Yes, that's correct ukinny. This is why I have a professional help me when taxes are due!
Therefore the questions you need to consider:
- How much state tax credit would you get for $4000 of contribution?
- How much you are paying in APR on Mortgage, and on Student Loan?
- How much will Federal Tax increase if:
- You don't take the State deduction
- You pay down the mortgage
- You pay down the student loan
The first 2 bullets aren't that hard. For the state tax in Virginia you pay 5.75% on income above $17K. $4000*5.75% = $230... that is what would be back in your pocket for getting the deduction off state. But that said, you'd also lose a bit of that because State taxes are deducted against Federal, for 'back of the napkin', I would reduce the $230 by 20%... so lets say $184. If your effective Federal tax rate is higher than that, use that instead of 20%
- Then let's divide $184 by $4000, as a percentage this is 4.6%
- Then take the mortgage rate and multiply it by 1-tax rate (I'll use 20% again, you use your real rate) so maybe 4%*.8= 3.2%
- Then tax the student loan rate and multiply it by the same (1-tax rate) so maybe 6%*.8= 4.8%
I would then look for the highest percentage, and that would be my strategy for order of payments. In this case you would save 4.6% via a rebate from taxes, but if you paid the student loan, you'd save 4.8% in interest payments kept in your pocket. The variables are rate of loan and effective tax brackets.
You'll probably find that it doesn't really matter that much from an immediate savings perspective, so you'll start thinking about the other variables:
- How you react emotionally to being debt free?
- How you feel about funding (or not) the kids?
- The value of tax free growth in the 529... but the risk that it could decline in variable investments VS the guaranteed rate you get from paying off fixed rate debt in the mortgage or loan.
You also may wish to think about how each option impacts student aid. 529s are favorably treated, but do still count towards assets when calculating FAFSA and CSS eligibility, whereas the debt is not. IE if one person had no student loans and no mortgage but no 529 they should be considered more favorably than someone with the same amount of assets spread over these three areas. This isn't huge though, as salary/income seems more important than net worth for most weighted calculations.