Should we pay down 4% loan more quickly or invest in bonds?

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maxsamson
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Should we pay down 4% loan more quickly or invest in bonds?

Post by maxsamson » Tue Mar 12, 2019 11:54 pm

My wife will be refinancing her med school loans to a $300k, 15-year, 3.95% APR loan. At that APR, should we forgo buying bonds entirely until the loans are paid off? There is no penalty for paying off the loan early. We have a 75/25 asset allocation, so I'd consider paying down the loans as part of the 25% bond allocation. I have read the wiki page on this topic and we have a strong emergency fund, so my sense is that prioritizing the loan payoff over bond investments is the way to go. But I fear I may be missing other considerations, as well as whether an entire stoppage on bond purchasing rather than a partial one is the best course.

If the answer is that I should indeed forgo investing in bonds until the loan is paid off, should we also consider selling our bonds in order to pay more of it down immediately? I realize there may be more complexity in this case, such as short-term capital gains and maybe bond duration. I don't yet have a good handle understand the latter, so feel free to flesh out how one would take duration into consideration.

Our general account stats are as follows:

We are 33 & 35 years old
Checking Account: $35k
Emergency Fund: $50k
Large Purchase Savings (downpayment primarily): $69k
Taxable Account: $86k
My 401k: $53k
Wife's 401k: $40k
Traditional IRA: $41k
Roth IRA: $19k
Last edited by maxsamson on Wed Mar 13, 2019 2:01 am, edited 1 time in total.

l1am
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Re: Should we pay down 4% loan more quickly or invest in bonds?

Post by l1am » Wed Mar 13, 2019 12:00 am

It's a strange way of looking at it. Why are you 75/25 if you're comfortable at 100/0, which you're alluding to when you say you want to use the bonds to pay off the loan?

I think you should just look at it as your "taxable portfolio", and maintain your allocation as desired for your risk tolerance.

$35k in checking? That's costing you 4%. Use it to pay off the loans.

Personally, I'd just prioritize paying off the loan (almost 4% guaranteed return, but I know some won't agree).

mega317
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Re: Should we pay down 4% loan more quickly or invest in bonds?

Post by mega317 » Wed Mar 13, 2019 12:16 am

What's your income? Expenses? Some doctors could with discipline pay off a huge loan in just a few years. I wouldn't be too eager to take on more debt (mortgage) with this outstanding. I would continue contributing to tax-advantaged accounts, make sure you have an adequate emergency fund, and put everything else to the loan. When that's gone, save up for the house and other large purchases.

If she's a pediatrician making 150k or something, then you're looking at many years on this loan. In that case you have to think about what your life would look like delaying big expenses to your 40s, maybe even late 40s, and/or having a mortgage into your 60s or even 70s.

Topic Author
maxsamson
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Re: Should we pay down 4% loan more quickly or invest in bonds?

Post by maxsamson » Wed Mar 13, 2019 1:49 am

l1am wrote:
Wed Mar 13, 2019 12:00 am
It's a strange way of looking at it. Why are you 75/25 if you're comfortable at 100/0, which you're alluding to when you say you want to use the bonds to pay off the loan?
I guess I don't view it as the same as being comfortable at 100/0. From the wiki:
If you have money that you could invest, but you also have a loan, you have the option of using the money to pay down the loan instead. Paying down the loan will give you a guaranteed return by reducing your future loan balance, and eventually eliminating future loan payments or giving you more money when the loan is paid off. This is the same benefit that you get from a fixed-income investment such as a bond or certificate of deposit (CD), which also gives you fixed amounts of money at specified future times.

Therefore, it makes sense to treat paying down a loan like a bond investment, and compare this option to your other investment options.
l1am wrote:
Wed Mar 13, 2019 12:00 am
$35k in checking? That's costing you 4%. Use it to pay off the loans.
Yes, this high and some will get used to either pay off the loan or invest.

Topic Author
maxsamson
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Re: Should we pay down 4% loan more quickly or invest in bonds?

Post by maxsamson » Wed Mar 13, 2019 1:53 am

mega317 wrote:
Wed Mar 13, 2019 12:16 am
What's your income? Expenses? Some doctors could with discipline pay off a huge loan in just a few years. I wouldn't be too eager to take on more debt (mortgage) with this outstanding. I would continue contributing to tax-advantaged accounts, make sure you have an adequate emergency fund, and put everything else to the loan. When that's gone, save up for the house and other large purchases.

If she's a pediatrician making 150k or something, then you're looking at many years on this loan. In that case you have to think about what your life would look like delaying big expenses to your 40s, maybe even late 40s, and/or having a mortgage into your 60s or even 70s.
Our monthly expenses are about $10.2k, and combined before tax annual salary is about $310k.

EnjoyIt
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Re: Should we pay down 4% loan more quickly or invest in bonds?

Post by EnjoyIt » Wed Mar 13, 2019 2:08 am

I believe the perspective changes a little because she is a physician because there is much more job security as a physician even in a deep recession which tells me that you are able to take on more risk and need to take on more risk because of the high debt load. If that is the case going 100% equities for a few years or not adding anything else to bonds I believe is a reasonable option. For me, 4% has always been my cutoff for paying down debt. Some are willing to guy higher others refuse to have any debt that is lower than the treasury interest rate. Either way, the $300k debt is a huge albatross.

