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Practice Administration

Financial Rules of Thumb for Young Dentists

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Student Loans 

In order to be able to retire before age 70 these days, the first order of business is to pay off your student loans. Student loans should be fully paid off as soon as possible. In fact, you should pay off your student loans before you take out any other loans. Period. During this time, it is also important to not accumulate any credit card debt either. This way, once your student loans are paid off, you start out clean. You’re going to need to live like a student for another three to four years after you graduate if you went to a public dental school, maybe six to seven years if you went to a private school, but you have to get your student loans paid off. If you don’t pay them off as soon as possible, your ability to save throughout your career will be severely inhibited. I cannot stress this message enough; get the student loans paid off.

 

Savings 

If you can save up to 10% of your income between ages 30 and 40, you’ll be doing better than most. Paying off loans should be prioritized over generating savings in the early part of your career, so if you are able to save 10%, consider it a bonus. As you get a little older and more established, you should try to save about 15%, but remember: savings comes after you’ve paid off your student loans.

 

Your practice loan should also come after you’ve paid off your student loans. If you want to take on a practice a couple of years before you finish paying off your loans, that can be alright. It can be risky, but your practice loan is going to be good for you in the future, and is a productive loan. However, do NOT take out a home loan before you take out a practice loan. Having a home loan before a practice loan will put too much pressure on you the first several years of owning or working in a practice. If you don’t envision yourself buying or starting a practice, you may take out a mortgage, but make sure you have no credit card of student loan debt at the time, as both of these will factor into your mortgage rate.

 

Income Ratios 

Capital to Income Ratio 

There are several important ratios throughout your career which relate to different aspects of your income and savings. Generally speaking, your income between age 30 and 45 is going to be somewhere between $120,000 and up to $500,000. Capital-to-income ratio is one important set of numbers to keep in mind. By age 40, it would be ideal to have about double your regular income as savings. This means that if you’re earning $200,000 per year, you should have about $400,000 saved, but very few doctors are able to accomplish this. By age 45, you should have a 3:1 capital to income ratio ideally, but again, this will be pretty unusual for most.

 

Mortgage to Income Ratio 

Mortgage to income ratios are another key number to talk about. You should never take out a mortgage that is more than double your family’s net income. This means that if your family as a whole is earning $250,000 per year, you should not take out a mortgage of more than $500,000. Sure, you can buy a million dollar house if you can put down $500,000 at age 40, but that is not a realistic number early on in a career. Remember that the banks will loan you much more than that, but, realistically, double your income is the limit. Anything more will severely inhibit your ability to save anything later in your career. If you do have a home, perhaps the most important factors to keep an eye on are house/home upgrades. You will always have property taxes, insurance, and general repairs, but upgrades can be costly and drastically cut into your savings.  Upgrades include everything from outdoor landscaping to new/renovated kitchens, and can cost upwards of $100,000 each. That severely inhibits your ability to save; if and when you do buy a home, buy one that doesn’t need immediate upgrades, and future upgrades are going to be minimal. When getting home upgrades, it can be tempting to get into HELOCs, or Home Equity Lines of Credit, but these can be very dangerous and a slippery slope. Any upgrades that you do should be paid in cash; if you can’t afford them in cash, don’t get them.

 

Practice Loans 

Be very careful with your practice loans. Again, generally speaking, it is a lot better and safer to buy a small or midrange practice than a large one. A large practice puts a lot of pressure on you and your wallet, and can make everything from the initial investment to staffing to turning a profit more difficult than it needs to be. I’m not saying don’t buy a big practice; sometimes they’re a great deal and everything is set in place for you already. This opportunity can allow you to maintain a nice lifestyle and income while saving a lot, but it’s more difficult to manage and maintain than a smaller practice would be. Wealth generation normally happens much quicker in a small to medium practice.

 

Car Loans 

I would suggest never taking out any kind of loan for a car. You should always be paying cash for cars no matter what age you are. If you have the money, buy them; if you don’t have the money, it probably is not worth taking out a loan.

 

Investing 

It is important for young people, and young doctors especially, that they get off on the right foot. Stay away from anything related to insurance, and from traditional brokers; their fees and their commission are too high. If you’re going to use an advisor, make sure that it’s a fee-only advisor. Certified financial planners are usually the best options to use, but even they can get you into trouble with some of the funds that they choose.

 

Also stay away from something called “Active Management”, always use Passive Management tactics. Active management means trying to time the market, but it does not work. It’s been academically shown to not work. Remember these two simple rules: if you use an advisor, fee-only, and no using active management strategies. Safe alternatives to active management strategies include the use of index funds, which are passive strategies.

 

Don’t have a lazy portfolio; balance your portfolio once per year. Lifecycle funds, or “target date funds”, automatically rebalance every year, and they cover the whole market; academically proven to be the safest way to save your money. Think in terms of fee-based, passive index fund investing if you’re going to use an advisor.

 

Life Insurance 

Always use term life insurance, not whole life, universal life, or permanent life insurance. Whole life is an investment that gives you a really horrible return over time because of hidden commissions and fees. Buy term life from ADA, USAA, TIAA-CREF, or any other company that has good term life plans. They will always try to sell you whole life, universal life, or something similar with another name because it will help them make big commissions, but these will again will inhibit your ability to save.

 

For term insurance, it is advisable to have 12x your family’s income as insurance. For instance, a dentist earning $200,000, will need a $2.4 million dollar insurance plan. Remember though, you can subtract out any savings from your required plan; so that same dentist, if he has $200,000 in savings, will only need a $2.2 million dollar insurance plan. As a young dentist, probably $2-3 million is appropriate to have in term life insurance, and it is cheap enough to easily maintain. For the doctor’s spouse, it would be advisable to go with 12x their income.

 

College Funds 

Starting to save money or fund college for your children may be appropriate ONLY after you’ve met the following thresholds:

  • Student loans are paid off
  • Retirement savings is 10%+
  • Your savings to income ratio is correct
  • Your mortgage to income ratio is appropriate
  • You’re paying cash for cars
  • You don’t have any HELOCs or credit card debt

 

If you don’t meet all these benchmarks, it might be best to think twice about funding college for your children, and instead having them take out student loans. I know that this is expensive, but your retirement is more important at any age than funding for college. There are no loans for retirement, and it would be worse to force your kids to eventually have to take care of you because you run out of money for retirement; you do not want to force your kids or yourself into that situation.

 

Conclusion 

As soon as you graduate from dental school, you’re going to have a pile of student loan debts. It will be of paramount importance that you pay off these debts fully and completely before you can think about saving in earnest. Once your student loans are paid off, you can think about acquiring practice loans, and after that, home loans, but that order should be preserved for simplicity and monetary reasons. Keep your capital to income ratio at a healthy level, make smart, safe investments, and find the right insurance plans, and your transition to the middle and later parts of your careers will be smooth and manageable.