Assessing Our Financial Health
We are John and Emily Carter, a married couple in our early thirties with no children. Living in Austin, TX, we have been working hard to manage our finances. Despite our efforts, we have accumulated some debt and are now considering whether to prioritize paying off this debt faster or focus on saving more for our future. To make an informed decision, we turned to StartingOutPlan's self-guided financial literacy tools to help us build and analyze a personal financial scenario focused on debt.
Establishing a Baseline
We started by entering our current financial information: our combined annual income of $110,000, monthly expenses, and our current debt situation, which includes credit card debt, student loans, and an auto loan.
We entered our basic goals: retirement, vacation, and buying our first home together. We have given ourselves 5 years to buy our home. We understand that we need to reduce our debt in order to be able to afford a mortgage and the inevitable upkeep costs of being homeowners. We currently only have $300-$400 a month after all expenses, investments, and goals.
As you can see, we only have $4179 or $348 a month that is not currently allocated. We wanted to see if it would be worth it to try to pay down our debt with the majority of this money, $300 a month, or to invest that extra money to have more saved when we buy our home.
The first thing we did was calculate the total cost of making only the minimum payments on our debts, establishing a baseline worst-case scenario. Making only the minimum payments would cost us significantly more in interest over time, particularly due to the high-interest credit card debt. We knew this to be true, but it provides us a necessary starting point.
You can see in the StartingOutPlan's detailed year by year breakdown that we are paying quite a bit more in interest than we would like.
Exploring Payment Options
Next, we analyzed how different variables—such as paying down debt faster versus investing disposable income—would impact our overall financial health. After accounting for our income, expenses, and debt payments, we had some disposable income left each month ($385). We considered allocating an additional $300 per month, either towards debt repayment or investments.
Exploring the option of putting an extra $300 towards our credit card debt each month, we found that this approach would help us pay off our debts faster and reduce the total amount of interest paid over time dramatically. Instead of paying $85,150 for our total debt, we would only pay $70,831. In this scenario, we would be saving $14,981 in interest. As you can see in the graph below, we would only have student loan payments and two years left on one credit card when we buy our home.
We next modeled how much we could make by investing the full $300 with a modest return of 8%. We could quickly see just by entering the investment into StartingOutPlan that this same $300 invested for the next 4 years would only earn us an additional $1826 in interest. Our next step was intended to be to model a combination of investing and paying down debt, but these numbers were so compelling, we though that it would definitely benefit us to pay down our debt as fast as possible.
Making the Decision
After several discussions and considering the insights from the tools, we felt confident in our ability to make an informed decision. Modeling our personal financial scenario showed us just how much interest we could save if we could possibly pay down our debt faster. We decided that we wanted to pay down as much as we possibly could and looked to John's retirement contributions, which our $6,0000 a year. Given his low salary, his company only contributes $1800 a year in matching funds (the max at 3% of John's salary). This means that John could shift $4200 a year to paying down our debt rather than his retirement. This will obviously cost us interest on that money, but he will be maxing out on how much his company contributes while paying down high interest debt. Here is another look at our debts.
You can see in this scenario we will only be paying our student loan debt by the time we buy our house. John will resume investing the full $6000 a year, but we will no longer have credit card debt or car payments, Of course, we know that things can change in 4 years, but we can save nearly $20,000 in interest if we pay these debts down. Whatever the future brings, we will be in much better shape when we buy our home than we would have been.
The Importance of Comprehensive Planning
This case study presents a simplified financial scenario. In a more detailed personal financial scenario, we would incorporate specific expenses, financial goals, and the details of all debts and assets to ensure a more precise and tailored financial plan.
The Role of Professional Advice
While we’re confident in the numbers we’ve run, we recognize the importance of consulting with a financial advisor. StartingOutPlan has given us a solid understanding of our financial situation, but having a professional advisor validate our plan will give us peace of mind and ensure we haven’t overlooked any critical details.
Our mission is to educate you on how self-guided financial literacy can be effectively utilized to maximize your resources and opportunities.
While the cases we present are inspired by real-life scenarios, some details have been altered to respect privacy.
These stories and scenarios are provided for educational purposes only and should not be construed as financial advice.
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