If I was making this decision I would really think hard if my medical job is secure. Do I get along with everyone particularly those who pay my salary? If I am a hospital employee, is the contract stable? Do I practice safe medicine or am I getting peer reviewed often and being chastised for my quality of care? If am am employed by a practice, are my leaders happy with my productivity? Is there a partner track and how often do employees fail to reach partner? If my job was secure I would maximize all tax-differed accounts every year and then put a minimum of an extra $4k/month on that school debt (if your wages allow for it.) Once the loan is down to about $150k I would refinance it to a 5 year variable if rates are still good and finish it off in 5 years or less if rates increase past 4% again. During those first few years I would try and live my life not much more extravagantly than I did in residency.

I know I responded to more than you asked, but it seemed prudent to explain my thinking.

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Re: Should we pay down 4% loan more quickly or invest in bonds?

Post by JoinToday » Wed Mar 13, 2019 2:27 am

I agree with EnjoyIt - he/she is raising good points with respect to job security, etc.

My take: I have mixed feelings about contributing to 401k/403b/retirement plan with this debt. I think I would live like a resident, no retirement contributions, and pay off the loan as fast as you can. With no debt, you have more options.

You have $240K in after tax assets. If the capital gains are palatable, what about putting $200K to the loans, and paying the rest off in a year or so?

At age 33/35, you having kids? shedding all the debt opens options -- you or wife won't be forced to work full time if you want.
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maxsamson
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Re: Should we pay down 4% loan more quickly or invest in bonds?

Post by maxsamson » Wed Mar 13, 2019 2:38 am

JoinToday wrote:
Wed Mar 13, 2019 2:27 am
I agree with EnjoyIt - he/she is raising good points with respect to job security, etc.

My take: I have mixed feelings about contributing to 401k/403b/retirement plan with this debt. I think I would live like a resident, no retirement contributions, and pay off the loan as fast as you can. With no debt, you have more options.

You have $240K in after tax assets. If the capital gains are palatable, what about putting $200K to the loans, and paying the rest off in a year or so?

At age 33/35, you having kids? shedding all the debt opens options -- you or wife won't be forced to work full time if you want.
Her job is very secure. She is a family medicine doctor, which is in very high demand. She's also the assistant chief of her department at a major hospital system.

I'm a software engineer and in high demand as well.

Regarding no retirement contributions -- I guess I'd need to understand the calculation you're making. If one can expect returns of more than 4% over the long term for stocks, especially in tax advantaged accounts, then paying down the loans rather than investing in stocks would, on average, result in less net worth.

We're planning on having 2 kids, but also planning on continuing to work full-time.

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Re: Should we pay down 4% loan more quickly or invest in bonds?

Post by JoinToday » Wed Mar 13, 2019 2:59 am

maxsamson wrote:
Wed Mar 13, 2019 2:38 am
JoinToday wrote:
Wed Mar 13, 2019 2:27 am
I agree with EnjoyIt - he/she is raising good points with respect to job security, etc.

My take: I have mixed feelings about contributing to 401k/403b/retirement plan with this debt. I think I would live like a resident, no retirement contributions, and pay off the loan as fast as you can. With no debt, you have more options.

You have $240K in after tax assets. If the capital gains are palatable, what about putting $200K to the loans, and paying the rest off in a year or so?

At age 33/35, you having kids? shedding all the debt opens options -- you or wife won't be forced to work full time if you want.
Her job is very secure. She is a family medicine doctor, which is in very high demand. She's also the assistant chief of her department at a major hospital system.

I'm a software engineer and in high demand as well.

Regarding no retirement contributions -- I guess I'd need to understand the calculation you're making. If one can expect returns of more than 4% over the long term for stocks, especially in tax advantaged accounts, then paying down the loans rather than investing in stocks would, on average, result in less net worth.

We're planning on having 2 kids, but also planning on continuing to work full-time.
This is about three things in my mind: (1) risk of job loss (low) or someone getting hurt/sick and being unable to work (probably low also), and (2) your rate of return investing vs known 4% interest, and (3) your comfort carrying debt. I don't think either option (paying off debt vs investing) is clearly better or worse than the other. But I like being debt free -- and my net worth has dramatically increased since I paid off all my loans. Paying off the house made me feel like a huge burden was lifted from my shoulders
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alpha88
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Re: Should we pay down 4% loan more quickly or invest in bonds?

Post by alpha88 » Wed Mar 13, 2019 3:24 am

I'm in or was in a similar boat. I refinanced down to a 7 year variable loan at around 3% and paid it off fairly aggressively from ~350k to 200k over the first two year. I'm looking at refinancing it again to a 5 year variable loan at around 2.5%

I may be wrong in my thinking, but with a longer term, fixed rate loan, you're paying extra for the ability to have a guaranteed (low) interest rate over the entire term. Since ideally I wanted to pay off sooner than that, I wasn't sure I was benefiting from that. I'd benefit from the lower rate of a variable rate upfront (when the principal is the largest), pay extra on my monthly, and if interest rates did start to rise significantly, then I could always use existing investment funds to pay it off or or just deal with higher payments (with high income that is certainly practical)

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Re: Should we pay down 4% loan more quickly or invest in bonds?

Post by mortfree » Wed Mar 13, 2019 3:58 am

Given the numbers I could see putting 100k towards the loan today.

Your taxable account could be your emergency fund.

10k in monthly expenses? Seems high but so is the household income.

