Pay off Car Loan or Invest Money???

[kdp714]

Hello -
I am not sure if this should go under "debt" or "investing" . . .
But here is my financial scenario -

I cashed out of some of my company stock totalling $21,000. I currently invest 12% into my companies 401k, and have a fair amount in other mutual funds. I also, have 12k in a MMA, for emergency fund.

Since my company only matches $1500/ year, I plan to drop the contribution amount to 3% and instead invest in a Roth IRA.

I have no cc debt. The pay-off on my car loan is $25,072 with a 3.9% interest rate.

I have recently met with a new (and young) financial advisor, who painfully suggested to take that 21k + 4k of my MMA and pay-off the car loan, rather than investing the lump sum of $21k. This would free up $1000/ mo that I could use to invest.

I am apprehensive of this because, the interest rate on the low is relatively low, and I have been paying an extra $180/ mo to pay it off a little early. With the value of cars depreciating so much is that $25k well spent on an early pay-off?

Would the overall return rate be higher on an investment, than the money I am spending on the car loan interest?

[BuckyBadger]

I'm not sure about your percentages because you didn't list a annual salary, but how much will you be contributing to your 401k and Roth total? I'd fill up more tax advantaged space before I would invest in taxable accounts. (You didn't really specify, but a "$21k lump sum" seems like it would have to be taxable.)

Do you have any student loans?

I would want to funnel all the money into your 401k and Roth that you can, and if paying off your car with that lump sum means that going forward you can put another $1,000 a month into your tax advantaged space I would do so.

But I'm making some assumptions here about the rest of your situation, so I reserve my right to change my mind as this thread progresses!!

If you make enough to have a $25k balance on a car loan, you should be making enough to max out your tax advantaged space, in my opinion.

[dczech09]

First thing I am going to say is your financial advisor is smart!

Anyways, on to business. Is that $21,000 from the company stock gross or net? You may have taxes to worry about on that. Just an FYI.

What is your annual income? If your car is worth more than 50% of your income, then I would sell it. Buy something much more inexpensive. A $10,000 car can be just as reliable as a $25,000 car (experience- I have a $10,000 car of my own and a $25,000 company car).

If you sell your car, you can free up some additional cash which can be used for savings, paying of student loans (if any), save for a house, etc.

If you keep your current car, then follow your advisor's advice and pay off the loan. He/she is right to recommend that. This leaves you with about $8,000 for emergencies. Keep in mind you should have about 3 to 6 months set aside for emergencies.

Once you have done that, you should make sure you are setting aside 15% of your income for retirement. So do the 3% in the 401k, max the Roth IRA, then put more in the 401k until you hit 15% of your income.

Once you have done this, then tackle any other financial goals.


In all honesty, I would sell the car if I were you. That would change your situation completely.

[jpg7n16]

the interest rate on the low is relatively low, and I have been paying an extra $180/ mo to pay it off a little early.

Then why are you paying extra on it?

You don't want to pay it off early, because you're trying to pay it off early??

With the value of cars depreciating so much is that $25k well spent on an early pay-off?

The value of the car depreciating has nothing to do with whether you should pay off the debt or not.

You owe $25k. That $25k charges you 3.9%/year. Neither of those facts change based on the value of the car. If it's worth $30k, you still owe $25k. If it's worth $15k, you still owe $25k.

Depreciating value doesn't matter, except if you are planning to sell your car and use it to pay down the loan (which is a very valid option here). Then it only matters because the car can wipe out more of the debt today than it will tomorrow.

I would strongly reconsider just how much of your net worth you want tied up in a car going down in value. A $25k asset that is steadily going down in value doesn't help your net worth calcs.

Would the overall return rate be higher on an investment, than the money I am spending on the car loan interest?

No one knows what rate of return you will get on investments in advance. We know expected returns, which are subject to risk. Primarily the risk that you will not make that much.

But if you base decisions on expected returns (as I do), then it depends on how you invest it, how long you plan to leave it invested, and how comfortable you are with risk.

