Yes, I have too much in ING Savings

Economics is a funny "science."  You see, its first, and most basic assumption is that people act rationally.  Perhaps more accurately, it assumes that on the whole, the masses act rationally.  We certainly know that on an individual level, this is not the case, but I would just as readily doubt whether the masses are any more logical.  If anything, I would argue they are even less logical.

So, what does this have to do with my overinflated ING savings balance?  Well, what makes it overinflated?  I have $56,901 there.  Not bad, right?  It's earning 3.8%.  Yet, in my primary taxable brokerage account, I only have $20,429.  Seems like a bit much in low yielding, liquid money.  Then the coup d'etat.  I have an auto loan with a balance of $17,500.95.  I'm paying a rate of 5.64% on that.  Now, there's clearly something wrong here.  Why the heck would you have an outstanding auto loan at a higher rate than a taxable savings account.  And you're right.  I shouldn't.  After my Net Worth Update, it was pointed out to me a couple of times that I was making a mistake.

Here's where my seemingly arcane economics talk at the beginning comes in.  I talked about this in The Psychology Behind Income Tax Refunds.  There is a behavioral finance concept called "mental accounting."  This is where we mentally separate certain money for certain purposes.  It is not rational, and thus flies in the face of classical economics.  However, most of us do it.  Just not usually on this scale.  Mentally, I'm saying, "well, this is the money that I am saving for a downpayment on a house."  However, it is very unlikely that I will be buying a house within a year.  So, it's not rational.  Well, how much is this irrationality costing me?  I actually hadn't calculated it until now.  Let's do it.

Don't Payoff the Loan

My plan is to pay off the loan in 18 months.  That would mean a monthly payment of $1016.26.

Interest lost from taking the money from ING:  Zero (the money would stay there)
Interest cost for Auto Loan:  $791.73

Total cost of not paying off the loan:  $791.73

Payoff the Loan

Take the $17,500.97 out of ING and send it to the kind folks at Honda.

Interest lost from taking money out of ING:  $608.28. 
(This is tax adjusted.  I assumed a 40% tax bracket to be generous.  I do live in California.  The effective interest rate was 2.28%.)
Interest Cost for Auto Loan:  Zero (it would be paid off)
And assuming the same $1016.26 were deposited to ING, interest earned would be $298.44

Total cost of paying off the loan:  $309.84

Difference between the two plans = $481.89.

Well, now...   That's more than I expected.  So, I'm throwing away close to $500.  Well, this give me something to think about.  Well, okay, I'll pay it off.  Is it weird that I still don't want to?  I'll let you know what happens.

Comments

[Singleguymoney]

I totally understand where you are coming from here. I have about the same amount in savings and about $15k in credit card debt and a car loan. For me, it is a safety thing. I feel good knowing I have that money there for me if I need it.

[SingleMom]

You didn't give yourself enough options. Why only "to pay" or "not to pay"? What about "to move" the ING cash? or to 0% BT the car loan? LOL

I wouldn't pay off the car. 5.64% is still very low. Although you "choose" to leave the majority of your money in ING, there are many places you can park it to earn more than 5.64%. Do a cost analysis on the opportunity cost of investing the cash for a higher return (leaving 6 months living expenses in ING) vs. paying off the car. I'm sure the decision to keep the car loan would make more fiscal sense.

I had a similar situation that I wrote about on Wednesday. I decided NOT to pay off the car for many reasons. One of them being, I like my safety net. :-)

[James]

No! Don't listen to these guys! Pay it off now. You have plenty of cash. What is the point of throwing away 500 dollars? I agree it is nice to have the cash cusion, but what are the ODDS that you will need to dip into it in the next 18 months? The financially savvy move is to rid yourself of the loan. Then you can rebuild your cash with a clean slate.

[MM]

You rightfully cited behavior finance. Some more information here: http://www.pfblog.com/archives/3151_behavioral_finance_and_decision_making_biases.shtml

You should really pay it off now. You have enough liquidity -- or you want to buy a house soon?

[Amanda]

Good for you! I think we all grapple with the psychology of depleting our savings accounts to pay off debt or a loan, but in the end, we're better off, even if it feels kind of difficult.

[Financial Freedumb]

Great post...I'm thinking of paying off my loan too...at least half, and then paying the rest of gradually.

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For me, it's knowing that if something happens - I'm prepared. So I don't think that you can ever have too much going towards savings as long as you don't sacrifice your present needs.

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