Expense: student loans

The mortgage isn't my only massive pile of debt that I have to deal with. I have quite a bit of student loan debt from undergrad and a year of grad school. Let's dive right into the numbers:

• Direct Loans (US Dept of Ed): $25,706.29
• Sallie Mae: $5,922.31
• TOTAL: $31,628.60

Listen, kids. Be extremely wary of student loans. I went to a "New Ivy" (whatever that's supposed to mean) that cost around $40k/year. I had a $15k/year scholarship. My parents paid the difference. But included in my financial aid package were Stafford loans, one per semester. I only ever took the government loans, which I think I had to in order to get any financial aid. My point is that I didn't think much of it at the time, and while it's not a huge crushing debt load it's pretty substantial and definitely something I have to deal with.

I studied engineering and economics in undergrad. Economics education has this brainwashing effect when it comes to money and financial decision making. I'm not going to rant too much about this today, but here's the anecdote you need to know:

Some time in your first or second year of macroeconomics, you come across Milton Friedman's Permanent Income Hypothesis (PIH). He was theorizing about the determinants of a person's spending in a given year, and decided that a rational actor would have some expectation about his future path of earnings, and then consume some "average" amount so that he would end his life having spent all his money (I'm paraphrasing here). It turns out that the PIH has approximately zero predictive power, which is to say it's complete malarkey, but they still teach it in undergraduate courses. Also Friedman was making things up to "show" why a temporary tax cut won't increase consumption because he had an ideological bone to pick — just sayin'.

Anyway. When they teach you about the PIH, they also explain how debt of all kinds can be "rational". When you're young, you don't have much human capital and your earnings are comparatively low. You expect your future earnings will be higher. You can borrow money now and pay it back with your future earnings. People seem to prefer steady levels of consumption rather than ups and downs (assumption alert!). Ipso facto young people should go into debt.

That's the gyst of it anyway. I was fully expecting to carry along my student loan debts as long as possible. It's cheap money, right? Maybe add a car loan to that while I'm at it. I may as well enjoy my future richness today.

No, that is stupid. I owe a lot to MMM for showing me the light, that my economics education had me worshiping false idols and making me a slave to creditors. Okay I've gotten ahead of myself, let's get back to the numbers.

Here's my monthly expenditures on student loans:

• Direct Loans (US Dept of Ed): $192.85/mo
• Sallie Mae: $69.88/mo
• TOTAL: $262.73/mo

This is a substantial chunk of my expenses, not to mention a big negative number keeping my net worth down and preventing me from building up any investments. It doesn't make sense for me to put my money in the market until these are paid off. To generate $262.73/month from my 'stash I would need $78,819 invested if I'm using a 4% Safe Withdrawl Rate (SWR) or $105,092 with a 3% SWR. That is insane. I don't know how they're getting away with charging me 6% interest on student loans, but they are, and that's after I consolidated.

The student loans have to go. Luckily I'm pulling down around $1300/month in discretionary income, which is enough to vanquish my student loans in two years.

GOAL: Pay off all student loan debt in two years, by Dec 31, 2013

I'm hoping to do it sooner too. I'm expecting something of a holiday bonus come Christmastime, plus a sizable tax return come April, so between those two and my regular paychecks I want to pay off the smaller loan by next spring. That starts a little debt snowball and I can throw everything at the big loan.

I'm really itching to start investing. That's another incentive to double down on Mustachianism and really try to squeeze my expenses lower and lower. Every additional dollar I can save now means I'm pulling in the date when I'll be free of student loans, and that means I can invest the shit out of some shit. I can't wait.

Expense: the mortgage

To become financially independent we need to save up a ton of money. And for that we need to lower our expenses. My number one expense — the great big mortgage-sized elephant in the room, if you will — is my mortgage.

I wanted to own a house before I got started down this path toward financial independence. Renting never rung true for me, felt too much like "throwing [my] money away" (though it isn't really). Couple that with low interest rates, low housing values, building equity, and the mortgage interest deduction, and surely you can see why I was interested. My girlfriend and I closed seven months ago, in early May. We're paying a bit less than twice as much, in the same neighborhood, for three times the space. I think it's a great tradeoff (or else why would I have done it?), but it will seriously affect my ability to build a 'stash.