3.9% is very low. A stock portfolio is expected to return around 9-10% long term, and a balanced portfolio maybe 7-8% long term (maybe more, maybe less). And by long term, I mean to give it a few decades to average out.


So I guess my two main points are:
1) I expect most investments to outperform your car debt cost in the long term, should you hold onto the car, but that's subject to risk.
2) I think you'd probably be better off selling the car, paying off the debt, and buying a cheaper car, maybe $7-15k -- hopefully at the same low rate.

[FireBal989]

Paying off your car loan is almost like making an investment ! By not having to deal with that loan anymore and those payments, you will have more money freed up in the future for anything else you would like, including investments :-)

[Tree0164]

I would agree with your financial advisor. I don't know what your income is but having the freedom of not having a car payment is great. We bought our last car used with out a car payment and it is great feeling. It wasn't a $25k car but just over $12k. I don't pay on getting another car loan ever again.

[kdp714]

I'm not sure about your percentages because you didn't list a annual salary, but how much will you be contributing to your 401k and Roth total? I'd fill up more tax advantaged space before I would invest in taxable accounts. (You didn't really specify, but a "$21k lump sum" seems like it would have to be taxable.)

Do you have any student loans?

I would want to funnel all the money into your 401k and Roth that you can, and if paying off your car with that lump sum means that going forward you can put another $1,000 a month into your tax advantaged space I would do so.

But I'm making some assumptions here about the rest of your situation, so I reserve my right to change my mind as this thread progresses!!

If you make enough to have a $25k balance on a car loan, you should be making enough to max out your tax advantaged space, in my opinion.

Thanks for your reply!
In answer to your questions:
* I plan to max out the IRA (which I believe is $5000.00), and the 3% going towards the 401k will amt to approx $260/mo; which would total approx $676.66.
* With the extra $1000/mo I would invest in something 'yet to be determined', and re-establish my emergency and vaction fund.
* I paid off the balance of my student loans 2 months ago.

But, would the lump sum of 25k be beter served as an investment, or to pay off the debt in the long run?

[kdp714]

First thing I am going to say is your financial advisor is smart!

Anyways, on to business. Is that $21,000 from the company stock gross or net? You may have taxes to worry about on that. Just an FYI.

What is your annual income? If your car is worth more than 50% of your income, then I would sell it. Buy something much more inexpensive. A $10,000 car can be just as reliable as a $25,000 car (experience- I have a $10,000 car of my own and a $25,000 company car).

If you sell your car, you can free up some additional cash which can be used for savings, paying of student loans (if any), save for a house, etc.

If you keep your current car, then follow your advisor's advice and pay off the loan. He/she is right to recommend that. This leaves you with about $8,000 for emergencies. Keep in mind you should have about 3 to 6 months set aside for emergencies.

Once you have done that, you should make sure you are setting aside 15% of your income for retirement. So do the 3% in the 401k, max the Roth IRA, then put more in the 401k until you hit 15% of your income.

Once you have done this, then tackle any other financial goals.


In all honesty, I would sell the car if I were you. That would change your situation completely.

Thank you for your reply!
In answer to your questions:
* I paid off student loan balance a few months ago, and have no other debt besides car and home
* I definitely "splurged" on the car purchase - but I love it, and plan to keep it for a while
* I am nervous about depleting my emergency fund to go towards the car: I also have a few big expenses on the horizon, that will leave the MMA at about $6k, by the end of October. And although, I have a good job that has historically been good to me, I am in an enviroment of constant change, and it would not surprise me if sometime soon, it was decided that my position is no longer necessary.

So the 25k invested wouldnt return more in the long run, than paying off the car?

[BuckyBadger]

So the 25k invested wouldnt return more in the long run, than paying off the car?

I wanted to draw a distinction between "investing" and "adding to your retirement accounts."

I would rather you pay off your loan now and add another $1000 to your 401k every month than dump a $25k lump sum in a taxable investing account.

Do you see the difference?

You have limits to your tax advantages investing space and (99 times out of 100 -- I'm sure there are some rare exceptions) you should fill them up before you invest in taxable accounts.