Finally, try to max out a retirement account now.

mega317
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Re: Should we pay down 4% loan more quickly or invest in bonds?

Post by mega317 » Wed Mar 13, 2019 5:12 am

I did some very rough math.
310K gross
- 38k two 401ks
- 4k health (my cost for two)
= 268 taxable
- 47k federal tax
- ~20k Oregon tax?
- ~10k SS/medicare
= 191 total/12 = 16k per paycheck
- 10.2k expenses (which I will for your benefit assume includes Roth contributions, current minimal loan payments, life and disability)
= Extra 6k per month to put to the loan.

Put the 100k not invested/emergency fund to the loan now and you're looking at 2 years to pay this off. Invest that instead and you're more like 3 years and an extra 10k interest.

If I was generous in my assumptions and you need to spend an extra 1-2k per month in Roth/life/DI, plus add a few thousand for child care and other expenses if that's coming soon, and don't put that down payment towards the loan but instead add to the down payment fund, now you're looking at as much as 6 years and an extra ~30k interest.

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Re: Should we pay down 4% loan more quickly or invest in bonds?

Post by EnjoyIt » Wed Mar 13, 2019 11:33 am

Not putting away money into a pre-tax retirement account at your high tax bracket and putting it into debt is an emotional mistake. Sure being debt free feels good, but we should strive to take emotions out of investing instead of encouraging inferior emotional decision.

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Re: Should we pay down 4% loan more quickly or invest in bonds?

Post by KlangFool » Wed Mar 13, 2019 11:41 am

OP,

<<Large Purchase Savings (downpayment primarily): $69k>>

You have a 300K student loan. But, you are saving 69K as the downpayment for a house? Pay off the 300K student loan first with the 69K and more. Then, you may start saving for a downpayment on a house.

KlangFool

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Re: Should we pay down 4% loan more quickly or invest in bonds?

Post by aristotelian » Wed Mar 13, 2019 11:42 am

Your total liquid assets are about $400K, with $100K in bonds. However, you have a $300K debt, which is arguably a negative bond that you are leveraging to increase your portfolio returns. From that standpoint, your actual allocation (as a % of net worth) is about 300% stocks, -50% bonds. In other words, you are using your debt to in effect triple your returns from stocks (with triple the risk) vs if you paid off your loan.

Also from that standpoint, it makes zero sense to invest in bonds that are earning less than your loan. Otherwise the bank is just winning an arbitrage battle with you month after month. Therefore, I would pay down the loan rather than investing in bonds. I would even reduce the existing bond allocation and then aside from your emergency fund, put any cash you don't want in stock toward the loan.

l1am
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Re: Should we pay down 4% loan more quickly or invest in bonds?

Post by l1am » Wed Mar 13, 2019 11:55 am

maxsamson wrote:
Wed Mar 13, 2019 1:49 am
l1am wrote:
Wed Mar 13, 2019 12:00 am
It's a strange way of looking at it. Why are you 75/25 if you're comfortable at 100/0, which you're alluding to when you say you want to use the bonds to pay off the loan?
I guess I don't view it as the same as being comfortable at 100/0. From the wiki:
That's not the same as risk tolerance though.

If you had $0 portfolio right now, would you take out a $100k loan at 4%, add it to the existing loan and invest it in stocks? All you're doing is leveraging.

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Re: Should we pay down 4% loan more quickly or invest in bonds?

Post by Ping Pong » Wed Mar 13, 2019 12:32 pm

If you get sued, they could take your taxable account, but they can’t take a paid off loan from you. They could give you a judgement which I guess isn’t much different than a loan. When negotiating a settlement it might help to have fewer assets. Ianl.

EnjoyIt
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Re: Should we pay down 4% loan more quickly or invest in bonds?

Post by EnjoyIt » Wed Mar 13, 2019 12:39 pm

Ping Pong wrote:
Wed Mar 13, 2019 12:32 pm
If you get sued, they could take your taxable account, but they can’t take a paid off loan from you. They could give you a judgement which I guess isn’t much different than a loan. When negotiating a settlement it might help to have fewer assets. Ianl.
Being sued and taking money above your malpractice insurance is fear mongering. This event is extremely rare if the physician isn't doing stupid things like carving their initials in a patient.

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Re: Should we pay down 4% loan more quickly or invest in bonds?

Post by Wiggums » Wed Mar 13, 2019 12:50 pm

KlangFool wrote:
Wed Mar 13, 2019 11:41 am
OP,

<<Large Purchase Savings (downpayment primarily): $69k>>

You have a 300K student loan. But, you are saving 69K as the downpayment for a house? Pay off the 300K student loan first with the 69K and more. Then, you may start saving for a downpayment on a house.

KlangFool
+1

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Ketawa
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Re: Should we pay down 4% loan more quickly or invest in bonds?

Post by Ketawa » Wed Mar 13, 2019 1:54 pm

l1am wrote:
Wed Mar 13, 2019 11:55 am
maxsamson wrote:
Wed Mar 13, 2019 1:49 am
l1am wrote:
Wed Mar 13, 2019 12:00 am
It's a strange way of looking at it. Why are you 75/25 if you're comfortable at 100/0, which you're alluding to when you say you want to use the bonds to pay off the loan?
I guess I don't view it as the same as being comfortable at 100/0. From the wiki:
That's not the same as risk tolerance though.

