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|10-09-2012 02:43 PM|
The math is very simple. No matter the repayment time period, paying the highest interest rate first is always always always going to net you the most savings. I have done multiple examples in multiple threads to show this.
If you don't believe it, I'm sorry. It is logical and the examples prove it. There is no such thing as a tipping point in time where the balance on a specific loan matters because the interest rate is an annual rate. They do it this way to make it easier to understand that the highest interest rate always has the highest interest cost.
|10-09-2012 02:30 PM|
|vaultaddict||This isn't difficult math here.|
|10-09-2012 02:22 PM|
Rammstein pretty much nail it right on the head with my concerns...The above example is very informative but also a bit bias in my opinion. If i was paying $5000 a month at a $20000 loan, its blatantly clear that I will accrue less interest. However, paying $1000 a month I think the numbers would look a bit different.
I am going to use an excel sheet that ryanfj has posted and test out all different combinations when i get out of work.
Again thank you for all the help, I appreciate it very much and value everyone's opinion.
|10-09-2012 07:00 AM|
|10-08-2012 08:12 AM|
To do this and make it simple, I'm adding some terms to your example. Both loans are 3yr loans. This will have an effect on the payments numbers you mentioned, but only by a few dollars.
Here are your examples:
Your First Example:
$20,000 @ 14% for 36 mo = $683.55/mo
Payment 1: $5,000.00 Principal: $4,766.67 Interest:$233.33 Balance: $15,233.33
Payment 2: $5,000.00 Principal: $4,822.28 Interest:$177.72 Balance: $10,411.05
Payment 3: $5,000.00 Principal: $4,878.54 Interest:$121.46 Balance: $5,532.51
Payment 4: $5,000.00 Principal: $4,935.46 Interest:$64.55 Balance: $597.05
Payment 5: $604.02 Principal: $597.05 Interest:$6.97 Balance: $0.00
Total Interest Paid = $604.03
$3,000 @ 15% for 36 mo = $104.00/mo
Payment 1: $104.00 Principal: $66.50 Interest: $37.50 Balance: $2,933.50
Payment 2: $104.00 Principal: $67.33 Interest: $36.67 Balance: $2,866.18
Payment 3: $104.00 Principal: $68.17 Interest: $35.83 Balance: $2,798.01
Payment 4: $104.00 Principal: $69.02 Interest: $34.98 Balance: $2,728.99
Payment 5: $2,763.10 Principal: $2,728.98 Interest: $34.11 Balance: $0.00
Total interest Paid = $179.08
Total for both: $783.11
And the second:
$20,000 @ 14% for 36 mo = $683.55/mo
Payment 1: $2062.50 Principal: $1,829.17 Interest:$233.33 Balance: $18,170.83
Payment 2: $5,100.00 Principal: $4,888.00 Interest:$211.99 Balance: $13,282.83
Payment 3: $5,100.00 Principal: $4,945.03 Interest:$154.97 Balance: $8,337.07
Payment 4: $5,100.00 Principal: $5,002.72 Interest:$97.27 Balance: $3,373.98
Payment 5: $3,373.98 Principal: $3,335.07 Interest:$38.91 Balance: $0.00
Total Interest Paid = $736.47
$3,000 @ 15% for 36 mo = $104.00/mo
Payment 1: $3,037.50 Principal: $3,000.00 Interest: $37.50 Balance: $0.00
Total interest Paid = $37.50
Total for both: $773.97
So, in your example, you save about $10 for paying off the smaller / higher interest rate first. Obviously, the savings would be much more substantial if we were making smaller payments over a longer period of time. I just wanted to fill your wishes to show financial logic.
Always hit the highest interest rate first.
|10-07-2012 10:17 AM|
I think you guys missed the main key in what I posted... "tipping point in time." Now, I could be wrong because I haven't been able to find a calculator to do what I'm talking about and I'm not about to make my own for this, but I'm sure one of you guys can figure out. Can you try an overly simplistic calculation?
Loan 1: $20,000 @ 14%
Loan 2: $3,000 @ 15%
Now, for the first four payments, apply $5,000 to Loan 1 and $100 to Loan 2. For the fifth payment, apply whatever is necessary to pay off Loan 1 (basically whatever interest is charged in those four months, right?) and the remainder of the $5,100 to Loan 2. What is the total interest paid in this scenario vs paying Loan 2 off in the first payment and $2,100 going to Loan 1 in the first payment, then $5,100 to Loan 1 until it's paid off?
