Pay-off student loans or save for a house???

[megumic]

Hubby just got his annual bonus and our tax refund is coming up, so we've been talking lots about how to reallocate money and make a budget for 2011.

The big question we just aren't sure how to answer is how we should approach my student loans (we're talking 6 digits.) We totally need some Suze advice. We can pay down the loans and get them paid off faster and continue renting longer, or we can make minimum payments and save aggressively for a house/retirement. The advice we've generally received is to hold onto the student debt forever since it's not "bad" debt (i.e. credit card debt, 401k loans, etc.) What do y'all think? Many of you have been there and done that with either saving for a home, paying of student loans, or both, so any advice you can offer is appreciated.

FWIW, we have no credit card debt and a small car loan that we're paying off monthly. We have 6 months of an emergency fund in liquid cash. Also important to note that we'll have to save ballpark $70-100k down-payment before we can consider buying. Sadly, in our area, even small homes start at about $400k

 

[kelpie]

Buy diamonds!

Seriously though, you are right about student loans not being bad debt. I'd open a ROTH IRA if I met the income limits (which you can access to purchase your first house).

 

[suchende]

If there's any chance you'll be able to take advantage of IBR/LRAP I would not go after student loans. You don't want to end up paying debt you might have been able to get forgiven.

 

[megumic]

Buy diamonds!

Seriously though, you are right about student loans not being bad debt. I'd open a ROTH IRA if I met the income limits (which you can access to purchase your first house).

Ha! I have one lovely diamond and that's enough for now! And yes, I forgot to mention, we also have a ROTH IRA and have contributed for 2010. Any other suggestions??? We also opened a 529 already for future little ones.

 

[meresal]

Just my .02, but I think the bigger picture is what kind of loan you are going to be able to get with 6 digits worth of debt under your name... I am guessing you would have to apply only using your husband's name. Would you be able to get the kind of house you want with a loan that is only based on your husband's credit and salary.

Just something else to look at.

As for the student loan debt. I think the whole point is that you use it to gain an education, and then you use the education to pay it off as you make money. I don't believe it is one of those debts that you need to pay off immediately as you receive the funds. I gets paid off in time, just like getting your education took time.
I would save AND pay as much as your can on the student loans. Maybe you all could find a good medium.

With that said, going back to the first point, I think going to a lender/bank and talking to them about what you could even get as far as a loan goes, might be a good idea. You may realize that you can't even get the amount you want, since I don't think you would be able to use your name.

Maybe someone else here with student loan debt would have some more insight on the whole bank approval process...

ETA: I jsut saw about the ROTH's and the 529's. If I were you, I would cinsider holding off on the 529's in order to get the student loan debt down as quickly as possible. This is jsut me, but I wouldn't want that kind of debt lingering over my head for a very long time.

 

[Miss Sparkly]

I don't have student loan debt however I used to write loans before moving to admin. Debt is Debt and no matter the kind of debt it will have and effect on your debt to income ratio. The method of calculating your FICO is beyond me. I had a lot of "bad" debt when we bought our house but my FICO was in the high 700's.

Is your debt to income ratio low enough to qualify you for a mortgage?

If you pay down your student loans will your min payment go down lowering your debt to income ratio?

What is the interest rate of your student loan compared to the interest rate on a second home loan?

For example, an 80/10 split is not the best idea in the world but it's an option for buying a home.

I'm assuming that if you're that far in debt with student loans then your profession is specialized (or a private college). How secure is your job? If you don't feel secure in your job, how far to you have to travel to find a comparable job? If your job is the one an only in its class for miles then I would pay down the student loans in the event that a job loss would force a move.

If you buy a house can you afford to fix the house when things break? This killed DH and I and we couldn't afford it.

Why do you want to buy a home? If you're looking at it as an investment, by the time the house loan is paid off your house will HAVE to have doubled in value just to make up for the interest you paid to own it.