If you had $0 portfolio right now, would you take out a $100k loan at 4%, add it to the existing loan and invest it in stocks? All you're doing is leveraging.
Being comfortable with 100/0 is not a "strange way" of looking at if you are comfortable selling bonds from an original allocation of 75/25. Selling bonds to pay off higher interest rate debt reduces overall risk and is consistent with the original risk tolerance.

I agree with the idea that borrowing $100K at 4% to invest is a form of leveraging, but there are other considerations. Tax-advantaged savings are limited every year, so it often makes sense to maximize those and still hold bonds in them regardless of the investor's debt.

OP, I would maximize tax-advantaged savings and put all extra cash towards the student loans as long as you don't incur large capital gains taxes in your taxable account. If you really need to access funds for a down payment, you and your wife can probably use 401k loans for up to $100K total in the future (typically half your balance up to $50K each). Other people will probably consider a 401k loan controversial, but there really isn't anything wrong with them as long as you're continuing to maximize your tax-advantaged savings. It's like a time machine; you get to pretend you had saved the money in a taxable account instead, but you still preserve the tax-advantaged space. You'll also be in a better position from paying off the 4% loan and end up with less overall debt than if you continued with your current plan to pay down the student loans slowly and save separately for a down payment.

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Re: Should we pay down 4% loan more quickly or invest in bonds?

Post by Ketawa » Wed Mar 13, 2019 1:58 pm

aristotelian wrote:
Wed Mar 13, 2019 11:42 am
Your total liquid assets are about $400K, with $100K in bonds. However, you have a $300K debt, which is arguably a negative bond that you are leveraging to increase your portfolio returns. From that standpoint, your actual allocation (as a % of net worth) is about 300% stocks, -50% bonds. In other words, you are using your debt to in effect triple your returns from stocks (with triple the risk) vs if you paid off your loan.

Also from that standpoint, it makes zero sense to invest in bonds that are earning less than your loan. Otherwise the bank is just winning an arbitrage battle with you month after month. Therefore, I would pay down the loan rather than investing in bonds. I would even reduce the existing bond allocation and then aside from your emergency fund, put any cash you don't want in stock toward the loan.
Phrased this way, the argument starts to sound like a justification for being 100/0 until debt is paid off. I would say that it still makes sense to maximize tax-advantaged accounts and hold bonds in them depending on risk tolerance. For example, 75/25 in tax-advantaged accounts while paying off debt with extra cash is a completely reasonable strategy.

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Re: Should we pay down 4% loan more quickly or invest in bonds?

Post by aristotelian » Wed Mar 13, 2019 3:03 pm

Ketawa wrote:
Wed Mar 13, 2019 1:58 pm
aristotelian wrote:
Wed Mar 13, 2019 11:42 am
Your total liquid assets are about $400K, with $100K in bonds. However, you have a $300K debt, which is arguably a negative bond that you are leveraging to increase your portfolio returns. From that standpoint, your actual allocation (as a % of net worth) is about 300% stocks, -50% bonds. In other words, you are using your debt to in effect triple your returns from stocks (with triple the risk) vs if you paid off your loan.

Also from that standpoint, it makes zero sense to invest in bonds that are earning less than your loan. Otherwise the bank is just winning an arbitrage battle with you month after month. Therefore, I would pay down the loan rather than investing in bonds. I would even reduce the existing bond allocation and then aside from your emergency fund, put any cash you don't want in stock toward the loan.
Phrased this way, the argument starts to sound like a justification for being 100/0 until debt is paid off. I would say that it still makes sense to maximize tax-advantaged accounts and hold bonds in them depending on risk tolerance. For example, 75/25 in tax-advantaged accounts while paying off debt with extra cash is a completely reasonable strategy.
Sure, you can't beat the return on tax advantaged accounts. He should continue to max those. However, I don't really see the point in any bonds when he gets better return paying down the debt. The bonds reduce the volatility of his portfolio, but the portfolio is taking greater risk through leverage. I would be OK with 100% stocks on the investment side, while putting toward the debt every dollar he would put toward bonds.

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Re: Should we pay down 4% loan more quickly or invest in bonds?

Post by l1am » Wed Mar 13, 2019 9:39 pm

Ketawa wrote:
Wed Mar 13, 2019 1:54 pm
I agree with the idea that borrowing $100K at 4% to invest is a form of leveraging, but there are other considerations. Tax-advantaged savings are limited every year, so it often makes sense to maximize those and still hold bonds in them regardless of the investor's debt.
Tangentially, would it be wise for anyone (in a reasonably good financial situation) to take out a 4% loan in order to max out their tax advantaged space if they otherwise couldn't?

I'm not trying to catch you out, I've just never thought of it this way before.

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Re: Should we pay down 4% loan more quickly or invest in bonds?

Post by Bastiat » Wed Mar 13, 2019 10:05 pm

I've seen a few people advocating to forego tax advantaged investing in favor of paying down the debt and just want to comment that I couldn't disagree more.

You have a finite amount of tax advantaged space available to you. Once you miss tax advantaged contributions for a year they are gone forever.

Nevermind the fact that your expected return (historically speaking) is more than double what you're paying for her debt.

Your spending is very high but your income allows you both to max out tax advantaged while also aggressively paying down the debt.

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Re: Should we pay down 4% loan more quickly or invest in bonds?

