Retirement planning 101
Dermatologists and financial experts share their top tips and strategies for creating and maintaining a healthy retirement plan.
By Allison Evans, Assistant Managing Editor, September 1, 2023
Pulse check: Have you started saving for retirement? How much money is enough? These are seemingly simple questions with complex answers. After all, you’ve spent years of your life in training to become a dermatologist, not a financial advisor. Having enough money to support oneself in retirement is the number one concern across every age group of physicians, according to a 2018 report on U.S. Physicians’ Financial Preparedness.
With the mounting costs of medical school, raising a family, or starting a business, saving money may seem like something to tackle “in a few years,” but the small steps you take now can have a significant impact later in life. “The day you start in practice, you should be thinking about retirement,” said New Jersey dermatologist Joseph Eastern, MD, FAAD, who has written and lectured about retirement planning.
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Key takeaways from this article:
Having enough money to support oneself in retirement is the number one concern across every age group of physicians, according to a 2018 report on U.S. Physicians’ Financial Preparedness.
The earlier you can start putting money into a retirement plan the better, but you still have to be able to live. However, the benefit of putting money aside as early as you can do it in a reasonable way is what’s called the magic of compounding.
A quick way to make the decision on whether to save more or pay down debt is to review the interest rate on your debt/loans versus the rate of return you reasonably believe you could get leveraging the funds elsewhere.
While there is no magic number that works for all physicians and families, some financial planning experts recommend saving about 20-30% of your income toward retirement, which not only will contribute to sizeable savings, but can also potentially lower your taxable income.
There are a variety of plans to be familiar with including 401(k)s, IRAs, mutual funds, and brokerage accounts, each with unique benefits and qualifications.
As physicians save for retirement, don’t forget to save for other important goals. Keep an emergency fund stocked with at least three to six months’ salary in case of an emergency, although this number may be different depending on how a particular physician lives.
Earlier is better
The earlier you can start putting money into a retirement plan the better, said Vasilios “Bill” Kalogredis, JD, a West Chester, Pennsylvania health care attorney and chairman of Lamb McErlane’s Health Law department. “That’s the general rule in my opinion. Again, but doing that you still have to be able to live; it’s a balancing act. The benefit of putting money aside as early as you can do it in a reasonable way is what we call the magic of compounding. Even 30 years, putting away $20,000 per year and earning 5% to 6% can grow to a lot of money versus doing that for 10 years, which is going to grow to be a whole lot less money because you’re not earning on your earnings.”
“Don’t make financial planning so complex that it’s too hard to get started or too hard to follow or understand, but don’t make it so simple that it can’t realistically achieve its goals. Strike a balance and don’t let perfect be the enemy of good enough,” said Jason P. Wainscott, JD, in a 2017 issue of DermWorld.
While saving early is best, the way in which physicians save is not a cookie-cutter process, said Kalogredis. “At the end of the day, if you start saving in a retirement plan, which compounds or grows in a tax-deferred way because you’re not paying taxes each year on the retirement money as it grows, you’re going to be surprised how quickly it grows to a decent number if you’re wise in your investments,” he said. “But every person needs to run through their situation and goals. It’s different for everybody.”
Debt vs. saving
Many dermatologists start out with burdensome education loans and additional debt. It’s a difficult decision regarding whether to pay down debt before saving or add extra money to a savings and/or retirement plan. A quick way to make the decision on debt is to review the interest rate on your debt/loans versus the rate of return you reasonably believe you could get leveraging the funds elsewhere, Dr. Eastern said. For example, if you have any outstanding student loan with a low interest rate between 3-4%, it may make sense to make minimum monthly payments while investing additional funds in your portfolio (if you expect a higher rate of return) or in building your practice.
For John Kelly, CLU, CLTR, financial advisor at OJM Group, the first rule of thumb is “if you are employed and the employer has a 401k plan with a matching program, scrounge up whatever money you can come up with to make sure to take advantage of every penny of the match.”