[kdp714]

Then why are you paying extra on it?

You don't want to pay it off early, because you're trying to pay it off early??


The value of the car depreciating has nothing to do with whether you should pay off the debt or not.

You owe $25k. That $25k charges you 3.9%/year. Neither of those facts change based on the value of the car. If it's worth $30k, you still owe $25k. If it's worth $15k, you still owe $25k.

Depreciating value doesn't matter, except if you are planning to sell your car and use it to pay down the loan (which is a very valid option here). Then it only matters because the car can wipe out more of the debt today than it will tomorrow.

I would strongly reconsider just how much of your net worth you want tied up in a car going down in value. A $25k asset that is steadily going down in value doesn't help your net worth calcs.



No one knows what rate of return you will get on investments in advance. We know expected returns, which are subject to risk. Primarily the risk that you will not make that much.

But if you base decisions on expected returns (as I do), then it depends on how you invest it, how long you plan to leave it invested, and how comfortable you are with risk.

3.9% is very low. A stock portfolio is expected to return around 9-10% long term, and a balanced portfolio maybe 7-8% long term (maybe more, maybe less). And by long term, I mean to give it a few decades to average out.


So I guess my two main points are:
1) I expect most investments to outperform your car debt cost in the long term, should you hold onto the car, but that's subject to risk.
2) I think you'd probably be better off selling the car, paying off the debt, and buying a cheaper car, maybe $7-15k -- hopefully at the same low rate.

Thank you for all of your feedback - I appreciate your candor!
In response:
* The car is currently worth more than the pay off amt (looked up yesterday), it was definitely a "splurge" expense. But, I do love the car and plan on keeping it as long as I am able
* The extra towards the car, was because I could without, causing too big of a dent in my bank balance.
* I am struggling with the lump sum payment and depletion of my emergency fund. $25k feels much more real when spent at once than it does spent 1k at a time

I am definitely taking the advice on this forum to heart, especially since it is in align with the new FA

[bjl584]

At 3.9% interest I probably wouldn't pay it off all at once. I would be more inclined to have a goal of having it paid off in 3 years instead of 5.

[kdp714]

I wanted to draw a distinction between "investing" and "adding to your retirement accounts."

I would rather you pay off your loan now and add another $1000 to your 401k every month than dump a $25k lump sum in a taxable investing account.

Do you see the difference?

You have limits to your tax advantages investing space and (99 times out of 100 -- I'm sure there are some rare exceptions) you should fill them up before you invest in taxable accounts.

Thank you for the feedback!!!

[kdp714]

At 3.9% interest I probably wouldn't pay it off all at once. I would be more inclined to have a goal of having it paid off in 3 years instead of 5.

Thank you!
That is originally what I was asking the FA about, when he made the suggestion that I should pay it off now vs. in 1 year as I was hoping to do.

I have had the car for about 1 1/2 years now.

Here is what I am thinking, based on your feedback, the other responders, and my financial advisor . . .
Pay 19k towards the loan balance (I have several big ticket expenses coming up, that I will use the other 2k towards, and pay the $1000k/ mo x , as I have been, and leave the 12k in the MMA alone?

Thoughts?

[kdp714]

At 3.9% interest I probably wouldn't pay it off all at once. I would be more inclined to have a goal of having it paid off in 3 years instead of 5.

Thank you!
That is what brought this whole thing up - I was figuring out how to pay it off within the next 12 - 18 mos, and the FA suggested to pay it off now.

After your response, the other responses on this forum, and the advice of my finacial advisor: I think I am going to work out a 'comprimise'

19k to the car loan debt, and pay off the rest over the next 6 months.

[YLTL_Dan]

You're doing awesome with your income and current investing and if you continue to listen to the people on this board who gave you the right advice, you'll do even better! That's a great income, definitely don't let it go to waste.

Also, be careful about hanging around on this message board too long... you might start to think about doing something crazy like selling your car . I was in a similar position as you and sold my $18k car that I loved and bought a $10k car like dczech... that was in 2007 and I'll never have a car payment again.