Let's get down to numbers:

• Total Principal & Interest: $2170
• Property Tax / Escrow: $630
• PMI (included in escrow): $150
• Principal (this month): $520
• Interest (this month): $1650
• Total mortgage expense per month: $2800

Of course the amount going to principal and interest changes every month, and I rounded the numbers to keep things simple. The house is worth around $450k and we put 10% down, which means we're dealing with PMI. Sucks, but I'd make the trade-off again if I had to.

Now, in the context of Mustachianism, keeping expenses low, saving money, etc. etc., splurging on a super awesome house isn't the best thing to do. This is kind of a moot point since Mustachianism wasn't on the radar when we were buying the place, and I'm absolutely not interested in trading down. So this expense is going to stay more-or-less intact until it gets paid off.

The long-term plan is to pay the mortgage off early and thus reduce our expenses to a relative trickle. How early? I don't know, but I'm definitely going to set a stretch goal for it. Ballpark, I can shave around 15 years off by making an additional $1k/month payment. Totally feasible once I get my student loans paid off. But I'm getting ahead of myself.

What we can do in the medium-term is eliminate our PMI payment. Personally I find PMI (Private Mortgage Insurance, to the uninitiated) repugnant — not so much because it's this extra fee tacked on, but because that's not how loans should work. If you don't like that I'm a higher credit risk, charge me a higher interest rate. If you want to take out insurance on your loan, then you pay for it. But you make me pay for it? Not cool, guy. Anyway.

If we don't make any extra payments, the PMI will go away by itself in 2017. I'd like to shave a few years off that number. I'm going to be a little conservative since I'll be dispatching my student loans first. Then I want to tighten this goal up a bit since I think we can do better.

GOAL: Eliminate PMI in 3 years, by 2015


Not too shabby. Now, eliminating PMI entails getting our Loan-to-Value ratio at or below 80%. That means either decreasing the loan amount (making extra mortgage payments) or increasing the house value. Increasing the house value is actually a big option here. First, and less interestingly, I'm counting on the housing market being at least a tiny bit better in 3-5 years. But that aside, the house we bought is sort of a fixer-upper for its neighborhood. The guy who owned it before us owned a number of properties and held them as rentals. Didn't take great care of them. Little things like not keeping up the exterior paint; leaving the exterior light broken and dangling while the house was on the market; spraying the walls, trim, and ceiling of the entire house with the same drab beige color; saying he'd be willing to go make concessions on the sale price before we made an offer, to account for the above (and more), and then going back on it. Honestly he was a pretty big tool. Our HOA president has horror stories of dealing with him, how he was two years late on his HOA dues, how he forgot to turn off the water to the exterior faucets in the winter, on not one but two of his houses in this neighborhood, and had the pipes burst. And then the HOA president had call up the water company to get things sorted out. In the end a reason we got this house for the low low price we did was because the dude was going bankrupt. Turns out he overextended himself and he had to liquidate his entire holding of over a dozen properties. Score one for karma. But I digress.

So another reason we could buy this house cheaper than others in the neighborhood is because very little has been upgraded. The roof is original and should be replaced in the next year or two. Kitchen is original, and honestly it's fine, but all the other houses I've seen for sale have stainless steel appliances and granite counter tops. (At this point I feel obliged to say something about how living in a high-spending neighborhood can turn you into a high spender yourself. What they say is true, and my only hope is constant vigilance.) The central air unit is original and could go at any time but otherwise doesn't need to be replaced. Carpets are builder grade and worn out, so I want to replace them eventually. We replaced the first floor carpet with hard wood before we moved in, thanks to a very generous gift from my girlfriend's dad. I think that's it for the big stuff. There's a lot of little stuff too, some landscaping, painting, window treatments, etc. All in all there's plenty that we can work on that will increase the value of the house. I'm not nearly as handy as Mr. Money Mustache, but I need to learn. It's the only way not to break the bank with all this pending home improvement work.

That's a good enough window into my housing situation for now. More to come on expense reductions later.