Post by JoinToday » Wed Mar 13, 2019 10:07 pm

EnjoyIt wrote:
Wed Mar 13, 2019 11:33 am
Not putting away money into a pre-tax retirement account at your high tax bracket and putting it into debt is an emotional mistake. Sure being debt free feels good, but we should strive to take emotions out of investing instead of encouraging inferior emotional decision.
What is the "emotional mistake"? It appears like he is in the 24% bracket (+ state taxes). This is hardly a "high tax bracket". Is there anything that leads you to believe he will be in a lower tax bracket later?

The top of the 12% bracket is a little over $100K (incl std deduction). If future Fed tax rates are lower, or if the OP's income drops below $100K (especially in retirement), I agree it would be prudent to continue funding. Otherwise, I am not seeing anything that indicates it would be a mistake to stop retirement saving & pay off the loan aggressively now.

A more likely scenario is that their income goes up into the 32% bracket. At that point, he would have been better off if he paid off the loan now, so they can save even more in retirement accounts to avoid paying 32% marginal tax rates (plus any possible increased tax rates in the future)
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Re: Should we pay down 4% loan more quickly or invest in bonds?

Post by mega317 » Wed Mar 13, 2019 10:12 pm

JoinToday wrote:
Wed Mar 13, 2019 10:07 pm
Is there anything that leads you to believe he will be in a lower tax bracket later?
A more likely scenario is that their income goes up into the 32% bracket. At that point, he would have been better off if he paid off the loan now, so they can save even more in retirement accounts to avoid paying 32% marginal tax rates (plus any possible increased tax rates in the future)
I think the idea is that 1) OP will continue contributing through their career, and 2) the tax bracket will be lower in retirement. This is common.

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Re: Should we pay down 4% loan more quickly or invest in bonds?

Post by ChinchillaWhiplash » Wed Mar 13, 2019 10:29 pm

I would at least pay into tax deferred spaces to get any match at a minimum. Keep enough in taxable or savings as an EF. Use everything else to pay down the loan asap. Interest is not deductable. Loan not forgivable even in bankruptcy. Wait on the house until you have greatly reduced this loan. This loan is basically like carrying a mortgage already. If you carry any other higher interest debt, make that priority 1st, then the student loan. Once this is gone, will be a huge weight lifted from your shoulders.

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Re: Should we pay down 4% loan more quickly or invest in bonds?

Post by JoinToday » Wed Mar 13, 2019 10:42 pm

mega317 wrote:
Wed Mar 13, 2019 10:12 pm
JoinToday wrote:
Wed Mar 13, 2019 10:07 pm
Is there anything that leads you to believe he will be in a lower tax bracket later?
A more likely scenario is that their income goes up into the 32% bracket. At that point, he would have been better off if he paid off the loan now, so they can save even more in retirement accounts to avoid paying 32% marginal tax rates (plus any possible increased tax rates in the future)
I think the idea is that 1) OP will continue contributing through their career, and 2) the tax bracket will be lower in retirement. This is common.

I agree your statements that it is common for most people to be in lower tax brackets in retirement . But most people aren't grossing $310K early in their career. I never made $310K, and am currently looking at the possibility of 32% tax rates MFJ (+9.3% calif). [41.3% total marginal tax rate -- don't get me started :x ].

I agree with the subsequent poster to make 401k/403b contributions to get the match.
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Re: Should we pay down 4% loan more quickly or invest in bonds?

Post by JBTX » Wed Mar 13, 2019 10:54 pm

There are as many opinions as posters on this subject. If it were me, paying off a 3.95% loan would not be a high priority, especially when you just starting to accumulate and in your low to mid 30s.

I would absolutely max out all tax advantaged opportunities, 401ks, Roths, backdoor Roths, etc before I even thought about paying down a 4.0% loan. In my humble opinion, reducing or stopping 401k contributions to pay off a 4.0% loan for somebody in their 30's is terrible advice.

Paying off a fixed mortgage is not the same thing as a bond. A fixed mortgage is....fixed. The rate can't go up. If rates go up, you are locked in at 4.0%. If rates go down, you can always choose to pay if off. There is a greater than zero probability that rates will go up. There is value in that option, so even if the mortgage rate is a little higher than your bond rates, it still may be worthwhile to hold on to the mortgage.

If you max out your retirement accounts and are piling up cash, then sure, start paying it down, at a modest pace.

There is value in liquidity. It allows you to take some risks from an investment perspective. It gives additional flexibility if the unexpected happens.

If you were to take out a regular personal loan, it would be more than 4.0%. A 4.0% education loan is subsidized. It is worth something. Paying it down is essentially giving away a subsidy.

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Re: Should we pay down 4% loan more quickly or invest in bonds?

Post by mega317 » Wed Mar 13, 2019 11:09 pm

JoinToday wrote:
Wed Mar 13, 2019 10:42 pm
I never made $310K, and am currently looking at the possibility of 32% tax rates MFJ (+9.3% calif). [41.3% total marginal tax rate -- don't get me started :x ].
How will you have more taxable income in retirement than you ever grossed while working? What are you spending all that money on? Or why did you work so long?

I'm curious to see your numbers if you're comfortable posting or PMing.

EnjoyIt
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Re: Should we pay down 4% loan more quickly or invest in bonds?

