Short term loan or Long Term Savings?

[jIM_Ohio]

That's why initially I came in with the suggestion of doing an auto loan.

If inflation is a real entity to be tackled, and one I should take into account, you would think borrowing now would be borrowing in cheap dollars for the car. Yeah, it's a depreciating asset but I would then have my 15K working in college savings beating the ugly monster of inflation (which is really a 2-headed monster when you look at it llike this). And in 3-4 years, the auto loan is retired thereby freeing up the $300-400 month once again.

I'll consider all angles.

The after tax rate on the mortgage is only true if you itemize. You also need to know when you will lose the mortgage interest deduction because of paying down principal deeper into payment cycles on the mortgage.


I am all for investing instead of paying down the mortgage. Because people need to start investing younger to get compounding to work for them.

Compounding is for long term saving. 2015 is 7 years away- long term planning is out and we are dealing with short and mid term savings strategies.

Think of the advice we give others which want something (like a house) and what we advise to do over a short period of time:

1) play off debts, including cars (maybe even selling car and downsizing)
2) cut expenses and save extra $$ into a cash account
3) put 20% down on the house, finance the rest

Then apply that 1-2-3 for kids education
1) the debts you have are a house and maybe a car. Can these be paid down/ paid off to liquidate cash flow for the education expense?
2) More than likely the household budget is reasonable, and cutting cable to send child to college just doesn't seem worth it. Rethink all expenses and see if there is something you could sacrafice for college. Maybe stop playing travel basketball and invest that money for education type decisions.
3) I think a reasonable education goal is to fund 66% and finance the rest.

[Scanner]

JimOhio,

Would you classify 2020 as long term savings? How about 2026? I agree. . .we are just starting to, at 7 years away for our oldest. . .tipping into midterm savings. . .I am sure my age-based portfolio for him is probably weighted in some bonds (but still declining in this market).

I am also thinking now is a good time to drop some money, a large chunk, into the market and also a good time to borrow.

Just letting you know the thinking process. . .not necessarily argueing with you.

By the way. . .just to let you know I don't always dismiss everything offered here. . .I followed DisneySteve's advice and opened a 529 for my youngest today in NY State w/Vanguard. Low expense ratio and mainly, the low minimum was attractive to me. I was waiting and waiting for his SSI card and lo' and behold, DW stuck it in with the immunization records I went to get today when he needed his shots. She knew I was looking for it!!!

[Hot dog]

The idea of a paid for house just sounds soo tempting let us know what you choose.

[jIM_Ohio]

JimOhio,

Would you classify 2020 as long term savings? How about 2026? I agree. . .we are just starting to, at 7 years away for our oldest. . .tipping into midterm savings. . .I am sure my age-based portfolio for him is probably weighted in some bonds (but still declining in this market).

I am also thinking now is a good time to drop some money, a large chunk, into the market and also a good time to borrow.

Just letting you know the thinking process. . .not necessarily argueing with you.

By the way. . .just to let you know I don't always dismiss everything offered here. . .I followed DisneySteve's advice and opened a 529 for my youngest today in NY State w/Vanguard. Low expense ratio and mainly, the low minimum was attractive to me. I was waiting and waiting for his SSI card and lo' and behold, DW stuck it in with the immunization records I went to get today when he needed his shots. She knew I was looking for it!!!

Borrowing at 8% should not be considered an option unless you are close to a worst case. I don't think the situation warrants borrowing now to have cash later.

College is 18 years of planning (assuming child starts college between age of 17 and 19). T Rowe Price defines long term as 15 years or more. I read this to imply 14 or less years is mid term. I define 5 years or less as short term, and short term is 100% cash. I could see siituations where 10 years was short term and required close to 100% cash- and college planning could be one of those situations.

2015 is 7 years away- the need to be close to 100% cash is close, if not here already. This is where paying down the mortgage comes in- can you find a 6% or 4.5% return on cash over those 7 years? This is why I lean on paying down- the market might return more than 4.5% the next 7 years- but what is the risk (downside) of this not happening. I think the risk is too great because college is not like retirement- you cannot delay college for 1-5 years because you do not have the money. So this money has more risk to it with same time horizon (relative to retirement).

2020 is 12 years away- mid term for sure. Money set aside could double twice if invested aggressive enough.

2025 is 17 years away- long term converting to mid term. Money set aside could triple if invested aggressive enough.


Again- think worst case. Market does not deliver 4.5%-6% returns over a 7 year period. You or spouse become disabled and cannot work in next 7 years.

If house was paid off, you could always take a home equity loan out at the time college monies were needed for child #1. I wouldn't want to do this (would prefer to pay cash for college), but this is better than any of the worst case options mentioned.

[Like2Plan]

The rate on the auto loan? Oh, you know that depends on the dealer, who will usually weave it into the price.

I haven't researched it lately but I imagine eloan.com has auto loans going for around 6-8%.

EDIT - just checked - it looks to be 7.5%-8%.

PENFED has a 4.5% used auto loan rate... for 12-60 months

[Scanner]

I'll admit. . .a 4.5% loan makes things even more interesting.

