School loans v. car payments v. 401K?

Question

I have 2 different school loans, one is at 7.2% interest rate, the other is twice the amount with a 2.8% interest rate. I've been paying about 2-3 times the minimum every month on the higher interest rate loan, but I'm still pretty far off from repayment. I am about a year into my car loan (a 48-month loan, unsure of the interest rate). I've been out of college and working for a year and haven't set up my 401K yet. I'm only 23 so I feel like I have lots of time, but everything I read says to do it ASAP! Should I be funding that instead of paying my loans back faster than required?

I'm not living paycheck to paycheck, I generally have some money left over to save every month and I don't carry credit card debt. I feel like I'm smart about money, but at a young age it's all kind of new and overwhelming! Any standard advice that could help me feel like I have a grip on all this? Any books that lay it out plan and simply?

Answer 1

You seem to be on the right track. BUT you haven't figured out why everyone is telling you to do your 401k NOW.

simply put - $20/month saved now will yield approx $100,000 at age 65. If you wait till age 50 it will take about $500./month.
Get the picture. Time is on your side when it comes to accumulating money. The less time you have the worst it becomes for you.

Even if you don't start with the max, start with something. It is also a psych boost to see the account grow.

Answer 2

If your company offers 401K you most definitely should be contributing, even if you start out at a low percentage. If your company does any matching (say up to 6%) you are throwing free money away every single pay day. If you go onto your companies 401K providers website, they should have some type of 401K/retirement calculator to show you what you should be contributing and what you will receive at retirement age on a monthly basis with the current contribution. Since you are young, most likely you will not stay with your current company for the rest of your life. So... you don't really know if in fact your next company will have the same 401K benefits. I would do the bare minimum to start until you get used to the deduction, then increase when you are comfortable with a certain amount coming out of your check. Also, keep in mind that it's not taxed, so your take home pay is less, therefore giving you a better tax break at the end of the year.

Answer 3

Savings is important, whether it's through a 401k or some other account. You're smart to not have credit card debt. So it sounds like you're sensible and are off to a great start.

I'd suggest putting just a small amount into savings each and every paycheck,and using the rest to pay down your higher interest debt quickly and get rid of it. Both your student loan rates are low, so congrats! Check the rate on your car loan, but also check to see if there's a pre-payment penalty (so you'd still have to pay all the interest for the 48 months even if you tried to finish up early). If you have a penalty, there's no sense in rushing payments on that.

Don't put all your extra money into retirement, though. You need to have some liquid assets you can access in an emergency. Ideally, you should have six months of emergency cash in a form you can draw off without penalties or tax burdens.

A book I love and recommend is Pay It Down! by Jean Chatzky. Read it, live it, get rich.

Good luck.

Answer 4

Normally, I'd say focus your extra cash on the highest interest loan because that improves your financial situation the fastest.

However, you may be throwing away free money. If your employer matches 401(k) contributions then you can multiply the effect of every dollar you contribute to the 401(k).

Find out what the match rate is. It can range from 0% (Cheapskates) to 100%. If it is 100% then you are getting $1 for every $1 you sock away.

I like to think of things in terms of the cost annual cost/benefit.

The 7.2% loan costs you 7.2 cents a year for every dollar in the balance. Paying off a dollar of loan earns you 7.2 cents.

Suppose you know you'll make 6% investment return on average in the 401(k) and there is a 100% match. A dollar contribution earns you $1.12!! because it gets matched and you earn 6% on both dollars.

Note that the second dollar in the 401(k) is subject to vesting. You may not fully own it until you've worked for the employer for up to 5 years.

Of course, a lower match % reduces the value of this deal but almost any match is better than your low interest loans.

So, I'd put some of your extra cash to the 401(k). Once you get to the maximum match rate, then concentrate on the loans starting with the highest interest rate.

Most plans have a maximum contribution rate at which the match stops. For example: 100% match up to 3% of pay: you get matched dollar for dollar for the first 3% of pay but if you contribute 4% they only match 3%.

Answer 5

Sounds to me like you are on the right track. On the loans, ALWAYS pay off higher interest rate loans 1st. Obviously it is costing you more in the long run. However, you have to determine the length of time it will take to pay it off. You might consider only paying 2 times the minimum and putting the other in your 401K. At least you'd be covered all the way around then. Trust me I'm there now and sure could have used a lot more in mine.

Keep up the good work

Answer 6

At any age you need to learn to pay yourself first. Save it for a while and start that emergency fund. Start your 401K. Buy a house instead of rent, this will begin building equity over time. Do everything you can to always live below your income and save everything extra. Look for ways to get more than an average 8-11 precent return on your money once you have some basic savings taken care of. Purchase another house. Invest in more agressive stocks. You should be able to retire early if you follow even some of these tips. You're doing great avoiding the traps of credit card debt.

Remember that the interest on student loans are tax deductable and 401K contributions are pre tax. Basically for every $50 you invest you get a $9 tax break. This depends on your federal tax bracket. If you company is willing to match work up to their matching amount as soon as you can after you have an emergency fund established.

-ADVERTISEMENT-
Make unlimited calls for one low price!
http://www.ecr.com/promo/localwebpro/

Answer 7

I worked in the garnishment department for US Department of Education. The best advice I can give you is to make CERTAIN you stay on top of your student loans. A 10k loan can easily turn into 20k if you let it go deliquent. They attach a 25% collection penalty (of the current balance) and higher interest rate for defaults. It's not a good thing at all to have a federal loan in the red. They don't go to court for garnishment and they will take your tax returns every year until you pay it in full. The sooner you can pay that sucker off the better. They NEVER go away until you pay them... just a heads up!! I would definately advise you to not put this on the back burner. I've seen alot of unfortunate people get railroaded over these! :) Best wishes!...

Answer 8

first have an emergency fund for your expenses. you should put every extra dollar towards that until its complete (according to Dave Ramsey $1000) after that your start paying debt and then you start investing. however, if your company matches contributions, get the free money. make a timeline for the student loans that you care comfortable with and but the extra towards the 401k. if they dont match, its more beneficial to get out of debt, relative to the interest rates. if your employer matches contributions, the return would be worth the extended loan time. do some math and see what you come up with.

Answer 9

yes, start contributing to your 401k. Most employers match, so if you don't participate you could be loosing out. You should also try consolidating your student loans into 1. Since you've been paying them on time, you shouldn't have a problem.

Answer 10

Read Dave Ramsey's book, Financial Peace Revisited.

His 7 Baby Steps to Financial Peace are awesome!!!

You are doing great!

Have you calculated your debt freedom date if you continue to pay off your debt at the rate you are? If you are going to become debt-free in the next two years or less, then go after the debt like crazy!

If it is more like five years until you become debt-free, then you should start investing at least 10% of your gross income now.

You can calculate your Debt Freedom Date using the calculator on my personal finance blog at http://www.josephsangl.com Click on "Tools" and then the "Debt Freedom Date Calculator".

Based on the way you are attacking your debt, I suspect that you are going to win big-time!