Personally I would pay off the student loans first. In my area (I'm not sure where your at) housing prices have gone down another 20%. For DH and I that meant that the house that we used to own (median home price btw) and bought at $155,000 is now worth $56,000 after three years. If your city is in a similar trend it will likely be a long time before we ever see the prices at the height of the bubble again.

 

[Miss Sparkly]

Question: Why did you choose a Roth over a Traditional? Do you expect to be in a higher income bracket during the retired years vs now? Most people are in a lower income bracket in the retiring years and if you choose traditional you can claim a lower income level now which may assist you in lowering your taxes and increasing your refund - keeping in mind though that I know nothing about your finances

 

[kelpie]

I'm no expert but I always thought student loan debt was not considered when you apply for a mortgage except when judging your monthly expenses. If you have maxed out your roths then you are saving superstars. Sounds like you're doing very well. I think the things that must be weighed are 1) the interest rates of your student loans 2) How many years will it take you to pay off? 3) what is the rent like compared to a potential mortgage? 4) How much do you need to put down to get a mortgage because I think it's a huge chunk of money these days.

 

[PilsnPinkysMom]

I'd say to reduce your loans with the bonus and tax refund and THEN start saving for your down payment, funneling the money you save each month from reducing your total loan amount toward your future home. Of course, I am embarrassingly unaware when it comes to financial planning... So perhaps you should listen to everyone else!

Our situation was as follows:

DH's student debt was ~175k. After graduation we funneled every extra cent toward that debt until it was under six figures, then we went back to putting only what was required toward the student loans and started saving for our house down payment. Once we got into our home we started to build up our emergency savings and then started funneling every extra cent back into his loans. It was risky of us to not have emergency $ set aside for so long, but thankfully we were okay.

We had no problem getting a home loan. Like you, we had no CC debt and great credit scores... and we bought a modest house that was within our means. I think it all depends on your income and what % of that income is tied up in paying off debts.

BUT- Aside from an emergency fund, 401k and whatever is needed for our next home reno project, we have no savings. It's probably irresponsible, but it's hard to feel like we're saving when there's student debt hanging over our heads. Once DH's loans are paid in full I hope we will take all of that savings and invest it.

 

[megumic]

Just my .02, but I think the bigger picture is what kind of loan you are going to be able to get with 6 digits worth of debt under your name... I am guessing you would have to apply only using your husband's name. Would you be able to get the kind of house you want with a loan that is only based on your husband's credit and salary.

Just something else to look at.

As for the student loan debt. I think the whole point is that you use it to gain an education, and then you use the education to pay it off as you make money. I don't believe it is one of those debts that you need to pay off immediately as you receive the funds. I gets paid off in time, just like getting your education took time.
I would save AND pay as much as your can on the student loans. Maybe you all could find a good medium.

With that said, going back to the first point, I think going to a lender/bank and talking to them about what you could even get as far as a loan goes, might be a good idea. You may realize that you can't even get the amount you want, since I don't think you would be able to use your name.

Maybe someone else here with student loan debt would have some more insight on the whole bank approval process...

ETA: I jsut saw about the ROTH's and the 529's. If I were you, I would cinsider holding off on the 529's in order to get the student loan debt down as quickly as possible. This is jsut me, but I wouldn't want that kind of debt lingering over my head for a very long time.

Thanks for the insight. Definitely some things to consider. Actually, my FICO is better than DH's. Mine is above 770, his is above 700, so we're in good shape. Our combined income is more than our debt, so I don't think my loan debt will hurt us. We're hoping to save up enough of a down-payment to have a small mortgage, so there is less risk to the lender by us putting 20-25% down.

Also, was just reading this article which gives some good insight too: http://www.kiplinger.com/columns/drt/archive/2007/dt070926.html

"Mortgage lenders traditionally follow what's known as the 28/36 rule: No more than 28% of your monthly gross income should be dedicated to your mortgage payment, property taxes and insurance. And your total debt payments should equal no more than 36% of your gross income.

Two other factors are also important: The more money you put down, the less risk the lender takes on and the more likely you are to get a mortgage. Especially in today's market, in which lenders are looking for squeaky-clean borrowers, a bigger down payment makes you more attractive.

