Pay Off Student Loan or Build Safety Net?

Question

I just graduated flight school and I have a school loan because of it. The payments for the loan are deferred for 2 years, but still accrue interest (interest rate is 7.2% and balance is ~$60k). I intend to buy my first house for house hacking in 2021 and I am currently building a safety net for that property. Recently, I have had a family member start helping me out financially by providing me additional monthly income (~$900 / month) that they say I can do either of the following options with:

• 1. Put towards school loan to keep interest from building up.

• 2. Put towards my safety net for a house I intend to buy in 2021.

I can't seem to wrap my head around what would be the most logical approach to this. How would any of you approach this?

P.S. I do intend to refinance the school loan (extending loan term and would receive a lower interest rate) before the deferment period ends.

Bill Hampton · Answer

Put it towards saving for a house, then refinance the student loan. Buying a house will allow you to build equity.

Good luck.

Whitney Hutten · Answer

@Andy Pate I really do love the idea of the house hack to reduce/eliminate your housing bill.  Then you can take those saved proceeds you would have put towards rent plus the actual student loan payment and snowball the student loan down.  You would come out the other end with a home building equity and your loan is gone.  At any point in time you could divert some of that reduced home payment to savings and build a nest egg, savings account, or just have as a backup stream of income.

Now the part I don't like... the 7.2% rate.  I'm not sure what type of loans you have, but could you refinance that down now while rates are super low?  I'm not sure what that does to your deferment but seems very logical in reducing your payment (which in the end may help you qualify the DTI).

Bonnie Low · Answer

I agree with @Bill Hampton. Most student loans give you 10-20 years to pay off so I'd refinance into a lower rate and take your time paying it off (it's annoying, but not painful). Use that $900/month to save for your down payment on a property then find something you can house hack. If you're a pilot, you should have good W2 income and will have no trouble qualifying for a conventional loan in a short while. The more you put down, the better your equity position to help you fund future deals. Paying off that student loan erases a short amount of out-of-pocket cash each month but it won't help you build anything. Good luck & congratulations on completing flight school!

Kelsey T. · Answer

Another vote for paying down student loan debt. It simplifies your finances, plus that interest rate is pretty high! I know it's not a very exciting way to spend the money, but getting rid of my student loan debt was the best thing I did with regards to personal financing.

Patrick Blanchard · Answer

@Andy Pate, first CONGRATS! Graduating flight school is a big achievement! There's some really good advice being offered by others here. I especially agree with @Carl Miller about creating and sticking to a budget / spending plan. My additional suggestion here would be: know your "why". Why are you wanting to house hack? What's the true goal here? With the financial coaching clients that I coach it's fun to see the light bulbs go off when they truly understand their goals / "why" and these decisions become easier.

That said, if I were in your shoes and receiving almost $1,000 per month from a family member here's what I'd do: use the "free" family money to put towards the student loans. If your student loans are like others right now, they should not be accruing interest due to the pandemic, you you'll make more headway on them right now than at any other time. At the same time, set a budget, minimize expenses, and stick to it. Any savings you can squeeze out should go towards the house. Maybe it's a pride thing for me, but I'd want to say that I bought the house with my own blood, sweat, & tears.

If you need an accountability partner in this journey, feel free to reach out. Always here to help.

Aaron Montague · Answer

@Andy Pate

I'm going to cast my vote into the "house hack" side of things.  Philosophy aside, here is my financial plan for you:

Buy this place in Raleigh, NC (I don't know where you will actually be employed, so I started with the town in your profile):

https://www.realtor.com/reales...

If you can get it for 270k, you'll own a duplex that'll cost you about ~2300/month to own, assuming we look at the house hack like the long term rental it actually is :)  I'll post my numbers below. The people renting from you should cover about $1800 of that.  This comes from my craigslist crawl of the Raleigh area.

Now you don't really have to pay the $240/month in property management fees to anyone but yourself at this point.  So you are down to $260/month in housing expenses. Keep that 10% in there so you get used to paying that money out each month. This enables you to move, hire a property manager and not blow your entire investment due to poor cash flow planning.

That alone is a good enough argument to house hack.  Your $900/month income is only going to be reduced slightly by your housing expense.  Once you have a job, you can save a huge portion of your income.

Now onto your debt. You should be able to pay off the entire thing for $40k by purchasing:

https://www.realtor.com/reales...

That place should cash flow about $380/month.  Coincidentally, at least for my arguments, your 60k in debt refinanced over 20 years at 4.5% will run your $380/month :)

8-10 years down the road you should be able to BRRRR the place in Barre, VT and get your 40k back.  So you could argue that you really won't pay anything for that debt if you play the long game.

Raleigh Duplex Numbers 2020. In 5 years I figure you'll be able to raise the rents to $1400/side, which should let this property cash flow just over $400/month.

Mortgage Rate

3.10%

Length of Mortgage in years

30

Monthly Mortgage payment

$1,152.94

Taxes

$          222.00

Sewer and Water

$          150.00

Trash

$                 -

Heat/Utilities

$            25.00

HOA/Legal

$              8.50

Cap Ex and Ops

$          250.00

Insurance

$            75.00

Mgmt Fee

$          240.00

Vacancy

$          199.20

Total Expenses

$2,322.64

Total   Revenue

$         2,400.00

Cashflow/month

$          77.36

Cashflow/year

$            928.27

Cash on Cash Return

16.88%

Barre, VT Numbers:

Cash at Closing   (Renovation Cost)

($5,000.00)

Total Due at Signing

$       35,750

Mortgage Rate

3.75%

Length of Mortgage in years

30

Monthly Mortgage payment

$350.81

Taxes

$       285.25

Sewer and Water

$       125.00

Trash

$              -

Heat/Utilities

$         25.00

HOA/Legal

$           8.50

Cap Ex and Ops

$       250.00

Insurance

$       125.00

Mgmt Fee

$       190.00

Vacancy

$       153.90

Total Expenses

$1,513.46

Total   Revenue

$      1,900.00

Cashflow/month

$     386.54

Cashflow/year

$      4,638.48

Cash on Cash Return

12.97%

Andy Pate · Answer

Definitely had to think over the opposing opinions on this subject from you guys/gals, and I really appreciate the opposing views from @Carl Miller and  @Patrick Blanchard. I keep leaning towards the idea of putting it towards my safety net for my first house hack as @Bonnie Low and @Bill Hampton mention. The house hack would provide me the ability to live rent free (if not also cash flow), and I would be building equity sooner than later. I could then take the money that was originally allocated to rent prior to the house hack and apply it to the student debt (along with any additional income that my flight instructor position might provide me). Also considering that I can put that safety net into a money market account or something similar to accrue interest while it sits there. When I go through the numbers, prioritizing the house hack provides me more capital, and provides that capital sooner, compared to attacking the loan.

I'm all ears to an opposing perspective of why the student loan would still be better to pay off.

Bonnie Low · Answer

@Andy Pate yes, there's an impact from that debt, but it just becomes part of your debt-to-income ratio. The fact that it's deferred and you have zero payments right now does not in and of itself hurt you. It's still a trade off, though.

Andy Pate · Answer

@Bill Hampton @Bonnie Low I appreciate the input! I intend to use the VA Loan to avoid the down payment. My big concern was having to tackle that interest in the future, but there has always been a side of me that felt putting money towards the school loan seem like such a sedentary option.

The other worry I have is if I go to apply for a mortgage, will the accruing interest and no payment in X months decrease my chances of qualifying for the mortgage?

Pay Off Student Loan or Build Safety Net?

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