Like I said, I may be wrong since I haven't calculated it myself, but I do think it might matter how long these balances are held; although, generally speaking, it is better to pay off the highest interest rate first. I just want to make sure that we're giving the OP accurate advice and not just accurate most of the time advice.
|10-06-2012 08:22 PM|
the discrepancy in logic is that the difference in interest paid ($) depends solely on the interest rates, not the outstanding principals. (just elaborating your point)
general rule of thumb for where to put your money, whether it's paying down loans or into investments - put $$ towards the highest interest rate (other considerations like emergency fund, etc, exempted)
|10-06-2012 08:34 AM|
|ryanfj||paying off high interest should always be better. either way, they will probably be insignificant amounts overall. To ease your brain, I would suggest running a scenario of it using amortization schedule worksheets. for example, look at my attached a spreadsheet showing the difference of paying off minimum payments but applying an extra 500 to the high interest rate loan first then the high balance loan an vica versa.|
|10-06-2012 07:13 AM|
See this thread and my post in it.
Paying off the highest interest rate first will always net you the most savings - no matter which account or which balance it is.
If you're having trouble picturing it, think about it as a credit card. You can have multiple balances at multiple rates all on one card. Example:
-$10,000 Balance at 2.99%
-$5,000 Balance at 7.99%
-$1,000 Balance at 19.99%
When you go to make your payment, would you allocate your additional (that above the minimum) payment to the $10,000 balance because it accrues $25/mo in interest, or the $1,000 balance that also generates $17/mo in interest?
Ignoring the $5000 balance, lets look at the results of an additional payment. Lets say the min is $100/mo but you're going to pay $500. I'm not going to discuss the allocation of your min payment because it isn't really relevant (because the lender is going to allocate it based on law and your note's guidlines). So that extra $400 goes to which balance?
If it goes to the $10,000 balance, that means that next month you pay $1 less in interest on that entire balance. If the $400 goes towards the $1,000 balance, you'll pay almost $7 less in interest next month. Which would you prefer?
The assumption that a loan which generates more in interest every month because it is a higher balance is the better choice to pay off is absolutely incorrect. Paying off the highest rate first will always net you the lowest interest paid back and the most savings possible.
As I said before, think of it as individual dollars. Each dollar borrowed has a specific cost. You want to pay back the dollars that cost the most first.
As a disclaimer, the figures are rounded. I did use a calculator, but I didn't feel like writing in the change every time.
|10-06-2012 07:04 AM|
This doesn't make sense.
|10-06-2012 06:49 AM|
|10-05-2012 06:37 PM|
what's the point of the subsidized note? if you're in repayment, it doesn't matter. If the subsidized loans are still deferred, don't bother paying them because interest is not accruing.
I've come into some more cash on a monthly basis (will finish off a car loan soon) and initially thought I'd start paying down a direct loan I have (I am still in school PT and won't have to start paying it for around another year) but then stopped and thought.... why the hell would I do that when it's subsidized? No interest is accruing or capitalizing - I'd rather have that $$ in my bank account than pay off the gov't early.
|10-05-2012 02:34 PM|
I tell you to think of it that way because it all adds together in the end. The highest interest rate is always the best to pay back when you're looking at it from a monetary standpoint and overall savings is the goal.
Paying off the $1 at 12% is going to prevent that dollar from continuing to accrue that higher interest next month. Even if the individual loan is generating more interest in dollars, your payment doesn't go as far in preventing more dollars from accruing next month if you don't focus on the highest rate loan.
Also, these look like Sallie Mae loans - sign up for autopay for a .25% interest rate reduction. They'll take your min every month and you can pay as much as you like on top of that.
|10-05-2012 02:30 PM|
Don't think about the interest each loan individually generates each month. Think of the amount of interest each individual dollar generates each month instead.
If you've got a $100 debt at 12% interest and a $10,000 debt at 5%, sure the $10,000 loan is accruing over $40/mo in interest, but per dollar it is only generating $.0041. The $100 debt is only generating $1/mo in interest, but per dollar that is $.01 - over double the cost of the other loan.
|10-05-2012 02:10 PM|
Thank you for all the input I greatly appreciate it. Would anybody be able to tell me if loan 3 will accrue more interest monthly then loan 4? I understand it has a lower interest rate but the principal is higher? Wouldn't that mean that those loans are accruing more interest?
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