Student loan repayment vs. bond fund contribution

**jpg7n16** · 06-17-2010, 02:40 PM

Well for the interest you receive from the bond fund - you don't get cap gains, you get ordinary income. So if you're in the 25% bracket, it's 25% less. And the 3% is before tax savings. So if you qualify for the deduction and if you're in the 25% bracket, it's also 25% less. (3% * .75 = 2.25%)

Things yielding 3% might be some intermediate bond funds - for example: PTTBX PIMCO Total Return B, mutual funds, quote, price - Morningstar

Something else to consider is - not only do you get the 3% yield (or whatever you find) on a bond fund, but you also get capital appreciation as the shares rise. The interest is ordinary income, the capital appreciation of your shares is cap gains - the combination might be higher than what you'll pay in tax-adjusted student loan interest.

Here's a fund screener: Morningstar: Mutual Fund Screener

I'm pretty much doing exactly what you're talking about, I pay the min and invest the difference - except I'm investing it in some stocks and in a high yield bond ETF (NHS Neuberger Berman High Yield Strategies, closed-end funds, quote, price - Morningstar) Higher risk yeah, but I'm okay with that.

**jIM_Ohio** · 06-17-2010, 05:45 PM

First, spectrum growth is hardly a bond fund.
Spectrum Income is a bond fund (I own that- RPSIX) and last I remembered spectrum growth was at least 70% equity.

I would keep investing, especially if the investment is an IRA- you should put $5k per year into the IRA before you pay down low interest debt like 3% student loans.

**jefffou** · 06-17-2010, 06:42 PM

In addition to the taxability (is that even a word?) of the interest and/or capital gains, the student loan interest will allow you an "above the line" deduction.

The limit, for 2009, is $2,500. And there are some phaseouts to consider.

Bottom line, for a 33% taxpayer, the after tax student loan interest cost may be closer to 2% without even having to itemize.

**StepRightUp** · 06-18-2010, 07:16 AM

Thanks guys. Jim, you're right. I mistyped for some reason. My bond fund is the Income fund, not the Growth. Even though I am maxing my IRA, it seems that I should keep investing. I will investigate more based on the above. Some good thing to think about for sure.

**jpg7n16** · 06-18-2010, 08:13 AM

Originally posted by jIM_Ohio View Post

I would keep investing, especially if the investment is an IRA- you should put $5k per year into the IRA before you pay down low interest debt like 3% student loans.

Agreed. I would even say (personally) that I would increase investments in non-retirement accounts before paying extra on a 3% tax-deductible loan.

Originally posted by jefffou View Post

In addition to the taxability (is that even a word?) of the interest and/or capital gains, the student loan interest will allow you an "above the line" deduction.

The limit, for 2009, is $2,500. And there are some phaseouts to consider.

Bottom line, for a 33% taxpayer, the after tax student loan interest cost may be closer to 2% without even having to itemize.

The phaseouts come into play only if you make over $70k single and 145k married filing jointly. (Tax Topics - Topic 456 Student Loan Interest Deduction)

And yes - 33% would be 2% .... but if you're in the 33% bracket you cannot take the deduction as it's phased out by those incomes. The 33% bracket begins at $171,850 S and $209,250 MFJ.

The most likely scenario (if he qualifies) is the 25% bracket, at which 3% is a tax-adjusted 2.25%. (see calc in my post above)

And his max interest for 18k @ 3% is $540 - so well within the $2500 limit.

**jefffou** · 06-18-2010, 10:30 AM

Originally posted by jpg7n16 View Post

And yes - 33% would be 2% .... but if you're in the 33% bracket you cannot take the deduction as it's phased out by those incomes. The 33% bracket begins at $171,850 S and $209,250 MFJ.

The most likely scenario (if he qualifies) is the 25% bracket, at which 3% is a tax-adjusted 2.25%. (see calc in my post above)

Good point, JPG. There is only so much one can deduct between those two variables - the filer's marginal tax bracket and the applicable phase-out, that is.

I was using a hypothetical 33% federal marginal rate so I could get around using decimals. Obviously, there is no 33% marginal rate.

I suppose it is possible that an individual could get there by adding any marginal benefit achieved by a front-page adjustment to income on their state return as well. My state allows it.

**jpg7n16** · 06-18-2010, 10:54 AM

Originally posted by jefffou View Post

Obviously, there is no 33% marginal rate.

Yes there is

2010 Tax Rate Schedules: Marginal Ordinary Income Tax Brackets for Year 2010

I suppose it is possible that an individual could get there by adding any marginal benefit achieved by a front-page adjustment to income on their state return as well. My state allows it.

Well hey, the more tax savings the merrier!

I'm in Texas. No state income tax for us.

**jefffou** · 06-18-2010, 11:33 AM

Originally posted by jpg7n16 View Post

Yes there is

Ooops.......Thank you, JPG!!!!

And it's been there since 2003!!

Sheesh.

**jIM_Ohio** · 06-21-2010, 06:37 AM

Originally posted by jefffou View Post

Ooops.......Thank you, JPG!!!!

And it's been there since 2003!!

Sheesh.

If you have an IRA maxed already, and the bond fund is in addition to the IRA monies, ask yourself this

1) are you savings 15% of gross for retirement (if not, keep investing)
2) do you have 3 months expenses in cash for an emergency fund (if not, stop bond fund contributions and invest in a savings account)
3) Do you like the short term outlook for bonds? Spectrum income is diversified, but I am not sure of its interest rate senstivity. it is poised to lose money over 1-2 years when rates shoot up (they cannot stay this low for much longer). Its yield will kick up, and savings accounts will also see higher yields. I would want more cash than bonds in about 6 months though. Meaning more cash than bonds
4) then consider paying down debt

Student loan repayment vs. bond fund contribution