You know the difference between “diverticulitis” and “diverticulosis.” You can react instantly and calmly when faced with a Code Blue. But med school and residency never prepared you for how to invest your finances once your physician salary started kicking in, and you feel like you’re a first-year student again.
Although understanding the differences between 401(k)s and 457(b)s and when an IRA is better than a CD may sound like a foreign language, they’re no more difficult than the anatomy classes you already took.
The right guide can make beginner’s investments as easy as that course you skated through with the professor everyone loved.
Managing money requires more than a working knowledge of the various types of investments, though. Here, we’ll delve into the building blocks of financial success to help you make active choices about the optimal strategies for managing your assets.
Balancing Debt Reduction with Saving & Investing
How do you gauge your level of financial security?
Many people respond by saying they want to have at least three to six months of bills in their savings before they will feel comfortable with their money.
While it’s understandable that you feel financially “safer” having a decent nest egg in your savings account, many young professionals will want to balance the desire to save and invest with goal to reduce debt. This is especially true for physicians who often are burdened with significant student loans.
As long as you have any debt that accrues interest at a higher level than the average savings account or other investments, any extra funds you have may be better directed towards paying that balance off. Let’s look at the math that is involved here.
Saving Account vs. Debt Interest
As most physicians realize, interest rates change significantly over time. As we write this in May 2024, interest rates are the highest they have been in over 10 years. From 2008-2022, we experienced relatively low interest rates. In 2022, in order to combat inflation, the U.S. Federal Reserve raised interest rates repeatedly and – as of this writing in May 2024 – have not cut them yet. This leaves us currently in a relatively high interest rate environment – which benefits savings accounts and makes variable loan rates (like credit cards, some student loans, and variable rate mortgages) more expensive.
In this current market, the average high-yield savings account boasts an interest rate of 5% annually. This percentage is considered impressive, so you’ve decided to invest $10,000 into savings with your preferred financial institution.
$10,000 x .05 = $500
In this example, at the end of your first year, you will have made $500. Not too shabby!
Annual Credit Card Debt
But …
If, at the same time, you have $10,000 in credit card debt with an APR of 21% (the going rate as of April 2024), and you’re making the minimum payments, you might not be using your money as optimally as you think.
Here’s why:
$10,000 x .21 = $2,100
Of course, this number will vary slightly as your principal decreases, but with just minimum payments, that won’t happen too quickly. While you’re focused on building your savings nest egg, you’re paying more than four times your interest profit to the credit card companies.
Student Loans Matter, Too
When you sit down and work the math out for each of your debts, it becomes readily apparent which balances may need to be eliminated before you start a savings and investment plan.
Physicians frequently carry hefty student loans. Even at a low interest rate, this debt will accrue tens of thousands of dollars over the average 20-year payoff period. If your med school loan was about $100,000 and your interest rate is a reasonable 3% per year, what does that look like in the long run? Let’s check:
$100,000 x .03 = $3,000
Although that $3,000 will slowly bring your principal down, if you let the loan mature before you pay it off, you’re likely putting somewhere between $20,000 and $50,000 toward interest.
The same type of formula applies to your car loans and other interest-bearing debt. Don’t be misled by the temptation of cushioning yourself with savings if you still have debt to eliminate.
Protecting Your Assets as Investments
Just as important as paying off your debt is the goal of protecting your assets.
Assets are defined as any useful, valuable thing, person, or quality. In short, if it’s valuable to you, you should protect it. One way this goal can be accomplished is through various insurance policies.
Chances are, if you own a car, you’ve already been doing this as an adult. Automobile insurance is mandatory in almost all 50 states (except New Hampshire and Virginia), and it serves as a buffer between your fiscal responsibility for car and personal injury damage and your bank account.
Protecting the rest of your assets, from your license to your health, becomes crucial in your profession, as well.
Professional Insurance Protection
As a physician, asset protection in certain areas is a mandatory part of your job. Without these required policies, you will likely find it difficult to practice at best, or you may lose your license altogether at worst. Should anything happen and a claim is filed, your personal assets would be at stake.
Here are two of the most highly recommended insurance policies for career and financial protection:
- General liability: This type of liability insurance protects you and your medical practice from any third-party bodily injury or property damage claims that occur on your premises or from your operations.
- Professional liability: Also referred to as medical malpractice coverage, this insurance protects you from the financial risks of practicing medicine. Should a patient claim they were injured due to your negligence, this policy kicks in to minimize the damages you would be responsible for, including your legal defense.
Without these two vital forms of asset protection, the simple act of practicing healthcare puts you at risk of serious financial damage.
Lifestyle Insurance Protection
Other types of protection aren’t required, but they can be very important for your financial wellness. These four coverages can minimize your out-of-pocket expenses for everything from health to death:
- Life: Term, permanent, or hybrid insurance coverage limits can help those left behind after your passing pay for funeral expenses and the bills necessary to move forward without your income.
- Health: As a doctor, you, more than most people, understand the importance of prevention in health. Without insurance, you’re less likely to go for regular wellness screenings and tests that could catch dangerous medical conditions early. Expensive and unexpected issues (such as heart attacks or cancer for you or a family member) are costly to treat and can cause you to miss large chunks of work time, too.
