Pay off student loans early or take the tax deduction from the interest?

[Seaweed]

Pay off student loans early or take the tax deduction from the interest?

Pay off student loan early or take the tax deduction from the interest?


My tax guy suggested I not pay off my student loans early but rather use the interest paid as a deduction. What are your thoughts?

Payment is 128.58
Interest is: 7.940%
Balance is 5,632.

Yes, we could use any deductions but I am wondering if this is sound advice. WWYD??


By the way, I am new to this site and have been obsessed with it for about two weeks now…you all are awesome!

[Broken Arrow]

Welcome, seaweed.

Lucky for you, your balance isn't so high, even if the interest rate is a bit on the high side.

So, whether or not to pay it off really depends on what the rest of your financial picture looks like. Do you have other debts that have higher interest? Perhaps ones that you can't deduct? What about an emergency fund? What about a retirement fund?

Only if there are no better options to apply your money would I consider paying off the student loan debt. In your case anyway.

[Seaweed]

Thanks for the Welcome.

I have a car loan for 36,000 but we are planning on selling that car within the next few months and pay cash for a used car.

Aside from this and mortgage I have no other CC bills.

I do not have a retirement set up for me but DH has one and he takes the max deductions for it.

We live in CA and his companay is based in NY. Last year we were hit with a bill from NY taxes for 5K. This year I imagine will be the same way. We did not prepare for it as we are still trying to get out financial act together (thats why I am here!)

I am a SAHM. Prior to staying home I owned a marketing company that I sold in October 2005. Part of the money was paid to me in 2006 so we will be responsible for taxes on that as well. I'll have taxes to contend with in the next month.

Phew - I have a few things to work out but just wanted to give a little more info to ya!

[Broken Arrow]

Hehe, thanks for the extra insight!

There is something that I don't think you have answered yet, and that is whether you have an adequate emergency fund or not. If not, then I would definitely focus on that first. This is especially important if you're anticipating a substantial hit on your taxes.

But if you do have an adequate one, then I would go ahead and pay off the student loans.

[bjl584]

I agree with Broken Arrow. It depends on the rest of your financial picture and your goals. Can you do better than 7.59% with your money? If yes, then invest it elsewhere and keep making the minimum payment on your loans. If not, then focus on paying them off ASAP. Also, take into consideration long term plans. House, car, etc. A tax break is nice, but personally I would gladly give up a tax write off if it meant that I would have that $128.58 in my pocket instead of going toward repayment on a loan. That's just me though.

[Seaweed]

Thanks to both of you.

BA - I have an adequate EF right now. however after I sell our current car which we are still paying on, and pay cash for a used one it will diminsh somewhat but still enough for a three month EF. I'd like more then

BJ i agree with you - I don't think I can make a higher return then the interest amount. I would rather have the monthly payment money in my pocket.

On that note... how much of a deduction is it really? 100%? Can anyone help me figure that out?

Thanks again

[creditcardfree]

You will be paying more in interest on this loan than you will pay in extra taxes by not having the deduction. It is sound advice to pay it off, than to save it for the tax deduction.

However, getting your finances in order by having an emergency fund in place is more important than getting this loan paid off early. So if you keep the funds for the EF, then take the tax deduction on the student loan while you have it. Then start paying off student loan early.

Edit: I see you have the EF, so I'd pay off the loan. Won't that feel great!

[bjl584]

Your deduction will not be 1 to 1. In other words, a $1000 tax write off does not translate into $1000 less you pay in taxes. It depends, but you can probably figure that it will be about 50% or so.

[creditcardfree]

Example: $400 interest deduction would save you $60 in taxes if you were in the 15% tax bracket.

I'd rather pay the government $60 than the loan company $400.

One could always donate cash to a charity if you NEED the tax deduction.

[PRICEPLUS]

Well, I am a firm believer in the concept that states, "out of debt, out of danger"!

If you have the EF set up and you are getting rid of the high end car then I say pay that sucker off. I paid off my student loans early!

[scfr]

Since you asked ... My 2-cents ... Make sure your EF is amply funded (maybe wait until you sell the current car and buy the used one so you know exactly how much cash you have leftover), do an IRA for yourself if you qualify (you can still contribute to one for 2006), then pay down what you can on the loan (assuming there's no prepayment penalty).

Then, you can start saving for your kids college!

[veronak]

Pay it off(if you can afford to), screw the deduction...that will be one less bill to worry about

[bigsaver]

Agree with previous posts. Now lets say your interest rate were to be 1%, I would definitely use the tax deduction because you could invest the money in a high yield savings account which is giving you over 5% now.

[MonkeyMama]

The tax deduction is phased out if you are married and make more than $100k. (I know too many 2-income families out here making $50k each with BIG college debts - no deduction).

I have to assume you qualify since your tax guy suggested it. One thing to consider is if will you continue to qualify.

Plus I agree - if you are alternately in a low tax bracket, you aren't paying that much in taxes in the first place - 15% is pretty small beans.

I would vote pay it off!

[Seaweed]

Thanks to all of you!

My plan is to take care of the cars first, then after that settles and we see what we have left in the EF and I'll either pay it off completely or start using the money from the 20.00 challenge to throw towards it each month to get rid of it.

It will be a great feeling to be done with my college loans!!!!!

[disneysteve]

Originally Posted by Seaweed

My tax guy suggested I not pay off my student loans early but rather use the interest paid as a deduction. What are your thoughts?

You've gotten some great responses. I just wanted to add one suggestion nobody has mentioned yet.

Get a new tax guy!

[MonkeyMama]

Originally Posted by disneysteve

You've gotten some great responses. I just wanted to add one suggestion nobody has mentioned yet.

Get a new tax guy!

Agreed. LOL.

I Was going to say sometimes we really do get caught up in money saved - you have to consider the big picture. I think all tax people do to some extent - we are trying to save you taxes - we are not financial gurus.

BUT Maybe were biased with more high-income clients but the student loan interest usually amounts to a hill of beans. There are all sorts of limitations, AND they change every year. IT is not a deduction we get excited about or one we would encourage to extend a loan. Congress could likely say tomorrow the interest is no longer deductible - it is up to chance to a big extent. So in general I have to agree. Good advice- hehe.

[scfr]

Good advice, disneysteve!

[Seaweed]

Disney Steve, you are soo funny! I actually do foresee a new tax guy in my near future....It's kinda like hairdressers - I am always scared to try a new one!

Thanks to all of you for the sound advice!