I’ve been a lurker for a long time, but finally have a reason to reach out and get some opinions on how best to proceed with a recent windfall.

Here is our situation:

We have fought our way out of debt over the past 5 or 6 years and no longer have any consumer debt. We currently owe the following:

Primary Mortgage: $145,850 @ 3.99% ($1171.85/month)
Secondary Mortgage (balloon due in 2020): $27,000 @ 8.625% ($227.51/month)
My Student Loan: $21,337 @ 2.13% ($109.72/month)
Husband’s Student Loan: $17,323.28 @ 4% ($161.26/month)

My mom recently sold some real estate and gave us a total of $20,000. Originally, she told me to put it towards my student loan since she regretted not being able to provide this to me growing up. However, my husband and I are thinking of putting it towards the 2nd mortgage.

We currently have $8,000 in savings so this would pretty much wipe out our savings. But our incomes are good and stable (I make $97k a year and my husband makes $65k) and I think we could build it back up.

We would like to eventually move out of our neighborhood, but we are underwater on our house (we bought in 2005 at the height of the market). Right now we pay for private school for our 5 year old ($10k/year) because we live in such a bad area of the city. If we moved out of the city and into a better school district, we would be able to use public school. However, we would be paying much more in housing.

Given our situation, what would you do? Would you (a) pay off one of the student loans?; (b) pay off the balloon mortgage; or (c) put the house up for sale and see what we can get, knowing that we will most likely use all of the money and more to pay at the closing table to get out of the house? (Houses in our area have fallen to the $120-140k range; in 2005 we bought for $200k).

Option (c) requires the most planning. We know we would not be able to buy again for a long while so we would be renting in the better school district, where rents average about $2500/month.

Any thoughts?

I think paying off the second mortgage is probably the smartest move financially...as a couple. But given the source of the funds and your mother's expressed wishes, you might (mostly) pay off the student loan instead.

If you pay on the second mortgage you are effectively giving half the money to your husband since it is a joint debt. That's important because your student loan is likely your sole debt. Since your mother is giving you the money she might care a lot about that difference.

I think you should talk to her and explain that the mortgage has such a high interest rate that you think it would be better to put that money toward it instead. See how she reacts. She might be fine with it or she might object. If she does, you should honor her wishes.

Thanks DoingHomework...that would definitely be the respectful thing to do. I plan to lay it all out to her to get her input. I don't think she even realizes what our mortgage looks like, etc.

Yeah, I vote 2nd mortgage too.

Well I think it depends on what your mother's wishes are. If she did this because she wanted to help pay for your college costs, I think it should go for that, even if it is not economically the most efficient. But I can certainly understand wanting to get rid of that second mortgage if I were you. I would only put it towards the mortgage if you got your mother's OK/blessing.

My thought - ask mom if it's okay to use the money to pay down the 2nd mortgage, abide by her wishes (pay off the student loan if that's what she wants).

Whatever you decide, you will be $20,000 better off Thanks, mom!

Math & calculation asides:
Is your 2nd mortgage payment interest only? If so your effective APR may be higher than 8.625%, or there could be some insurance/fees/something in your $227.51 payment - or my math could be off! My math: simple interest 8.625%/12*27,000 = $194.06.

Doesn't really matter, but means my quick-calculation will be off in the following because I assumed the $227.51 payment is all interest:

+If you pay your student loan off (assumes you have some money to combine with mom's) and add that $109.72 payment to the 2nd mortgage payment, your balloon in 8 years would shrink to somewhere in the $4,500 range instead of $27,000 (because you will have paid off principle along the way - balloon closer to $2,600 if rate is 8.625% and my math is right)

+If you use the $20,000 to pay down the 2nd mortgage and continue making payments of $227.51/month on it, you will have paid off the 2nd mortgage completely in about 3 years (about 1 month faster if rate is 8.625%)

Thanks everyone for the advice. My mom clarified that I can spend the money however I wish, but the reason she gave me the $20k is because I incurred student loan debt. So I feel comfortable tackling this 2nd mortgage.

Babysteps, I really like your idea of spending the $20k towards the 2nd mortgage now and then paying the rest off early. If I tried to pay off the entire $27k all at once (and who knows what the pay-off amount really is), I would feel nervous about depleting our savings. I just hope that Bank of America (who services the loan) applies the payment correctly and that I don't run into any problems. I've never paid off a loan this big and I've heard horror stories about Bank of America in particular.

Endora, sounds like you have a good plan EXCEPT that you should not simply "hope that Bank of America . . . applies the payment correctly." You ought to provide explicit written instructions with your payment that it is not a pre-payment of interest, but all dollars above your minimum payment amount should be applied to the principal. I agree that I hope they do it correctly, but head off problems up front by making your intentions crystal clear. Congratulations!

To ensure that BofA doesn't mess it up, I'd pay your regular monthly payment, make sure it posts, and THEN send in the new $20K payment, marked "principal payment only."

When we had our mortgage with BofA, you could pay online, and there was a radio button you checked to note how the funds were to be applied. Should be pretty straighrforward - but watch 'em!

Congrats! That's a big chunk!

You two make a lot of money as a couple....you could proably save aggressively throught the year or every six months and put a safe portion towards the debt without feeling crunched.

Sorry if I missed anything. I'd pay for the mortgage as well...of just leave it in your savings....don't put anything towards savings while you are aggressively paying down debts since you'll havve $28,000.00 in the bank; which I am sure is not 3-6 months of an efund.

Endora I second what sandark said; pay your regular mortgage payment, and then pay that big installment with note indicating "principal only" payment. When you do get towards striking distance of paying off mortage, request a "pay off" amount in writing; that is the amount you need to pay off balance entirely. When you get that letter, then pay that amount; that should take care of it. If it is a heloc rather than a second mortgage, you will then need to request that line of credit be closed as well, otherwise it will be kept open with a 0 balance.

I think I will defintely go the route recommended of paying off in chunks until we get to the final payment. Thank you all for your guidance!

I always pay electronically via my personal checking account through my bank (not through the BofA website). But I still have a payment book from BofA, which seems to have a place to pay beyond the monthly amount due with a directive to apply to principal.

Although I am a fan of doing it electronically, I went on the BofA website and learned that if I wanted to use their online system to pay in this way, I will be charged a fee since I don't have a checking or savings account with them.

So it seems using my payment coupons may be the safer way to go.

100% agree!

There is no randomness or uncertainty here. You have a promissory note that BoA must abide by. Read it and know it like the back of your hand. Then make your payment and make sure they apply it as you expect. If they give you a statement off by a dime there is no reason you should not be on them over it.