Understand Physicians' Financial Phases

Physician's Money DigestNovember30 2003
Volume 10
Issue 22

Most practicing physicians will admit thattheir volume of long hours coupled withtheir perceived high compensation causesthem to postpone financial planning. Thismakes financial prosperity, even adequate financial security,difficult to attain.

Breaking down financial planning into phases andoutlining what actions to take during each phase candramatically improve a doctor's financial life. When aphysician takes the time to analyze the different financialplanning issues within each phase of their medical practice,it can assist them in setting a more secure financialagenda. Following are the 3 financial planning life phasesin a physician's career.

1. Education and Practice Transition

This first phase begins in the last year of residencyand extends to about the 5th year of practice. Perhapsthe most difficult phase to acclimate toward, the transitionperiod of a career in medicine has a number offinancial planning imperatives.

Home Budget

First and foremost, a physician needs to address thehome budget. Earned income changes dramatically fromresidency to clinical practice. While additional incomeisn't an unpleasant adjustment by any standard, it doesrequire discipline and structure. Otherwise, it may verywell become an unmanageable burden.

Physicians must create a budget to ensure that spendingstays within reason. For example, buy an affordablehome that won't throw the rest of your financial plansoff balance. As a guide, principal interest taxes andinsurance for the home should not exceed 25% of thetotal income earned—this will leave adequate funds forother financial issues.

Future Wealth

Wise use of cash flow is imperative for long-termwealth. Budget money for necessary personal propertypurchases and for the repayment of high priority, nondeductibledebts (eg, student loans or credit cards).

You'll also need cash to buy adequate term life insurance,disability insurance (to protect against the loss ofearned income), and professional and personal liabilityinsurance. These liability policies can be added to homeowner'sor auto insurance policies. The minimum levelof protection should be $1 million. In a clinical setting,many of these insurance benefits are provided by theemployer, so make sure you take maximum advantage ofthese tax-favored group benefits.

Also, don't pass up the opportunity to make pretaxsavings through qualified retirement plans (ie, 401(k),IRA, Keogh, and 403(b) plans). The earlier you begin tomaximize contributions to tax-favored plans, the fasteryou'll achieve financial independence.

Finally, arrange for an appropriate estate plan, includingthe preparation of a will or the establishment of atrust to benefit minor children should both parents die.

2. Maximized Income Period

The next financial planning phase for a physicianbegins 5 or so years after residency and extends about 20years into their practice. At this point in time, incomelevels are maximized. As a physician, this time period isyour financial heyday. Although income is maximizedand debt is lowered, new challenges continue to arise.Now is the time to create significant wealth.


Like other high-earning professionals, physicians mayfind themselves earning more money than they knowhow to handle wisely. Smart options include supplementingretirement plans, putting away money for children'seducations, and accelerating debt payments. Avoid the pitfalls of relatives and friends armed with get-rich-quick schemes and hot investment tips.

Stock Investment

To supplement retirement, physicians are wellserved by investing in individual stocks, which provideboth investment diversity and tax deferral.Thoughtfully chosen stocks will allow you to invest ina business without its day-to-day management problems.Success stories abound of companies providingexcellent investment returns.

A portfolio of no more than 12 individual stocks, diversifiedacross 6 to 8 industry sectors, creates a low-cost"mutual fund." Moreover, once your children reach age14, you can give these securities to them to pay for college.The child can systematically sell the individual securitiesfor cash and pay for college in a low tax bracket.

While actual mutual funds may seem like sensibleinvesting tools, they're not always the best option.Publicity performance attracts many investors to favormutual funds, but due to frequent portfolio turnover,funds often have higher expense ratios, thus diminishingreturns. By buying and holding high-quality commonstocks, brokerage costs are limited, making stocks moreprofitable than mutual funds.

Estate Consideration

In addition to establishing education and retirementplans, it's important to have a sound estate plan. Underthe current estate tax law, advanced estate planning mustbe implemented if your estate exceeds $1 million for asingle person or $2 million for a couple.

Married physicians may use wills with bypass trustsor other credit shelters to take advantage of the unifiedcredit currently available. The same can be achieved witha revocable living trust. With a bypass trust, upon thedeath of 1 spouse, a trust for the children bypasses thesurviving spouse and reduces the estate's taxes. It shouldbe noted that under new tax laws, unified credits willgradually increase to $3.5 million per individual by 2009.

3. Preretirement/Retirement Stage

The third and final phase of a physician's financialplanning begins 5 or so years prior to their actual retirementand lasts as long as 30 to 40 years, depending ontheir chosen retirement age.

Allocation Decisions

The preretirement and retiring physician must makea significant number of specific retirement planning decisions.Among these is the allocation of their investmentportfolio that has accumulated. Most physicians retiringbetween ages 55 and 65 have a life expectancy of 30 ormore years, so they must not invest too conservatively.

Secure formula:

While it may seem prudent to steer clear of the stockmarket's uncertainty, being overly cautious may actuallyassure that your assets depreciate. An overly conservativeportfolio invested in safe assets (eg, money marketfunds, bonds, and CDs) loses purchasing power to inflationand taxation. A balanced portfolioof 60% equities, 30% bonds, and 10% cash helps providelong-term purchasing power security.

Distribution Decisions

A physician's retirement distribution should stressflexibility. In most cases, these decisions can be madeannually until age 70 1/2, at which time the distributionoption must be established.

Estate planning involves many issues that should beresolved based on a physician's personal inclinations.Matters that physicians need to consider include the following:deciding whether to establish irrevocable lifeinsurance trusts to minimize estate tax, analyzing variousoptions for distribution under an employer's retirementplan, and allocating gifts to charities and individualsto reduce the potential estate tax.

Maximize the income tax benefit of charitable giftsby using appreciated securities. If you wish to maintainan invested position in the security, use cash to repurchaseit, which avoids the long-term capital gains tax.Since securities step up in basis at death, personal giftsshould be made with cash as opposed to appreciatedsecurities. Qualified legal advice is a must with estateplanning, particularly in the area of gifting, so be sure toconsult with an advisor first.

While the practice of medicine can offer solid economicreimbursement, it is important to properly balanceassets according to the various stages of a physician's life.Proper planning helps eliminate unnecessary economichardships and assure a comfortable lifestyle.

Patrick J. Flanagan is an independent financialplanner based in Point Pleasant, NJ. He has beena contributor to Physician's Money Digest since itsinception, and he offers financial planning, insurance,and investing services. He welcomesquestions or comments at 800-969-0899.

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