Post by EnjoyIt » Thu Mar 14, 2019 12:27 am

JoinToday wrote:
Wed Mar 13, 2019 10:07 pm
EnjoyIt wrote:
Wed Mar 13, 2019 11:33 am
Not putting away money into a pre-tax retirement account at your high tax bracket and putting it into debt is an emotional mistake. Sure being debt free feels good, but we should strive to take emotions out of investing instead of encouraging inferior emotional decision.
What is the "emotional mistake"? It appears like he is in the 24% bracket (+ state taxes). This is hardly a "high tax bracket". Is there anything that leads you to believe he will be in a lower tax bracket later?
People like the feeling to be debt free and who could blame them. Those who are willing to give up significant money in taxes vs paying down a low interest rate debt are choosing with those feelings instead of pragmatism. Don't get me wrong, the debt should go but if the OP and family have such a secure job then building wealth and saving money on taxes is the clear winner.
The top of the 12% bracket is a little over $100K (incl std deduction). If future Fed tax rates are lower, or if the OP's income drops below $100K (especially in retirement), I agree it would be prudent to continue funding. Otherwise, I am not seeing anything that indicates it would be a mistake to stop retirement saving & pay off the loan aggressively now.
One can withdraw $100k a year an pay $0 in taxes or very close to it. So yes, saving 24% in taxes is way better than saving 4% in interest
viewtopic.php?t=87471
A more likely scenario is that their income goes up into the 32% bracket. At that point, he would have been better off if he paid off the loan now, so they can save even more in retirement accounts to avoid paying 32% marginal tax rates (plus any possible increased tax rates in the future)
If OP has increased their salary into the 32% tax bracket then OP will be in a much better position to max out all retirement accounts and pay down debt.

EnjoyIt
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Re: Should we pay down 4% loan more quickly or invest in bonds?

Post by EnjoyIt » Thu Mar 14, 2019 12:32 am

JoinToday wrote:
Wed Mar 13, 2019 10:42 pm
mega317 wrote:
Wed Mar 13, 2019 10:12 pm
JoinToday wrote:
Wed Mar 13, 2019 10:07 pm
Is there anything that leads you to believe he will be in a lower tax bracket later?
A more likely scenario is that their income goes up into the 32% bracket. At that point, he would have been better off if he paid off the loan now, so they can save even more in retirement accounts to avoid paying 32% marginal tax rates (plus any possible increased tax rates in the future)
I think the idea is that 1) OP will continue contributing through their career, and 2) the tax bracket will be lower in retirement. This is common.

I agree your statements that it is common for most people to be in lower tax brackets in retirement . But most people aren't grossing $310K early in their career. I never made $310K, and am currently looking at the possibility of 32% tax rates MFJ (+9.3% calif). [41.3% total marginal tax rate -- don't get me started :x ].

I agree with the subsequent poster to make 401k/403b contributions to get the match.
You do realize even if you are in the 32% tax bracket, not everything is taxed at 32%. You still need to fill up the 10%, 12%, 22%, 24% buckets first. That's a hell of a lot of money not being taxed at 32%.

JoinToday
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Re: Should we pay down 4% loan more quickly or invest in bonds?

Post by JoinToday » Thu Mar 14, 2019 1:08 am

EnjoyIt wrote:
Thu Mar 14, 2019 12:32 am
JoinToday wrote:
Wed Mar 13, 2019 10:42 pm
mega317 wrote:
Wed Mar 13, 2019 10:12 pm
JoinToday wrote:
Wed Mar 13, 2019 10:07 pm
Is there anything that leads you to believe he will be in a lower tax bracket later?
A more likely scenario is that their income goes up into the 32% bracket. At that point, he would have been better off if he paid off the loan now, so they can save even more in retirement accounts to avoid paying 32% marginal tax rates (plus any possible increased tax rates in the future)
I think the idea is that 1) OP will continue contributing through their career, and 2) the tax bracket will be lower in retirement. This is common.

I agree your statements that it is common for most people to be in lower tax brackets in retirement . But most people aren't grossing $310K early in their career. I never made $310K, and am currently looking at the possibility of 32% tax rates MFJ (+9.3% calif). [41.3% total marginal tax rate -- don't get me started :x ].

I agree with the subsequent poster to make 401k/403b contributions to get the match.
You do realize even if you are in the 32% tax bracket, not everything is taxed at 32%. You still need to fill up the 10%, 12%, 22%, 24% buckets first. That's a hell of a lot of money not being taxed at 32%.
Yes, I realize that. But the 32% bracket isn't too far off from $310K (gross income of OP). He would be better off contributing money in the 32% bracket, than in the 24% bracket. It is all about marginal rates when making these decisions; marginal rates now, in the future while working, and in retirement. I can almost bet the OP will never be in the 12% bracket, probably not in the 22% bracket. And I will almost certainly bet the OP's bracket will be higher in the future.
I wish I had learned about index funds 25 years ago

EnjoyIt
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Re: Should we pay down 4% loan more quickly or invest in bonds?

Post by EnjoyIt » Thu Mar 14, 2019 1:33 am

JoinToday wrote:
Thu Mar 14, 2019 1:08 am
EnjoyIt wrote:
Thu Mar 14, 2019 12:32 am
JoinToday wrote:
Wed Mar 13, 2019 10:42 pm
mega317 wrote:
Wed Mar 13, 2019 10:12 pm
JoinToday wrote:
Wed Mar 13, 2019 10:07 pm
Is there anything that leads you to believe he will be in a lower tax bracket later?
A more likely scenario is that their income goes up into the 32% bracket. At that point, he would have been better off if he paid off the loan now, so they can save even more in retirement accounts to avoid paying 32% marginal tax rates (plus any possible increased tax rates in the future)
I think the idea is that 1) OP will continue contributing through their career, and 2) the tax bracket will be lower in retirement. This is common.

