or moderately pay my debt off (say $600-700 monthly payments from my paycheck) and find something else to do with the rest of the money I have saved up?
This brings another question: if I do take the latter route (moderate monthly payments) what should I do with all the money I have left? I don't want it sitting down in my saving's account as I feel it can't even keep up with inflation at the interest rate.
I was thinking of creating a 5-6 month emergency fund (put this in a 3 month CD or high yield savings account?) and the rest somewhere else (stocks market, money market, mutual funds, etc).

Life as a student was soooooo much easier. So many questions and options! And if I fail... there's no retaking the class of life

Thank you for taking the time to read this

PS. I am enrolled in my employees retirement plan which is funded with a Roth 401(k) and a normal 401(k). I have 8% of my paycheck going to each. I can modify this if anyone thinks the setup is a very bad idea.

jmbkb4 · Post by **jmbkb4** » Sat May 07, 2011 4:46 pm

Will the 8% max out both IRA accounts?

Harold · Post by **Harold** » Sat May 07, 2011 4:58 pm

If I were you, I'd pay off the loan. Then I'd have a plan for making the maximum 401(k), Roth IRA, HSA, etc. contributions, and building an emergency fund back up.

Those are savings suggestions. For investment choices (including what you're doing with your emergency fund) you need to decide how much risk you want.

I wouldn't get overly worked up about risk-free interest rates -- there's a little latitude in no-risk investments, but for the most part, they are what they are, and for money you don't want put at risk, you've got to accept lower returns.

edarroyo · Post by **edarroyo** » Sat May 07, 2011 5:10 pm

I'll put some numbers in for better perspective: I'll be earning $87k a year and I'm in my early 20s.

So with that said I just checked and I made a mistake. I'm actually only contributing 4% to each. My company will match my contribution up to 4% (hence why I left it at 4%). I am not sure if they'll match the contribution on both accounts, I'll have to check that.

If I want to max out at least one of the accounts I would have to contribute 19% to one of them.

Harold · Post by **Harold** » Sat May 07, 2011 5:20 pm

edarroyo wrote:I'll put some numbers in for better perspective: I'll be earning $87k a year and I'm in my early 20s.

So with that said I just checked and I made a mistake. I'm actually only contributing 4% to each. My company will match my contribution up to 4% (hence why I left it at 4%). I am not sure if they'll match the contribution on both accounts, I'll have to check that.

If I want to max out at least one of the accounts I would have to contribute 19% to one of them.

I'd still max everything.

Don't look at it as percentages. Look at it as establishing an outstanding savings regimen, and having a (still outstanding) $65K salary.

Nathan Drake · Post by **Nathan Drake** » Sat May 07, 2011 5:24 pm

Where do you live? What are your expenses like?

drh · Post by **drh** » Sat May 07, 2011 5:26 pm

This isn't really what you asked, but I would immediately setup whatever automatic transfer plan you need to make sure you are setting aside the money every month to max out your Roth this year and every year. And I would seriously consider maxing out your 401k as well. This is for two reasons:

1) You are used to living the lifestyle of a college student. You can certainly eat better than Ramen and get a nicer place to stay now, but don't automatically increase your standard of living in every possible way just because you can. Of course, I don't think you are considering this-- one of the first things you did was get on Bogleheads. I guess what I'm saying is that its better to just set all that money aside and pretend like you never had the opportunity to spend it on something else.

2) A $1,000 contributed to your retirement portfolio in your early 20s has a lot more potential than the $1,000 you contribute when you are 55. Longer for it to grow.

I graduated 6 years ago. My wife and I certainly live below our means, but looking back I wish we would have began setting aside much more than we did.

Congratulations on your degree and new job.

edarroyo · Post by **edarroyo** » Sat May 07, 2011 5:30 pm

I live in WA. Just moved here from CA. I took last month as a baseline for my monthly expenses. My biggest expenses are rent ($1025), internet ($45), cellphone ($90), parking ($50), feeding myself (too much I am embarrassed to put it up, I really need to learn how to cook for myself). This all adds up roughly to +/- $2k a month.

@drh: I know, I really am planning on keeping my style of living as a student. Unfortunately I feel I made a bad decision this first year by renting such an expensive unit. Next year when the lease is up I'll be moving the hell out of here and finding a cheaper ROOM (instead of apartment) and commuting to work (instead of walking to work).

Bob's not my name · Post by **Bob's not my name** » Sat May 07, 2011 5:46 pm

1. Pay off the student loan as soon as you can. You don't say whether it's accruing interest right now -- not having to pay until July doesn't mean it's not accruing interest.
2. You're in the 25% federal bracket. Give up the Roth 401k and max out the regular 401k for the tax deduction. Just put it all in a stock index fund until you have time to read the wiki here on investing.

edarroyo · Post by **edarroyo** » Sat May 07, 2011 6:40 pm

Bob's not my name wrote:1. Pay off the student loan as soon as you can. You don't say whether it's accruing interest right now -- not having to pay until July doesn't mean it's not accruing interest.
2. You're in the 25% federal bracket. Give up the Roth 401k and max out the regular 401k for the tax deduction. Just put it all in a stock index fund until you have time to read the wiki here on investing.