There are dozens of other factors to consider, like whether you are okay carrying debt or whether it stresses you out, said Adam Braunscheidel, CFP, wealth advisor at OJM Group. If it stresses you out, pay it off as soon as possible, then concentrate on saving. Even saving just a little can pay off big down the line. “It also fosters a process of habitual saving and planning, which will carry over once you’ve paid off much of your debt,” Kelly added.
If you have credit card debt, Dr. Eastern recommends always paying that off as quickly as possible because of the 18%-20% interest rates. “If you’re able, you may want to make double payments on your mortgage and get rid of as much debt as you can as early as possible.”
“While people often defer saving in place of school debt, funding kids’ college funds, and other expenses, there are tangible tax benefits to contributing to a retirement plan,” Dr. Eastern said. “Pay yourself first before you start budgeting for Taylor Swift tickets,” he added. “Your funds grow tax free until you withdraw and you’re presumably in a lower tax bracket.”
How much to save
“Many doctors have a false sense of security about their money; most of us save too little,” said Dr. Eastern. “We either miscalculate or underestimate how much we’ll need to last through retirement. We tend to live longer than planned, and as such we run the risk of outliving our savings, and we don’t face facts about long-term care. Not nearly enough of us have long-term care insurance, or the means to self-fund an extended long-term care situation.”
While there is no magic number that works for all physicians and families, some financial planning experts recommend saving about 20-30% of your income toward retirement, which not only will contribute to sizeable savings, but can also potentially lower your taxable income. While it’s tempting to focus on a formula, it’s beneficial to meet with a financial advisor and crunch those numbers for each person’s particular situation. There is no one-size-fits-all plan, Braunscheidel and Kelly said.
To arrive at any sort of reliable ballpark figure, said Dr. Eastern, you’ll need to know three things: how much you realistically expect to spend annually after retirement, how much principal you’ll need to generate that annual income, and how far your present savings are from that target figure.
“At the end of the day, if you start saving in a retirement plan, which compounds or grows in a tax-deferred way because you’re not paying taxes each year on the retirement money as it grows, you’re going to be surprised how quickly it grows to a decent number if you’re wise in your investments.”
For Kelly, the first thing to know is how long a physician has until they are done working. Is the physician burned out and ready to retire at 55 or is it a physician who loves what they’re doing and wants to keep working until they can’t? “Having a tentative retirement date will allow a financial advisor to better plot out your current and future saving strategies.” Additionally, it’s important for dermatologists to consider the lifestyle they want in retirement.
“A lot of times when I ask somebody how much they’ll need for retirement, they’ll tell me, ‘I want to live my lifestyle that I have today.’ Sometimes they want more,” said Kelly. “We just start from where they are today and project out what that will provide if they maintain their current amount of savings. Sometimes, clients are comforted by this projection and realize they are better off than they thought. But many times, there are some hard questions to answer and decisions to be made. You can’t really determine how much any person will need for retirement until you crunch all the numbers,” he added.
According to Physicians Thrive, a practice management company, the 50/30/20 rule is key. This means that 50% of your after-tax income should be spent on living life, which covers debts, business expenses, bills, insurance, utilities, etc. Savings should comprise 30% of your income if you want to be in a prime position for a successful retirement. Every time you earn a dollar, 30 cents should go directly into a savings, investment, or retirement account. After the bills are paid and money has been put into savings, the last 20% is a discretionary fund to be used as you like.
“How do you want to live when you retire? How do you trade that off and balance it with how you want to live today,” Kalogredis added. “For a high-level overview, there are a variety of customizable retirement calculators online to see where you stand in relation to your goals.”
The backdoor Roth IRA
If a physician makes more than the annual Roth income limits (a very likely scenario), a backdoor conversion could be a financially savvy decision. According to Physicians Thrive, it’s an ideal option for physicians who expect their income to rise as they advance in their careers. This is because you pay taxes when you convert your income, so you don’t have to worry about paying a larger percentage if you move into a higher tax bracket as your career grows. Once converted, the money in the Roth account grows tax-free. Another benefit of the Roth IRA is that, unlike traditional IRAs which require you to start making withdrawals by the age of 70.5, you never have to withdraw from a Roth.