I agree your statements that it is common for most people to be in lower tax brackets in retirement . But most people aren't grossing $310K early in their career. I never made $310K, and am currently looking at the possibility of 32% tax rates MFJ (+9.3% calif). [41.3% total marginal tax rate -- don't get me started :x ].

I agree with the subsequent poster to make 401k/403b contributions to get the match.
You do realize even if you are in the 32% tax bracket, not everything is taxed at 32%. You still need to fill up the 10%, 12%, 22%, 24% buckets first. That's a hell of a lot of money not being taxed at 32%.
Yes, I realize that. But the 32% bracket isn't too far off from $310K (gross income of OP). He would be better off contributing money in the 32% bracket, than in the 24% bracket. It is all about marginal rates when making these decisions; marginal rates now, in the future while working, and in retirement. I can almost bet the OP will never be in the 12% bracket, probably not in the 22% bracket. And I will almost certainly bet the OP's bracket will be higher in the future.
I think that is a very poor bet using your own life experiences and projecting them on what OP wants. For example I can tell you that at my peak earning career we were in a higher tax bracket than OP, Semi retired now, and will likely fully retire what seams to be in the 12% tax bracket which will allow tons of Roth Conversions and we will likely never go over the 12% bracket. I predict our actual tax rate will be about 5%-8% OP is somewhere in between. Therefore even if they do end up in the 22% tax bracket they still need to fill up the lower brackets in retirement. Very little of their money will be taxed at 22%

Just play around with the numbers yourself. See what the affective tax will be for a family pulling $150k/yr in retirement from a pre-tax account. Ok, I will clue you in. It is 13.1% and that is if 100% of the funds are coming from pre-retiremnt accounts. What if OP has some after tax investments. What about a Roth account. I am sorry to say, but I have a feeling you may have a misunderstanding on how this tax arbitrage works and why funding pre-tax accounts is so beneficial.

katnok
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Re: Should we pay down 4% loan more quickly or invest in bonds?

Post by katnok » Thu Mar 14, 2019 4:37 am

maxsamson wrote:
Wed Mar 13, 2019 2:38 am

Her job is very secure. She is a family medicine doctor, which is in very high demand. She's also the assistant chief of her department at a major hospital system.

I'm a software engineer and in high demand as well.

Regarding no retirement contributions -- I guess I'd need to understand the calculation you're making. If one can expect returns of more than 4% over the long term for stocks, especially in tax advantaged accounts, then paying down the loans rather than investing in stocks would, on average, result in less net worth.

We're planning on having 2 kids, but also planning on continuing to work full-time.

While it is true that Family Medicine is in high demand, I'm guessing that she is likely making somewhere about 180-200K/year, which is at least 50-70k less than what's possible with a job change to a non-academic hospital system or a smaller, less desirable healthcare system. This is one way to increase her income and pay off the debt faster.

FIREmeup
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Re: Should we pay down 4% loan more quickly or invest in bonds?

Post by FIREmeup » Thu Mar 14, 2019 6:38 am

How I see it:

You are young.
You bring in good money.
You want to have kids.
You have a nice chunk of debt.
You have job security, your wife has super job security.

I really think this is an easy one. Max out your tax sheltered space. This is a no brainer no matter who you are.

I think paying down your debt should be a high priority. Absolutely no bonds until medical school debt is paid off. At 100% stock you just have to be ok with the extra volatility which you should be because, you are young. Though no one wants it you should welcome a stock swoon and investing when everything is on sale. You aren't touching this money for 20 years at least. You know in a downturn your wife will have money coming in with certainty and you with decent certainty.

Also, once you have kids it becomes harder to save so shake yourself free of this debt while you can both live far below your means because kids bring expenses and it sounds like childcare expenses are in your future which is not cheap.

Good luck.

nolesrule
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Re: Should we pay down 4% loan more quickly or invest in bonds?

Post by nolesrule » Thu Mar 14, 2019 7:03 am

JoinToday wrote:
Thu Mar 14, 2019 1:08 am


Yes, I realize that. But the 32% bracket isn't too far off from $310K (gross income of OP). He would be better off contributing money in the 32% bracket, than in the 24% bracket. It is all about marginal rates when making these decisions; marginal rates now, in the future while working, and in retirement. I can almost bet the OP will never be in the 12% bracket, probably not in the 22% bracket. And I will almost certainly bet the OP's bracket will be higher in the future.
Money going in now at 24% will come out at under 24% unless they already have a large tax-deferred balance currently that would put them in the 24% bracket now if they started withdrawals now. You don't just skip the tax-advantaged space because you anticipate a higher tax bracket in the future while working. You compare it to how it would come out, based on your current tax-deferred balance, upon withdrawal. You don't get the tax-advantaged space back.

Right now the OP has $134k in traditional. That's only $5300 per year drawn in retirement. It won't even get you to the standard deduction.

WorkToLive
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Re: Should we pay down 4% loan more quickly or invest in bonds?

