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What To Do With $25,000?

Posted By Jim On 05/31/2007 @ 11:44 am In Investing | 14 Comments

Reader Julia writes in:

Dear Jim -



Thanks for your blog – it’s swell!



Was wondering if you could share your two cents on my situation:



I have $25K in liquid cash sitting in a savings account with a variable APY of 5.05%. I have a separate account for 6 months of emergency funds, max out my $4K Roth IRA contribution, and max out my contribution to my company’s matching retirement account in addition to a small supplementary contribution. My only debt is a large student loan to the tune of $25K. The loan has a 2.5% interest rate. Should I pay more on my student loans every month cutting my 20-year loan repayment schedule in half, pay off half in a lump sum amount, or I guess there are many approaches to this situation…I’m not really sure what’s best. I have no children or other financial obligations. In a nutshell, I just don’t think it makes sense to have so much cash just sitting there. I don’t think I’m going to buy property anytime in the next 5 years (I would never be approved for a mortgage at my current salary for a living space in my current city). I’m interested in learning more about stocks, but realize there’s always a risk involved…anyway, what would you do?

What’s interesting is that Julia’s particular situation is very similar to my own (and many other recent college graduates several years out of college) and here’s my response:

Thanks for the email… I think you shouldn’t pay off your student loans for a couple reasons:
1) The interest is deductible if your salary is under a certain amount, it’s low though and you may be making more than that amount, I think it’s 60k or something in that range. (I looked this up after I sent the email, you can deduct up to $2500 in interest a year and the phase out for single filers is $50-$65k)
2) Your 5.05% is greater than 2.5%, which is sort of the situation I’m in right now too and I haven’t been paying off more than the minimums to the student loan because of that differential. See, that 5.05% is risk free, which would be different than your money in a brokerage account.

As for what to do with the money… I’m not really sure. I’d put it in a brokerage account and in some mutual funds, you’ll have to decide what you want to do with that money. While you aren’t thinking of a house at the moment, having that down payment money there is always a plus.

What would you recommend?


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