Physicians transitioning into practice tend to have two big questions for their financial advisors. The way physicians tackle those questions will have a long-term impact on their financial lives.
With many physicians transitioning into practice this time of year, I find myself educating my clients by answering the same questions on a regular basis. These questions make perfect sense as there are very few professionals who will ever have an overnight increase in their income of three to ten times what they previously earning! To that same point, there just aren’t that many resources out there providing guidance on how to handle this sudden increase in compensation. The two big reoccurring questions are:
1. As my income expands, how much should I be saving and where should it go?
2. How much house can I afford to buy relative to my financial situation?
The decisions that are made around these two questions can have a large impact on a physician’s long-term financial health, so it’s important to get it right from beginning! The easiest money to save is the money that you are not yet used to spending. To identify where money will be spent and saved, we recommend that a physician work through a detailed cash flow projection before their first paycheck as an attending. This allows them to get a feel for what their income and expenses will look like, before their first paycheck hits the checking account.
To answer question 1, we generally recommend a physician set aside a MINIMIUM of 20% of their gross and to AUTOMATE this savings rate to an account outside their local savings and checking account. Early on, the money that is set aside in this separate account will be used to pay down high-interest debt (anything with a rate higher than 7-8%), save for a down payment, pay back family, etc. The key is the automatic transfer to a separate account, and that their standard of living is not consuming more than 80% of their income. Over time, many of these “catch-up” items will go away, but the habit will remain and that money can now be committed to longer-term goals.
Each individual situation will dictate how best to allocate the 20% savings rate, but those are decisions that a financial professional can assist you with. What they cannot do is create a debt-reduction or retirement savings strategy if there are no resources to work with in the first place! Do yourself a favor and commit to a high savings rate, before you are accustomed to spending the money. This habit will be the first step in a financially successful career.
How much house one can afford really ties itself well into the answer for question 1, as a mortgage that is too big for one’s income, will make it nearly impossible to commit to a 20% savings rate goal. Unless one has an above average amount of student loans, you might consider purchasing a home ranging from 1.5-2 times your combined family income. If the home purchase exceeds these targets, it becomes quite challenging to allocate funds to your other monthly priorities.
The second point I always like to add when discussing home buying with a new-to-practice physician, is that there is a lot of value in renting for six to 12 months while joining a new practice. You want to be sure that you can see yourself in the position long-term, and that your spouse/children are happy in the area. Having to sell a home shortly after the purchase can prove to be quite costly, so please don’t rush into a purchase before you are certain that you are committed to the area for the foreseeable future.
Success in these two areas is critical for one’s long-term financial health. There are also many other financial considerations that should be addressed when transitioning into practice. Click here to download a “welcome to practice” checklist to help guide the process.
Michael D. Paulus, CFP, CLU, ChFC is a Financial Advisor with North Star Resource Group and offers securities and investment advisory services through CRI Securities, LLC. and Securian Financial Services, Inc., Members FINRA/SIPC. CRI Securities, LLC. is affiliated with Securian Financial Services, Inc. and North Star Resource Group. North Star Resource Group is not affiliated with Securian Financial Services, Inc. but is independently owned and operated.
Please consult a financial professional for specific advice in relation to your individual circumstances. This should not be considered as tax, specific loan repayment for an individual or legal advice. This is not a recommendation of any strategy or product in particular. 1511686/DOFU 6-2016