Post by WorkToLive » Thu Mar 14, 2019 7:08 am

I am in the camp of maxing out all pre-tax retirement space as well. A few people have mentioned it, but I would strongly encourage you to look at your $10,000 in monthly expenses and evaluate if that can be reduced. I can see that amount with two kids in full-time daycare, but for Dinks with $300,000 in debt? While I was paying off the mortgage, we lived on a shoestring budget and 5 years later I couldn't be happier with the choices I made.

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Ketawa
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Re: Should we pay down 4% loan more quickly or invest in bonds?

Post by Ketawa » Thu Mar 14, 2019 9:20 am

l1am wrote:
Wed Mar 13, 2019 9:39 pm
Ketawa wrote:
Wed Mar 13, 2019 1:54 pm
I agree with the idea that borrowing $100K at 4% to invest is a form of leveraging, but there are other considerations. Tax-advantaged savings are limited every year, so it often makes sense to maximize those and still hold bonds in them regardless of the investor's debt.
Tangentially, would it be wise for anyone (in a reasonably good financial situation) to take out a 4% loan in order to max out their tax advantaged space if they otherwise couldn't?

I'm not trying to catch you out, I've just never thought of it this way before.
Generally, I think only if they will max out every year from now until retirement. Otherwise, forgoing the space now can be made up later

cherijoh
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Re: Should we pay down 4% loan more quickly or invest in bonds?

Post by cherijoh » Thu Mar 14, 2019 9:33 am

maxsamson wrote:
Wed Mar 13, 2019 1:49 am
l1am wrote:
Wed Mar 13, 2019 12:00 am
It's a strange way of looking at it. Why are you 75/25 if you're comfortable at 100/0, which you're alluding to when you say you want to use the bonds to pay off the loan?
I guess I don't view it as the same as being comfortable at 100/0. From the wiki:
If you have money that you could invest, but you also have a loan, you have the option of using the money to pay down the loan instead. Paying down the loan will give you a guaranteed return by reducing your future loan balance, and eventually eliminating future loan payments or giving you more money when the loan is paid off. This is the same benefit that you get from a fixed-income investment such as a bond or certificate of deposit (CD), which also gives you fixed amounts of money at specified future times.

Therefore, it makes sense to treat paying down a loan like a bond investment, and compare this option to your other investment options.
l1am wrote:
Wed Mar 13, 2019 12:00 am
$35k in checking? That's costing you 4%. Use it to pay off the loans.
Yes, this high and some will get used to either pay off the loan or invest.
I'm not sure how that got put into the wiki, as that is a somewhat controversial viewpoint especially when taken to the extreme as you suggest doing (i.e., 0% in bonds). IMO it would make more sense for someone with a conservative portfolio (e.g., 60/40 or 50/50) to pay off debt instead of adding to their bond allocation. They could drop it back to 75/25 or even 80/20.

Personally, I don't think anyone should be at 100% stock, since you get very little incremental return for the extra risk. I never went above 80% in stocks, but I'm more conservative than some. I would certainly maintain at least 10% in bonds.

jhwkr542
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Re: Should we pay down 4% loan more quickly or invest in bonds?

Post by jhwkr542 » Thu Mar 14, 2019 9:42 am

The real mistake in this post is taking 15 years to pay off $300k in loans with a $300k salary.

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Ketawa
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Re: Should we pay down 4% loan more quickly or invest in bonds?

Post by Ketawa » Thu Mar 14, 2019 9:54 am

cherijoh wrote:
Thu Mar 14, 2019 9:33 am
I'm not sure how that got put into the wiki, as that is a somewhat controversial viewpoint especially when taken to the extreme as you suggest doing (i.e., 0% in bonds). IMO it would make more sense for someone with a conservative portfolio (e.g., 60/40 or 50/50) to pay off debt instead of adding to their bond allocation. They could drop it back to 75/25 or even 80/20.

Personally, I don't think anyone should be at 100% stock, since you get very little incremental return for the extra risk. I never went above 80% in stocks, but I'm more conservative than some. I would certainly maintain at least 10% in bonds.
It shouldn't be controversial; the wiki provides additional context in the rest of the article.

If there were no frictions like inability to access funds in retirement accounts, it could make complete sense to go from a 50/50 portfolio to 100/0 by selling all the fixed income investments to pay off higher interest rate debt while still maintaining an emergency fund. And it could also make sense to go form 90/10 to 100/0 in the same scenario.

There is a difference between being 100/0 because you sold fixed income investments to pay off debt, and being 100/0 because you sold fixed income investments to buy equities. The second scenario is a lot riskier.

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maxsamson
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Re: Should we pay down 4% loan more quickly or invest in bonds?

Post by maxsamson » Thu Mar 14, 2019 10:37 am

WorkToLive wrote:
Thu Mar 14, 2019 7:08 am
I am in the camp of maxing out all pre-tax retirement space as well. A few people have mentioned it, but I would strongly encourage you to look at your $10,000 in monthly expenses and evaluate if that can be reduced. I can see that amount with two kids in full-time daycare, but for Dinks with $300,000 in debt? While I was paying off the mortgage, we lived on a shoestring budget and 5 years later I couldn't be happier with the choices I made.
I should have clarified that the $10.2k in expenses includes about $2.9k for current loan payments (we're just about to have the refinancing go through, which will drop that amount down to $2.2k

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