And, of course, lenders look at your credit score. Here, too, your student loans could have an effect -- but not necessarily negative. When credit scores are calculated, student-loan debt is viewed more favorably than credit-card debt.

That's because the FICO score, which most lenders use, divides debt into two categories: installment loans and revolving loans. Student loans, mortgages and car loans -- which require you to pay a fixed amount every month -- are installment loans. Credit cards -- which let you control your monthly payments -- are revolving loans.

Owing a lot of money in installment debt isn't going to hurt your credit score as much as maxing out your credit cards."

 

[megumic]

Question: Why did you choose a Roth over a Traditional? Do you expect to be in a higher income bracket during the retired years vs now? Most people are in a lower income bracket in the retiring years and if you choose traditional you can claim a lower income level now which may assist you in lowering your taxes and increasing your refund - keeping in mind though that I know nothing about your finances

We decided that putting in for example 5 post-tax dollars now versus paying tax of $50 later was the smarter move for us financially. We also like that we are not required to take minimum withdrawals at age 70 1/2, which extends the tax benefits if you don't touch it. We also considered that you won't know tax rates in the future, could go up, most likely won't go down, so it makes more sense to err on the conservative side and be taxed at the known rate.

 

[basil]

Kind of depends on what your student loan interest rate is. If it's lower than what you expect you can get a mortgage at, then I wouldn't rush to pay it off. DH and I are in a similar situation, but our student loan interest rate is only 2.5-3.5% so it doesn't make sense to pay it off quickly, because our mortgage now and any mortgage in the future will be a higher interest rate, so it will be more worthwhile to have a larger downpayment. It's also not worth NOT contributing to retirement in order to pay off low interest loans, because due to the compound interest (or whatever you call that) it's actually most important to contribute when you are younger. This is what multiple financial advisors have told us.

Also consider that it would be nicer to have a house sooner, and that's worth something. Life's not all about dying with the most money

 

[megumic]

Kind of depends on what your student loan interest rate is. If it's lower than what you expect you can get a mortgage at, then I wouldn't rush to pay it off. DH and I are in a similar situation, but our student loan interest rate is only 2.5-3.5% so it doesn't make sense to pay it off quickly, because our mortgage now and any mortgage in the future will be a higher interest rate, so it will be more worthwhile to have a larger downpayment. It's also not worth NOT contributing to retirement in order to pay off low interest loans, because due to the compound interest (or whatever you call that) it's actually most important to contribute when you are younger. This is what multiple financial advisors have told us.

Also consider that it would be nicer to have a house sooner, and that's worth something. Life's not all about dying with the most money

RIGHT! This is part of the argument. The less we put toward student loan debt, the more we have available to put toward a down-payment on a house, and sooner. But you make a good point about interest rates as well. Thanks!

 

[Dancing Fire]

Question: Why did you choose a Roth over a Traditional? Do you expect to be in a higher income bracket during the retired years vs now? Most people are in a lower income bracket in the retiring years and if you choose traditional you can claim a lower income level now which may assist you in lowering your taxes and increasing your refund - keeping in mind though that I know nothing about your finances

b/c i can make a zillion $$$ w/o giving Uncle Sam a single dime.IMO...IF you qualify, Roth IRA is the best deal out there.i wish they raise the limit on Roth IRAs. i advised my daugther to max out her Roth IRA then contribute into her 401k since her employer does not match any %.

