Wednesday, December 29, 2010

Savings vs. Paying down Debt

I had the following comment that I thought I would write a post explaining my situation:

Wouldn't it make more sense to pay off the loans and then have $45,000 in savings? Less money in cash but huge interest savings. Just a thought.

Yes, it most situations it would make more sense but not in our situation.  First of all, my car is financed at 0% and my student loan is at 4.5%.  It doesn't make sense to pay more on my car because I'm not losing anything by keeping it.  My student loan interest is tax deductible so that essentially brings the interest rate down to 3.6%.  So why do we want so much cash compared to paying down debt?

We plan to build our own house either this summer or in the spring of 2012.  My husband is going to do most of the work himself.  We will hire out the septic, foundation, and outside shell.  My husband can do the interior including the plumbing, electric, and drywall.  We might hire the kitchen and flooring.  Most construction loans require the work be completed in 6 months or possibly less.  Since my hubby will be doing the majority of the interior work himself and working full time, I highly doubt that we would be able to make the 6 month requirement.  We plan to pay for the exterior and a good majority of the interior with our cash.

For the obvious question, how do you plan to build a house with $65,000?  That amount will take care of the exterior and a good chunk of the interior because we won't be paying for labor.  The house that we plan to build could probably be built for about $150,000 if we hired everything out.  A good portion of that is labor.  We will probably get a construction loan toward the end of construction to pay for the kitchen, fixtures, and flooring.  Those items could easily run us about $30-40K but after you pay for them, they are done quickly.

So, the savings that we could get from paying off my student loan would be very quickly eaten up by hiring out more things when we build our house. 

Is it a financial risk to plan to do it this way?  Of course but we're prepared to take that risk.  Is my husband qualified to do a majority of the house?  Yes, he was a plumber by trade until recently.  He finished off the lower level of our bi-level in our old house.  He did the wiring, sheetrock, finishing, and trim. 

Do you think we're crazy for this plan of action?

2 comments:

  1. I had left that comment (sorry to post anonymous but I don't have any of the required accounts, my name is Marie!) I appreciate the explanation, makes a lot of sense and seems to work well for your family. We were in a similar situation. We sold our house, would be renting for awhile and decided to save what we made ($10,000) for our next place instead of paying down my husband's student loans. My sister kept pressuring us to pay it on the loans and then save. But I'm in grad school and as a family of 3 we have a buffer savings but probably wouldn't recoup the money in time. We have it in an account that essentially makes the same interest that we pay on the loans. Good luck with your house, seems to be a huge undertaking!

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  2. Thanks for this post, though your situation is different from mine. I had posted the same question on my blog (for feedback).

    I have debt, my car--though I don't consider that bad debt, a credit card and a consolidation loan. I make payments monthly to each one, but at the same time, I'm trying to build up my savings. While I understand it makes more sense to pay the debt first, then start saving, I feel like a cushion is smart to have just in case of any emergency (car accident, medical expenses, job loss).

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