A Roth IRA conversion is a two-step process: First deposit money into a traditional IRA as a non-deductible contribution. Then move the money from the traditional IRA into a Roth IRA using a Roth conversion. While the conversion can be done on one’s own, it’s recommended to seek financial advice before moving forward.
Keep in mind that there can be only one Roth conversion per year, so attempt to convert as much as possible in one large sum. Since the money grows tax-free, financial advisors suggest that you convert the money at the beginning of the year to allow it to compound for a longer period of time. Also, remember that since Roth IRA requires you to pay tax money up front, dermatologists will have to pay taxes when the conversion is made. However, a Roth IRA allows your money to grow untaxed for as long as you’d like. You can also make tax-free withdrawals throughout your retirement or pass the money on as part of your estate.
“Having more money doesn’t make a person more financially literate. The reality is that often, the more money someone earns, the harder it can be to correctly manage that money,” said Braunscheidel.
After toiling away through medical school and residency with very little pay and often high amounts of debt, it can be tempting to treat oneself once fully employed as a dermatologist and making good money. “Sometimes, this can result in spending 110% of what they make,” Kalogredis said. This is a process known as delayed gratification. “Spending big isn’t necessarily a negative thing,” he added, “as long as dermatologists are doing it with their eyes open about how it impacts their financial planning.”
“Doctors always think they can manage their money by themselves,” Dr. Eastern said. “That’s like telling a financial planner to do their own dermatology. It’s not our profession; we’re not trained in it, so I always recommend getting outside help.”
How much do you need in retirement?
Often, financial advisors use the following rule of thumb: Plan to spend about 70% of what you are spending now in retirement, said Eastern, who added that he believes that percentage is nonsense. “While a few significant expenses, such as disability and malpractice insurance premiums, will be eliminated, other expenses, such as travel, recreation, and medical care will increase. I always advise people to assume they’re going to be spending as much in retirement as they’re spending right now.”
Many financial advisors use the 5% rule, Dr. Eastern added, meaning you can safely assume a minimum average of 5% annual return on your savings. If you want to spend $100,000 per year, you’ll need $2 million in assets, or for $200,000, you’ll need $4 million.
Access a step-by-step guide for physicians retiring from practice.
As part of an employed physician’s benefits package, most workplaces offer some kind of retirement savings plan — typically a 401(k), 403(b), or 457. “If you’re an employee and your employer has a retirement or pension plan, review it closely,” said Kalogredis. “Understanding the tax and savings advantages will assist you in determining what else you need to do outside of your employer-sponsored plan to ensure you hit your goals.”
Typically, an outside company will manage the money in these accounts by investing it into stocks, bonds, and mutual funds that will help it grow over time. Often, employees are directed to enroll in age-based or target-date funds to automate the level of risk for the employee. The farther away an employee is from their target date, the more risk the employee can shoulder. As the employee ages and approaches a target retirement year, the level of risk is automatically adjusted.
Keep in mind that the IRS limits how much you can put into these plans. For 2023, the elective deferral limit is $22,500, which is the maximum amount a person is allowed to voluntarily defer to their 401(k) for the year (excludes money from employer matching). Adults 50 years old and older are allowed $7,500 in catch-up contributions in 2023. The IRS also imposes a limit on all 401(k) contributions made during the year. In 2023 the limits are $66,000 ($73,500 for people 50 years old and older). This includes all your personal contributions and any money an employer contributes. Highly paid employees may have some additional limitations as well.
While employer-sponsored plans are often the simplest way to start saving, these retirement plans will typically only account for 25% of your retirement goals, as income tax will need to be paid upon withdrawal of the funds. “Outside of an employer-sponsored program, a physician may be able to open an individual retirement account (IRA) or a brokerage account to help establish additional savings patterns and habits,” said Dr. Eastern.
As many people thinking about retirement are looking for the most tax advantageous way to save and, later, make withdrawals, a Roth IRA is one way to get this tax benefit, as the money grows tax free and future withdrawals are tax-free as well. Additionally, there are no required minimum distributions as exist in a traditional IRA and other retirement plans like a 401(k). However, often high earners like physicians are disqualified from opening Roth IRA accounts.