 

[Octavia]

Meg, my DH and I JUST had this decision and we chose to pay down my student loans. In our case, we're probably not looking to buy a house for at least another two years due to some potential job instability (his company is not in the best situation now, and although things will probably be okay in the end, we don't want to voluntarily take on a mortgage just in case...). And while my job is "safe," it's only a two-year position so I'll be looking again before I know it, and who knows what I'll find then. So it just doesn't seem sensible. On the other hand, my DH was able to save a lot of money before we married, but the interest rate was pitiful, so we decided it was better for us to take a portion of it and pay off a large chunk of my student loans which were at the standard Stafford rate (6.8%, though I do auto-debit so it was reduced to 6.55%). This way, it lowers my monthly payments enough that if something does happen to his job, we will be able to afford most of our basic monthly expenses on my salary and won't have to draw on the emergency fun much. As well, we would rather not pay the bank more interest than absolutely necessary. So now I'm still going to "pay" the same amount each month, but a percentage of that will go back into savings and the rest will go toward aggressively paying down the rest of my student loans. I'm hoping to pay off the last of my law school debt before this job ends, and my undergrad debt is at something like 1.6%, so I'm only paying the minimum on that for now.

Anyway, that was our situation. IMO, if your jobs are very stable and you REALLY want the house, then saving for it is a good idea. If you're okay with renting for awhile longer, I would pay down the debt ASAP. Yes, it's not "bad" debt the way CC debt is, but it's still an obligation that you have and it's not going to go away for a long, long time. Plus, earlier pay-downs really count because you're reducing the amount of interest you pay overall. Also, regarding LRAP/forgiveness, check carefully into eligibility and tax issues...and although the program is there for now, I don't know that I'd make long-term decisions based on that because it's a long way off and there's no guarantee it will always be around.

I totally understand the desire to buy a house, it's killing me to keep renting and it now looks like we'll probably still be renting when we TTC and even maybe once we have a baby, depending on how things go...it was NOT my plan to have it that way, but it's just so much better for us, financially, not to be tied to a house right now. So I think it's important to be honest with yourselves about whether you want to the house for sentimental reasons, or whether it would actually be a smart long-term financial move. Run the numbers, the answer might be surprising. Also, really examine your feelings on being beholden to the bank for your SLs. My DH and I decided that we wouldn't feel truly comfortable until we don't owe anything to anyone, so we're prioritizing that. I guess if the house was higher on our list of priorities (and more feasible right now), we might have decided differently.

Whew, that was long...and rambling...but since we just made that decision, I figured I'd write out the process of how we came to it. Hope it helps a bit!

 

[Bella_mezzo]

Hi Meg-For me, it would depend on the interest rates and how important to you buying a house now is/how much it would improve your perception of your quality of life...

We bought our coop in NYC with a lot of student loan debt, but it was important to us, our student loans are at 3-4%, we got a mortgage at 4.5% and we are about to take out more student loans for business school (me) and postbac/med school (DH) so we had a narrow window of time that we were confident we could get a loan and more importantly (b/c their requirements are more stringent) pass a coop board.

Sometimes it would be nice mentally to know we were paying down our loans more aggressively, but for us I think this really was the best decision...(we'll see if I feel that way in 2-3 years when we may have to move for DH to go to med school.... )

 

[jstarfireb]

I'd pay off the loans. A few years ago, my husband remarked that his student loan interest rates were lower than the APY of high-yield online savings accounts, so he was actually making money by not paying off his loans. With the Fed lowering interest rates more and more, this is no longer the case. Our HSBC Direct online accounts, for example, are now down below 1% (they started above 5%). So I think it's important to get yourself out of debt ASAP before you get into even more debt (e.g. mortgages). There's nothing wrong with renting for a while longer. And my husband also worked out the numbers for renting vs. buying while we were in med school, and it was a lot more expensive to buy. I for one am OK with renting for the rest of our lives if we need to.

 

[Amethyste]

Remember that you student loan will count toward your monthly debt. Usually lender will be more relunctant to lend if your deb ratio is above 32%. When you have a house so many things will fall on you, like a roof that starts leaking etc and the extra income is going to be helpful for those situation...

 

[JulieN]

It pretty much depends on the interest rate of your loans. Anything above 5-6%, I'd pay off aggressively.