[jIM_Ohio]

I'll admit. . .a 4.5% loan makes things even more interesting.

You are tying up too much money when you need liquidity in a relatively short amount of time.

A loan ties up money in your budget- I would opt for other options so you have the cash flow to deal with longer term savings issues.

Getting a 4.5% return on investing in this market is tough. Even in bonds and cash.

[Like2Plan]

You are tying up too much money when you need liquidity in a relatively short amount of time.

A loan ties up money in your budget- I would opt for other options so you have the cash flow to deal with longer term savings issues.

Getting a 4.5% return on investing in this market is tough. Even in bonds and cash.

I think liquidity is very important. If Scanner ends up putting all his extra resources on the house and paying cash for the car, but doesn't have much saved for child #1's education--he might have to get a home equity loan or student loan loan at a much higher interest rate than the 4.5% he can get on the car now or the current interest rate he has on his mortgage.

[jIM_Ohio]

I think liquidity is very important. If Scanner ends up putting all his extra resources on the house and paying cash for the car, but doesn't have much saved for child #1's education--he might have to get a home equity loan or student loan loan at a much higher interest rate than the 4.5% he can get on the car now or the current interest rate he has on his mortgage.

Agreed on how you positioned it. But I think your position is too narrow.

I think the education is 8 years away. The Home equity loan is the "fall back plan" for the worst case (does not get mortgage paid off in time for college). I don't think that is bad. The rate on the home equity loan would be the same whether the mortgage was paid off, paid down or still had a balance.

I see a 4.5% car loan going in opposite direction.

Here is one way it could play out:
The car loan would be paid off in 3 years probably, 4 at most (right?). The money is committed to the car for 3-4 years, so there is less short term liquidity.
The mortgage would still exist in 8 years
The cash set aside would be used for college and would need to grow at 4.5% per year.

so cash is gone, the car is paid off over time (costing 4.5%) and there is a mortgage balance.


Another way it could play out:
1) pay cash for the car- the cash is spent so this reduces liquidity
2) pay off mortgage- there is liquidity month to month because of the payoff amount going to mortgage.
3) pay cash for college out of normal mortgage budget.

In both cases the 16k cash available is spent
In the first there is the risk of cash growing at 4.5% to beat car loan, in second that risk is on the mortgage and we know that rate of return will be between 4.5% and 6% on the mortgage paydown.
In the first case the mortgage balance is high, in the second case the mortgage balance is lower.

In both cases home equity could be tapped to fund the education as worst case- the interest rates for both worst cases in this regard is the same.

[LivingAlmostLarge]

Have you considered taking out loans for college for #1? That will give you an 11 year time frame and more time to get some traction on paying off the mortgage? That would allow you to perhaps shoulder the loans for the first kid.

I'm going to do loans for our kids period. Even though we'll have cash for the college savings, I won't pay for it. It'll be grade and effort dependent. Realizing that not all kids are equal. My nephew has a learning disability, so his grades are not the same as his brainy older brother, kwim?

[jIM_Ohio]

Have you considered taking out loans for college for #1? That will give you an 11 year time frame and more time to get some traction on paying off the mortgage? That would allow you to perhaps shoulder the loans for the first kid.

I'm going to do loans for our kids period. Even though we'll have cash for the college savings, I won't pay for it. It'll be grade and effort dependent. Realizing that not all kids are equal. My nephew has a learning disability, so his grades are not the same as his brainy older brother, kwim?

Agreed this is an option which should be on the table. I consider this another "worst case". An option which works, and the upside to this plan is you delay borrowing money until the last possible moment.

Going down the mortgage paydown path leaves many options on the table. If a lump sum/surprise windfall presents itself-maybe a tax incentive or other- it is quite possible the mortgage is paid off before kid #1 starts school anyway. I think I calculated being off 4 or 5 years... This is 15-20k of extra mortgage payments needed... so any change/incentive in tax code which might come, or windfall/bonus from work or raise from work could solve this issue. If the money becomes available eariler, even less than the 15-20k would be needed.

[jIM_Ohio]

Something new to add. I was reading the following IRS pub:

http://www.irs.gov/pub/irs-pdf/p970.pdf

and this was in chapter 9

Introduction
Generally, if you take a distribution from your IRA before
you reach age 591/2, you must pay a 10% additional tax on
the early distribution. This applies to any IRA you own,
whether it is a traditional IRA (including a SEP-IRA), a Roth
IRA, or a SIMPLE IRA. The additional tax on an early
distribution from a SIMPLE IRA may be as high as 25%.
See Publication 560, Retirement Plans for Small Business,
for information on SEP-IRAs, and Publication 590, Individ-
ual Retirement Arrangements (IRAs), for information about
all other IRAs.
However, you can take distributions from your IRAs for
qualified higher education expenses without having to pay
the 10% additional tax. You may owe income tax on at
least part of the amount distributed, but you may not have
to pay the 10% additional tax.
The part not subject to the additional tax is generally the
amount of the distribution that is not more than the ad-
justed qualified education expenses for the year.

Something to consider for child #1.