The loan starts accruing interest until July. I am not sure if I can start paying yet. I'll look into that.

As for your second point, can you elaborate a bit more, please. Why move away from roth 401k to a regular one?

Thanks

Bob's not my name · Post by **Bob's not my name** » Sat May 07, 2011 6:44 pm

edarroyo wrote:The loan starts accruing interest until July.

Starts = doesn't start?

edarroyo · Post by **edarroyo** » Sat May 07, 2011 6:46 pm

Yes, that. Thanks for pointing that out.

scrabbler1 · Post by **scrabbler1** » Sat May 07, 2011 6:50 pm

Sounds like your student loan has a typical grace period of 6 months after graduation. In those 6 months, the loan accrues zero interest but, as was the case for me back in 1985, I paid off about 60% of the loan just before the grace period expired, reducing the monthly payment considerably. My loan was pretty similar to yours, about $8,000 at 8% (this was early 1980s when interest rates were higher). I knocked it down to about $3,000 using some money in an old custodial account I did not know still had that much money in it, so it seemed like "found" money.

There are some other active threads in Bogleheads about emergency funds, two of which I have posted in. I have been willing to take on some risk with an emergency fund, investing it in an intermediate-term muni bond fund. This fund generates much better monthly dividends (and they are tax-free) than a MM account will. Yes, you do have some risk of loss of principal if the muni bond market tanks badly, but you will enjoy much better (tax-free) returns than a MM, so even if the bond fund's value drops a bit, those losses will be offset by the tax-free dividends. The fund I am in is paying a little under 4% (annualized) each month.

pobox2001 · Post by **pobox2001** » Sat May 07, 2011 6:52 pm

I'd pay off the loan in full.

Assuming no other debt, then save 6 months of living expenses, the save 15% for retirement (401k, Roth IRA, etc.).

Easy enough.....

Bob's not my name · Post by **Bob's not my name** » Sat May 07, 2011 7:02 pm

scrabbler1 wrote:Sounds like your student loan has a typical grace period of 6 months after graduation. In those 6 months, the loan accrues zero interest

Grace period and interest accrual are different things. Subsidized loans don't accrue interest while you're in school and for 6 months afterward. Unsubsidized loans do accrue interest, but you don't have to make payments while in school or during the grace period.

Bob's not my name · Post by **Bob's not my name** » Sat May 07, 2011 7:04 pm

edarroyo wrote:Why move away from roth 401k to a regular one?

Why do you want to pay 25% tax on your contributions?

edarroyo · Post by **edarroyo** » Sat May 07, 2011 7:08 pm

Bob's not my name wrote:
edarroyo wrote:Why move away from roth 401k to a regular one?
Why do you want to pay 25% tax on your contributions?

I may be mistaken, but taxes are bound to increase. Paying low taxes NOW vs paying higher taxes LATER (when I take the money out of a regular 401k) made more sense to me. I may be wrong, though.

Bob's not my name · Post by **Bob's not my name** » Sat May 07, 2011 7:27 pm

http://thefinancebuff.com/case-against-roth-401k.html

understandingJH · Post by **understandingJH** » Sat May 07, 2011 8:46 pm

Bob's not my name wrote:http://thefinancebuff.com/case-against-roth-401k.html

Thanks for that link! Somebody said I should not convert my IRA rollover into a Roth because of my 25% marginal bracket. I didn't understand it until now. Thanks.

Watty · Post by **Watty** » Sat May 07, 2011 11:22 pm

If you are in the 25% tax bracket then you can either put $100 in a Roth or $133 into a deductible 401K or IRA. When you are retired the first $50K or so of taxable retirement income will be taxed at a low rate so until you are on track to have that much retirement savings it makes sense to stick with the larger amount.

Another consideration is that I would assume that you are single; if you are likely to get married some day you may be in a lower tax bracket then when you file a joint return which would make the Roth more attractive.

Paying off the student loan all at once would leave you a bit low on cash; I would suggest that paying off $4,000 at once then $500 a month for the next eight months would be a reasonable compromise. After that put the $500 a month into a separate account to save up to pay cash for your next car.

Retirement savings are great but at this stage avoiding debt, like credit cards or car loans, and getting the rest of our financial situation in order is equally or more important. You may want to buy a house some day(there is no hurry!) but starting to build up your non-retirement cash reserves for things like this is also a good goal.

One thing that worked for me was to commit to putting half of any future raises or bonuses into retirement savings. You are contributing 9% now (4% on the 401k, 4% in the Roth, and 1% in taxes on the Roth) so if you can increase it by 2% per year, then in six years you will be up to 21% which would be mighty good. As I increased my savings I never missed the money.