 

[monarch64]

I'd pay off the loans. A few years ago, my husband remarked that his student loan interest rates were lower than the APY of high-yield online savings accounts, so he was actually making money by not paying off his loans. With the Fed lowering interest rates more and more, this is no longer the case. Our HSBC Direct online accounts, for example, are now down below 1% (they started above 5%). So I think it's important to get yourself out of debt ASAP before you get into even more debt (e.g. mortgages). There's nothing wrong with renting for a while longer. And my husband also worked out the numbers for renting vs. buying while we were in med school, and it was a lot more expensive to buy. I for one am OK with renting for the rest of our lives if we need to.

Yes to this! I'd do whatever I could to pay off outstanding debt including student loans, before buying a house.

 

[swingirl]

You'd be surprised at how much money a house can suck up. Insurance, property taxes, maintenance and repairs. Then there's landscaping equipment, more furniture, window treatments, and the list goes on. If you can hold off a while, continue to rent and keep your costs down, and pay towards your loans, I think you'll be better off in the long run. Your incomes should be increasing, too.

 

[elrohwen]

We're in a similar position, though DH's student loans are less than $30k. We knew we could put our savings towards that or save for a house. It would be nice to have $400 extra per month (by paying off the loans) but we also really want a house. We calculated how much we'll pay in interest the next few years if we don't pay the loans off and it really wasn't much at all, so we decided to go for the house.

That's how I'd approach it, if I were you. If you're going to end up paying $20k in interest or something, it might be a better idea to just pay them off now. If the amount you'll pay is something you think is reasonable, then go for the house.

 

[charbie]

Ok, so my advice isn't going to sound nearly as intelligently thought out as everyone elses, but having student loan debt (tho like El, I've got less than $25k to pay down) and having also purchased a new home recently, ill tell you what thought process we went through.

For us, home ownership was important. And it was important to get started on paying downa mortgage debt as young as possible to be able to enjoy the benefits of the money spent on our home as young as possible. In my area, renting a nice sized home is pretty much the same as a mortgage payment anyways. The way I look at it, if in 15 yrs if we sell our house, SOME money will return to us. In 15 yrs...the only return on my education investment is intellectual. IIRC, the loan officer has been much more interested in our monthly payments on loans an FICO scores...not the grand total of our debts. If that were the case, there's no way wed get a loan with a rental property we own, cars, student loans...gaahh!

DH and I are making payments on all our loans, but also tackling one loan at a time and adding extra payments to it. Now that the house has been bought, we will finish off the student loans and each one tthe gets finished, the money that was going towards the loan will go towards the mortgage instead.

When all is said and done, when im an empty nester at 60 and downgrading, it'll be nice to retire a bit early bc we have no house payment and change in my pocket bc we can buy a house with cash at that point from the sale of our new house.

Take my advice with a grain of salt....its what works for us but wont work for everyone.

 

[Octavia]

Oh, another thing I didn't think to say before, which charbie's post reminded me of, is that I think your intentions for the house also matter. If you're looking for a "starter house" and plan to trade up before 5 - 7 years, your buying/selling/moving costs will probably eat up quite a bit of your equity, so you might get further ahead by paying down the loans now. If you're looking at a "forever home," buying it sooner makes sense.

 

[chemgirl]

DH and I are looking for a house and we both had student loans. I suggest you speak to your lender before you make any decisions. Our bank told us exactly what to do to make us look more attractive for a mortgage. In our case, my government student loan has a low interest rate and doesn't show up as a negative. It is factored in to our monthly expenditures, but the total isn't taken in to account. On the other hand, DH's parents made too much so he didn't qualify for a government loan. He had to get a student bank loan instead. The total of that loan showed up on our records and the lender couldn't tell the different between DH's student loan and credit card debt. They advised us to pay off DH's student loans, but to make the minimum payment on mine. We used a chunk of our savings to pay off DH's loan and then saved for a downpayment.

We're in Canada though so things might be different in the US. Also, because we're in Canada our student loans were nowhere near 6 figures. I don't know if the monthly payments would be high enough to affect your ability to get a mortgage.

