OPINION | SAVE YOURSELF: Doctor, heal yourself financially; Self-pay before anything else
Congratulations to all doctors who graduate and start a new job. It can be an exciting month with those first few paychecks. For many, the raise can feel like monopoly money. It can seem like enough money to satisfy almost any desire.
But many of the doctors who came before you have a note of caution: That money may not go as far as you imagine.
Importantly, one miscalculation could throw you off financial course for decades. More specifically, you might be under financial stress, and instead of working to become a doctor, you might find that you’re going to work to make enough money to keep your lifestyle going.
You should have this corrected right from the start. Months of waiting — after the house is bought, the kids are in private schools, and the new Tesla X rolls out of the driveway — means spending and saving decisions are rooted in emotional attachments.
Where do people make mistakes? Well, for one thing, many don’t understand how income taxation works in a border tax system. Take-home salaries from $60,000 to $500,000 are not linear. Taxes at $60,000 might look like only 15% to 20%, but at higher income levels it might be closer to 30% to 35%. Then add in student loan payments and a hefty mortgage payment, and it’s easy to imagine some new doctors finding themselves in a paycheck-to-paycheck or debt spiral even after their income has skyrocketed.
And no, it’s not just for doctors. The same is true for executives, engineers, lawyers, bankers, and other professionals who make $250,000 or more a year when they are young.
There’s a simple solution: Pay yourself first. It’s absolutely my best advice I have to offer.
There are three simple steps to achieve this advice. If you follow them, you can retire at a reasonable age and pay off your student loans. You could go further and create a lifestyle budget for home, school, car, and other big expenses, and that could help avoid major financial burdens. Today let’s focus on the steps to pay yourself first.
Step 1: Take a shot of whiskey (optional). Think about how much you need to save each year.
Your savings rate should be at least around 20%. It may need to be more, especially if you have large student loan debt and/or if you start at that income level after age 30 with no savings. To determine your savings rate, I recommend using a retirement calculator and here’s a simple one to start with: https://vgi.vg/2WfQ3VZ. Be sure to include a Social Security assumption and consider what you include in the percentage of current income you will need in retirement.
Remember that saving money means both putting money into retirement savings and downsizing your lifestyle. A reduced lifestyle stretches your retirement dollars.
So if you start the calculator with a savings rate of 20%, you might be able to expect to need 75% of your current income when you retire (allowing for a lower tax rate on earnings). With a savings rate of 25%, you might only need 70% of your current income.
In our scenario, let’s say you’re 30 years old, earn $300,000 for a nonprofit hospital, and have $300,000 in student loans. By my estimation, you probably need to save 30% of your income, or $90,000 a year. (This is where the optional whiskey shot comes in.)
Step 2: When you’re reasonably sober, set up your retirement accounts to house those dollars.
Your retirement accounts should be prioritized in order of tax efficiency. See paragraph 4 for why. Think of your savings as filling the most important bucket before moving on to the next. Order here.
Bucket 1: Retirement accounts at work. Total savings limit $19,500. Maximize what your hospital, clinic or company has to offer. For some, that will be $19,500, for others it could be double if there’s a companion 457 plan. Not only will you get a much-needed tax deduction, you’ll likely get a savings bonus for winning. $90,000 – $19,500 = $70,500 left to save.
Bucket 2: Health Savings Account (HSA). If you have a high-deductible health insurance plan, you can save up to $7,200 for a family, invest the money for retirement and never spend it. With a triple tax deduction — no front or back end income taxes, and no capital gains tax — it’s a phenomenal retirement account. The only caveat is that you must use it for retirement healthcare expenses. Beware – your biggest expenses in retirement will likely be on health care. $70,500 – $7,200 = $63,300 left to save.
Bucket 3: Student Loans. With student loans paying interest rates over 6%, it makes perfect sense to kill these suckers. If you work for a not-for-profit hospital or clinic (e.g. Baptist Health, UAMS, Arkansas Children’s or CARTI Cancer Center) you will likely benefit from participating in the Public Service Loan Forgiveness Program or PSLF. Depending on a variety of factors, that payment could be around $2,000 per month or $24,000 per year. $63,300 – $24,000 = $39,300 left to save.
OR, if you’re going into private practice or a for-profit business or clinic, you’ll likely want to refinance that debt for payback in 5 years (or less), resulting in a monthly payment of about $5,000 or $60,000 per year. $63,300-$60,000 = $3,300 left to save.
The doctor in our example would obviously choose the PSLF option and potentially forgive over $200,000 in loans provided he was in the appropriate repayment program during training.
Bucket 4: Backdoor Roth (BDR). Our PSLF eligible document has more money to save. While she and her spouse cannot specifically fund Roth IRAs, they can pursue a backdoor Roth IRA (tutorial here: https://www.physicianonfire.com/backdoor/). This tutorial is for a Vanguard account but can be done with Fidelity, Schwab or most major brokerage houses. If both spouses hit the maximum in 2021, that’s an additional $12,000. $39,300 – $12,000 = $27,300.
Bucket 5: Taxable Broker Investments. There’s never been a better time to be a doctor and open a brokerage account, fund it monthly and invest in passive assets with low fees. Read more about it here: https://bit.ly/3zc1FIn. Opening an account with Vanguard, Fidelity or Schwab is easy. In this case with $27,300 remaining investments, that would be $2,275 per month.
Step 3: Automate All Those Monthly Bucket Savings. Your company pension plan is automated from your paycheck. The HSA is automated from your paycheck. Student loan payment will be automatically debited from your checking account. For Backdoor Roth, you could automate transfers — $1,000 a month for a couple / $500 if you’re single — from your checking account to a savings account, and then do the BDR once a year. Then for the taxable broker account, please please take the extra step and automate a transfer from your checking account to the broker account and have it automatically invested.
If you’ve gotten this far into the column, my diagnosis is that you like this stuff, maybe enough to read some more about it. If so, I recommend the books, blogs, and podcasts by experts like White Coat Investor, Physician on FIRE, Wealthy Mom MD, Nisha Mehta, and The Physician Philosopher. Dentists should watch the Gold Crown Podcast. Veterinarians, read Richer Life DVM. I also recommend local pharmacist financial educator Joe Baker and his great new book Baker’s Dirty Dozen: Principles for Financial Independence. Lawyers and non-medical professionals also follow a lot of these people because the content is conflict-free (they don’t sell financial products), high quality, and easy to follow.
It takes work, but if you take a more passive approach without this planning, you might end up not saving enough and not realizing it. Unspent money in a checking account doesn’t usually stay there for long. It cries and whines or calls out to spend, and you probably will. That’s why a pay-yourself-first system is the best choice for financial freedom on day one of a new job.
Sarah Catherine Gutierrez is the Founder, Partner and CEO of Aptus Financial in Little Rock. She is also the author of But First, Save 10: The One Simple Money Move That Will Change Your Life, published by Et Alia Press. Contact them at [email protected]