- Disability: Short-term and long-term disability insurance is helpful when you can’t work due to covered illnesses or injuries. Once your coverage kicks in, the policy pays a percentage of your average paycheck (determined in your policy limits).
- Business interruption: It’s possible that your business could become a victim of extensive damage from fire, mold, or other covered events that cause the office to shut down. While the repairs are taking place, your insurance covers net income loss that pays for rent or lease, employee wages, loan payments, relocations, and taxes.
Funding these events out of your personal finances might be possible, but why should you have to exhaust your assets when there are insurance policies to help to handle those expenses?
With your debt paid off and the right policies in place, you can be in a great position to build a portfolio to reap the benefits of passive income.
Related: Doctor Benefits Starter Guide
Building Your Active Portfolio
You’ve tackled ensuring your finances are safe and allocated wisely. Investing your surplus income lets you begin to build an investment portfolio where your money works for you.
However, this asset allocation isn’t a one-size-fits-all plan. What works for one person may not be comfortable for you. It’s all about your level of risk tolerance and your financial goals.
Financial advisors who understand physicians’ unique needs and goals, like those at OJM Group, can help you decide which types of investments are in your best interest. Before you take action, though, it’s vital to understand the benefits and risks of investing.
Benefits and Risks of Investing
When it comes to building wealth, asset diversification ensures all your eggs aren’t in the same basket.
Since investments are never guaranteed to grow, you can help mitigate the risks of losing any overall investment when some of your portfolio accounts grow while others ebb.
Even the best investments have risk. The key to knowing which options are right for you is to get familiar with your risk tolerance (how much you’re willing to risk losing to potentially gain more).
To determine where to start with your investments, consider:
- Your financial goals
- The long-term realization you could see with a variable of compound interest
- Whether your goals are flexible based on financial security rather than a targeted number
Whatever your approach is, take into account inflation and other economic changes, the return on your investment timeframe, and any tax concerns to be mindful of selling investments to generate cash.
Different Types of Investment Opportunities
From tax deductions to the goal of financial freedom, there are many reasons you may be considering a portfolio. Each category, such as investing in the stock market or in crowdfunding opportunities, poses a potential risk and a potential gain.
General options your investment advisor may suggest to you include those of a medium level of risk and potential for slow but steady gains, such as:
- High-interest savings accounts: As discussed earlier, these can be a smart way to save up a nest egg that you can access easily without penalty should you need funds.
- Index funds, Mutual funds, and Exchange-traded funds (EFTs): Index funds, mutual funds, and ETFs fall in the portfolio category of stocks and bonds using passive investing. These strategies vary, but generally, they use a long-term approach that expects the market’s return to outperform the investment without timing the market’s volatility.
- IRAs: IRAs, both traditional and Roth versions, are personal savings plans that reduce or defer your income tax liability. (Learn more: Proactive Planning Can Reduce Taxes on Investments)
- Annuities: Annuities are written contracts, usually between a life insurance company and the funder (you). Through this contract, the funder makes premiums for a set term, and then the insurance company pays out regularly spaced payments later.
- 401(k): One of the most common investments, a 401(k) is a type of retirement plan provided to employees. Workers make regular contributions toward the 401(k) plan, which is then invested strategically to provide a profit for later years.
- Rental properties and other real estate investment: Real estate has been a sound investment for millennia. Today’s approach looks slightly different, involving criteria like rental property complexes, property management, real estate investment trusts (REITs) and “flipping” houses.
Regardless of the type of investment you choose, your capital gains and retirement account distributions will, eventually, be considered taxable income. Discuss tax-efficient solutions before investing to reduce the unexpected impact of these responsibilities when they occur.
When it’s time to determine the roadmap of your financial planning decisions, talk to various experts and, ultimately, make the investment options that are best for your goals and situation.
Diversification is important, and staying up-to-date on the changing asset classes is essential to making wise investment strategies.
Continuing to Make Smart Financial Decisions
The final step to investing in your financial health is to make wise decisions with your money. This can be challenging for medical professionals who, from a social standpoint, are often expected to live up to a higher standard of living.
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- Live within your means. Your cash flow may be higher, but that doesn’t mean you need to spend more. If you must buy material things or pay for trips, use cash when possible, and pay off debt quickly if its accruing is negatively impacting your financial situation.
- Stick to a budget. Know where your money is going, how much is coming in, and what ratio of spending versus saving or investing is best for your individual situation.
- Make smart decisions as to when to hire someone to help you, but always know where every penny of your money is and where it’s coming from.
- Hire experts to handle important planning elements, such as contract negotiators, investment advisors, and financial planners. Stay on top of your net worth and enjoy watching it grow as you make sound decisions with your money.
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Most importantly for your financial independence, work hard to stay healthy.
It may be challenging to eat well, exercise, and avoid stress with your busy schedule. However, the time and money cost of being sick later versus taking preventative wellness measures now is significant, particularly if you own a private practice and can’t earn an income without it.
Conclusion
Your journey to financial wellness starts with bringing in an income. From there, reducing debt and spending wisely should become a part of daily life, and your excess funds can be invested to build long-term passive income streams to last and take you into your retirement years.
Working with a financial advisor like OJM Group makes this process seamless and highly efficient.