 

[Miss Sparkly]

DH and I are looking for a house and we both had student loans. I suggest you speak to your lender before you make any decisions. Our bank told us exactly what to do to make us look more attractive for a mortgage. In our case, my government student loan has a low interest rate and doesn't show up as a negative. It is factored in to our monthly expenditures, but the total isn't taken in to account. On the other hand, DH's parents made too much so he didn't qualify for a government loan. He had to get a student bank loan instead. The total of that loan showed up on our records and the lender couldn't tell the different between DH's student loan and credit card debt. They advised us to pay off DH's student loans, but to make the minimum payment on mine. We used a chunk of our savings to pay off DH's loan and then saved for a downpayment.

We're in Canada though so things might be different in the US. Also, because we're in Canada our student loans were nowhere near 6 figures. I don't know if the monthly payments would be high enough to affect your ability to get a mortgage.

In the US the lender should easily be able to tell what type of loan is held. I would head to the bank or credit union of your choice and speak with them. When I was working for a huge national bank the biggest considerations were for the credit score, the debt to income ratio and the loan to value. Now that I'm working for a small community bank it's a whole different ballgame. Since all loans are written in house it's much easier to communicate and work with a smaller bank if you have items that you foresee as possible issues.

It might also be a good idea to print a copy of your credit report off yourselves and take it into the banks with you. That way you're not having several inquires onto your credit.

 

[suchende]

DH and I are looking for a house and we both had student loans. I suggest you speak to your lender before you make any decisions. Our bank told us exactly what to do to make us look more attractive for a mortgage. In our case, my government student loan has a low interest rate and doesn't show up as a negative. It is factored in to our monthly expenditures, but the total isn't taken in to account. On the other hand, DH's parents made too much so he didn't qualify for a government loan. He had to get a student bank loan instead. The total of that loan showed up on our records and the lender couldn't tell the different between DH's student loan and credit card debt. They advised us to pay off DH's student loans, but to make the minimum payment on mine. We used a chunk of our savings to pay off DH's loan and then saved for a downpayment.

We're in Canada though so things might be different in the US. Also, because we're in Canada our student loans were nowhere near 6 figures. I don't know if the monthly payments would be high enough to affect your ability to get a mortgage.

For what it's worth, going to law school in Canada could also put you six figures into debt: U of T tuition for 3 years would be over $60k, so if you had to take out full living expenses, books and fees on top of that it could push you into 6 figure territory as well. Not that I am defending the cost of a legal education in either country!

 

[charbie]

Oh, another thing I didn't think to say before, which charbie's post reminded me of, is that I think your intentions for the house also matter. If you're looking for a "starter house" and plan to trade up before 5 - 7 years, your buying/selling/moving costs will probably eat up quite a bit of your equity, so you might get further ahead by paying down the loans now. If you're looking at a "forever home," buying it sooner makes sense.

Very, very true.
DH bought his starter home at age 25 with almost no money down...(ahhh, the joys of lenders handing money out to any breathing soul) and we are stuck with it until the market turns. We are lucky to be renting it, but it is scary!
this home was bought with the intention of living there until we are old and gray....or DH gets an amazing offer we can't refuse in a sunny warm state. however, I can't imagine we will stay in it once we have children who have moved out...etc...at least 30 yrs from now.

 

[Bella_mezzo]

yes! very true on the "how long do you plan to live there" point!

We bought the coop nearly 2 years ago b/c we thought we'd be in NYC for the duration. Now there's probably a 40-50% we'll move in 3 years. Since we negotiated an amazing deal on our coop and have a great loan we'll be okay if we have to sell, but we'll probably just break-even b/c of realtor/closing/transaction costs (though we did get the $8k homebuyer credit so that was helpful But, if the market trends up a little from it's current low, even if we're forced to sell in a few years we might make a small profit...if we stay in NYC longer than that, the coop was definitely a good buy...

 

[megumic]

Thanks everyone for the thoughts and input. All things to definitely consider before we make a decision. It's a lot to think about and finances drive us nuts -- we never want to make a false move (who does??)! Keep you posted...

PS - I also emailed the question to Suze Orman...we'll see if she answers our question!