First, I had to get back to the basics. My initial goal is to eliminate my credit card debt and establish a robust starter emergency fund. But that is only phase one of my plan. I expect phase one to be completed by the end of October. I might be underestimating how long it will take for me to clear off my credit card debt. I’m not sure. I do know that I don’t plan on on going into further credit card debt. Once I’ve completed phase one, I will then execute phase two of my get out of debt plan. Specifically, I will buy a house and then tackle my car and student loans.
Get Out Of Debt Plan
Let’s take a closer look at my get out of debt plan. This is a 3-legged stool. First, I will buy a house. Then I will pay off my car loan, followed by paying off my student loan. I might switch which loan I pay off first, but I share my thought process below. I am curious as to which order you would choose to pay off your loan to get out of debt.
Buy A House
It is no secret that I want to buy a house. In order to do that, I need to start saving for a downpayment. Here is my current plan. I will execute phase one with my current source of income. If I’m able to do that, then come November, I will have access to $11,000. Think of this like a bond maturing. In any case, that money will be used towards helping me save for a downpayment.
Currently, I qualify for a $400,000 house. Of course, California is an expensive real estate market. However, I think that I should be able to qualify for something decent in Sacramento. Also, I’m fairly certain I could qualify for a $500,000 house, but only time will tell. Why is this important?
Well, according to one mortgage lender I am working with, I could get a conventional loan with 3% downpayment. I will, of course, be paying Private Mortgage Insurance or PMI using this approach. But, it allows me to afford a house I would otherwise not be able to purchase because of the steep down payment.
20% of $500,000 is $100,000. No way am I going to be able to save that amount to buy a house. Plus, even if I could, I don’t think I would want to spend that much cash for a down payment. On the other hand, 3% of $500,000 is only $15,000. That is much more doable! In fact, come November, I will have 73% of what I need to reach that 3% downpayment.
I fully expect that I will save enough money for the down payment by the end of the year, and the closing costs by the end of March.
Pay Off Car Loan
I hate the idea that I have a car loan. As soon as I buy a house, I will do everything I can to pay off my car loan as soon as possible. How? Well, when I buy the house, I will have roommates to help me pay for the mortgage. I did that before, and I fully expect to be able to do that again in the Sacramento area. I will use any extra cash to help me pay off my car loan.
Here are the details of my car loan.
I bought the car for around $30,000. My interest rate is 3.9% and my monthly payment is $357. For what it’s worth, my car insurance is another $108. The loan term was for 84 months. That’s a very long time to be stuck paying $357 a month.
My goal will be to get rid of my car loan in about two years after I buy the house or about 3 years from now. I think that’s doable. It’s unclear at this point how much extra cash I will have after I buy the house, but that’s the current plan.
The reason I’ve chosen to pay off the car first, instead of the small student loan balance of $10,000, is two folds. One, the car loan has a higher interest rate, and so it’s costing me more. The other is that the car loan has a higher monthly payment and so it hurts more every month trying to pay that bill.
Dave Ramsey suggests that you should pay the smaller balance first. Well, this is one more example of me hearing his advice, but tailoring it to my own unique situation.
Pay Off Student Loan
I came so close to paying off my student loan. I’ve brought the balance down to around $10,000. The monthly payment is $97.61, but it will be raised to about $120 soon. The interest rate is 2.625%.
Perhaps it makes sense to pay off the student loan before the car loan. Indeed, once it comes time for me to start paying down these loans, I will reevaluate to see what makes sense. But, as of right now, getting rid of that massive $357 car payment would be ideal. We shall see.
Although I plan on buying yet another house in about 3-4 years (after I buy the next one next year), I fully plan on being debt free with everything but my mortgages before doing so. That means, getting rid of this pesky student loan once and for all!
Conclusion
There you have it. The trifecta of my phase 2 get out of debt plan. I will first buy a house, then pay off my car, and then pay off my student loan. What do you think of my current plan? Would you pay off the student loan first instead of the car?
Let me know your thoughts by commenting below.
It’s great to see that you have formulated a plan. I think it doesn’t really matter which loan you pay of first. However the student loan is probably easier and once that is out of the way it’s a mental boost because you will actually have 1 loan less instead of two loans with lower amounts.
But as you said, you need to tailor it to your own needs. Good luck my friend!
Thanks Mr. Robot. I will probably reassess closer to the time. Paying off the student loan would definitely be ‘quicker’ because it’s smaller.
When we had non-mortgage debt, we tackled it in the order of interest rates from highest to lowest as that is the most economical from a pure numbers perspective. Often times the advice to payoff the smallest balance first is to give you motivation and encouragement to keep going; for us, that was not important as we didn’t need any extra motivation–but again, only you can answer that for yourself.
Therefore, if it were me, I would pay off the car before the student loan.
On the house, I know we discussed this in the comments on an earlier post, but I would encourage you to not buy at the max of what you’re approved for if you can help it. I realize you’re in pricey CA so that might not be feasible, but it can make a huge difference. I am so glad that we bought a home well below what we were approved for as we had no plans of renting out space and it would have made us house rich and cash poor.
With that in mind, what happens if you cannot find quality roommates? That might not be an issue, but if you have a gap in roommates, will you be able to cover the mortgage on your own and be paying off those debts? Be sure to factor the worst-case scenarios into your plan so you know how you would manage them if they do occur.
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Great points DivvyDad. I actually usually think in worst case scenarios. Quite frankly, as much as how I want to buy a house, there’s also a fair chance that I won’t, if I don’t find a house that (a) I like and (b) that can rent to cover all expenses and then some. So, I’m not wedded to the idea to buy a house.
Ideally, if I buy, I would want to buy as cheap as possible, but maxing out the house I can afford may not even get me the house I really want in some parts of California. We will see.
You do realise that the first step of your “get out of debt plan” includes taking more than 10 times the debt you already have, right?
do tell.
Paying off the student loan seems quicker and will act as a breather. It will give you a peace of mind while you work on your finances for the new house.
For me, personally, paying off debt comes always first compared to investing the same money on stocks or MF. However high the returns may be, I need my good night’s sleep, and that’s possible only when I have one less loan to worry about.
Totally makes sense Jose, and that’s certainly a valid approach to take. One of the things I realize is that my current strategy of buying houses over the next several years will require me to have a huge amount of debt. I Just want to make sure it’s of the ‘good’ kind in terms of debt that is making me money and not one that is actually costing me money, like credit cards and student loans.
I agree. Of course a plan is needed to see how investing on property is going to yield over a long run. Rental and estate appreciation, both need to be considered.
Fair point Jose. Can’t argue with that.
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The hardest part for me was saying “no” saying no to my friends when they wanted to go out, saying no to my dad when he wanted the bf and I to go on a family trip, saying no to myself when I wanted to buy things.
The hardest part for me Qeemat was saying no to myself! I’m still working on it but I suspect the New Year might bring some changes. Thanks for the comment.
Great post! Thanks for sharing the knowledge and keep posting more.
Appreciate it BH.
Thanks a lot! Also seeing a therapist might help. Debt can be very depressing.
Yes it can. Good luck with the therapy Dr. Dawn – I hope it works out.
Thanks! Having a debt is always depressing.
Some people can handle debt, and others use it to build wealth, but in general, I tend to agree that for some people, debt weighs them down. Thanks for the comment Fiberscope.