Greg

Gray · Post by **Gray** » Sun May 08, 2011 4:55 pm

Don't assume you will have that job in six months. Coming out of college is perilous time when adjusting to the workforce. All the optimism, idealism, enthusiasm of the new guy meets the entrenched workforce with office politics galore. Invariably, the new guy becomes disenchanted with the daily grind and back stabbing. Sink or swim, Ceasar style.

Stay the course and don't make any financial changes until a year after you you have proven yourself to be a successful addition.

jmbkb4 · Post by **jmbkb4** » Sun May 08, 2011 5:56 pm

jmbkb4 wrote:Will the 8% max out both IRA accounts?

I'd max out both accounts.

rasputin · Post by **rasputin** » Sun May 08, 2011 8:20 pm

I don't think the order of things matters too much, in fact, part of me wonders if this thread isn't just for bragging (but that would be too cynical!)

- Set up an emergency fund (done!)
- pay off student loan
- max out 401k (no roth, not yet!)
- max out Roth IRA

the order doesn't matter much since you can do them all this year. if you're a bit short to do all of it by year end, i'd tap the emergency fund a little bit.

oh, max out the 401k first, then the Roth IRA. You don't need to put $ into the IRA until april 15th of next year. gives you a bit of a buffer that you might find useful

in the mean time, read The Boglehead Guide to Investing http://www.amazon.com/Bogleheads-Guide- ... 0471730335

then come back for another round of questions

neo09 · Post by **neo09** » Mon May 09, 2011 3:10 pm

[quote="edarroyo"]I live in WA. Just moved here from CA. I took last month as a baseline for my monthly expenses. My biggest expenses are rent ($1025), internet ($45), cellphone ($90), parking ($50), feeding myself (too much I am embarrassed to put it up, I really need to learn how to cook for myself). This all adds up roughly to +/- $2k a month.

http://www.cookingforengineers.com/

HTH

skibbi9 · Post by **skibbi9** » Mon May 09, 2011 3:59 pm

jmbkb4 wrote:Will the 8% max out both IRA accounts?

the 8% is not for the IRA , its for 401k, and Total contributions for both cannot exceed 16,500 (for his part, company can contribute more).

Given that he's just out of school it's unlikely that 8% pretax and 8% posttax of his salary = 16,500 unless he's got a top end job.

While people always suggest maxing the 401k, its still 401k til match, max Roth, then max 401k. [EDIT: portion of his pretax] EDIT: Your company will only match 4% of your salary, it doesn't matter how you split it up, and at 87k gross, its probably better to just put more cash into Pre-tax than Roth)

Save what you can now, build up an emergency fund, there are tons of first job expenses (clothing, apartments, transportation, furniture, etc).

edarroyo · Post by **edarroyo** » Mon May 09, 2011 9:04 pm

Thank you all for your replies.
I've decided to max out (19%) my normal 401(k). Also, I'll be paying $4k towards my loan and then finish it up in $500 payments, this will reduce the interest considerably and leave me with an emergency fund worth 4 months or so. As to where am I putting this fund, I have no idea yet. Also, many mentioned credit card debt and fortunately I have none. I just have two and I use them to pay bills automatically and pay them off completely at the end of billing cycle.

Also, I have no idea what I'll be doing with the $1.5k or so I have left each month. I am planning on eventually buying a house, getting married and traveling abroad and visit home(Mexico). I guess these are goals I can put this money towards to. I just need figure out where to invest it so the investment will fit these goals.

@rasputin: My intention is not to brag, and if it came as so I am sorry. I've never been into bragging. I really just want to be smart about it and make the best I can out of it. Also, the book is what brought me here. I just bought it over the weekend. I'll be sure to comeback with more questions. As you can tell, many of them will be where to invest the money.

@neo09: The link made me laugh. Thanks for sharing.

Again, thank you all for your insight. I very much appreciate it.

rasputin · Post by **rasputin** » Mon May 09, 2011 9:25 pm

sorry, i was just giving you a hard time.

You need to figure out your guestimated timeline for buying a place. If its less than 5 years off then you're looking at money market funds or CDs. Ally bank has some very good longer CDs at higher yields with very low early withdraw fees. You should make these goals part of your financial plan even if they're "nice to have" rather than necessities.

I'd put that $1.5k/month toward whichever combo of emergency fund, Roth IRA, and student loans that you like best. I really think that you should fund your Roth IRA as well (before april 15th) since you have a limited opportunity for tax advantaged accounts. You can always forgo it in the future but you can never fund it in the past.

edarroyo · Post by **edarroyo** » Mon May 09, 2011 11:45 pm

I think I'll buy a house within 10 years or so. So I guess I have more options.

rasputin · Post by **rasputin** » Tue May 10, 2011 7:29 am

edarroyo wrote:I think I'll buy a house within 10 years or so. So I guess I have more options.

Search the forum or start a new thread on that topic alone.