There are, however, ways to reap the benefits of a Roth IRA, such as a backdoor Roth IRA, which is a way of converting a traditional IRA to a Roth IRA. This allows you to pay taxes when you convert your income, so you don’t have to pay a larger percentage if you move into a higher tax bracket as your career grows. (View the sidebar on backdoor Roth IRAs.)
“If you’re already participating in a retirement plan, you’re going to be limited with IRAs,” noted Kalogredis. Some people use Roth IRAs and different retirement plans that involve after-tax money so you don’t pay tax when you withdraw from it. “I would say talk to your accountant, talk to your financial advisors, and have them run the numbers for you. In some cases, an IRA may make sense, and in others it doesn’t.”
Advice from a retired dermatologist
“For my entire working career I maximized my retirement contribution every year and that was my biggest priority,” said dermatologist Thomas Kruse, MD, FAAD, who is now retired in Arizona.
When he started his solo practice, Dr. Kruse had a pension and profit-sharing plan as a professional corporation and then after he retired, he rolled it into an IRA. “Starting early is the key to let the money compound over the years tax free,” he said.
When deciding which types of investment funds to allocate money to, Dr. Kruse recommends that dermatologists be aware of fees. “I’m a big fan of no-load index funds. Try to keep annual management fees below 0.05%.” Physicians should also be aware of advisor fees. Some advisors charge a percentage while others charge a fixed amount. The difference can add up to tens of thousands of dollars over the years.
Another tip from Dr. Kruse is to defer starting Social Security for as long as you can. “There’s a technique in which you can file and then suspend and defer receiving Social Security up to age 70, which for me, compounded at 8%.”
“I had an advisor once tell me that as a physician I was going to make good money, so I didn’t need to hit homeruns with my investments. If you start early, you won’t need to make risky investments to reach your retirement goals,” said Dr. Kruse, who recommends sticking with a broad base of diversified funds. Dr. Kruse has taken a relatively hands-off approach to updating asset allocation. “I think once a year is just fine, which is going to work out better than trying to micromanage the assets,” he said.
Nobody likes to pay taxes, Dr. Kruse said. “I think over the years I may have put too much emphasis on the tax consequences of selling to the point where I should have sold some things and didn’t. Sometimes it’s better to take the profit while you can and pay the taxes.”
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Beyond retirement plans
While saving specifically for retirement is essential, it is only a segment of a comprehensive wealth management plan. “There are limits to how much you save tax free, but that shouldn’t stop you from saving more than that,” Dr. Eastern said.
As physicians save for retirement, don’t forget to save for other important goals. Keep an emergency fund stocked with at least three to six months’ salary in case of an emergency, although this number may be different depending on how a particular physician lives, noted Braunscheidel.
“There are always one-time expenses, and especially as you age, health can turn on a dime,” Dr. Eastern said, “so you’ve got to plan for those things.”
“It’s important to have some other money that you could tap outside of your retirement plan, because if you try to take money out of retirement plan before you reach at least age 59 and a half, you not only have to pay income tax to take it out, you may have to pay penalties,” said Kalogredis.
“In this current environment, it may be advantageous to have more cash on hand than two years ago when you were earning essentially nothing on that cash,” said Braunscheidel. “It probably didn’t make much sense back then to have extra cash above and beyond the emergency fund, but now you can get 4.5% on a money market fund, so it’s easier to be okay with keeping a little more cash on hand.”
A retirement plan is a living document, Kelly and Braunscheidel said. You should be consistently revisiting your documents and making sure you’re on track. Dr. Eastern, who isn’t quite retired yet, revisits his financial strategy once a year with his financial advisor. “Once I retire, I’ll probably check it more often — maybe every six months.”
Once retirement and emergency funds are well established, then physicians can start saving for other goals, such as college funds for kids, building a house, traveling, etc., Kelly added. “The good news,” Kalogredis said, “is that dermatologists typically have the opportunity to put themselves in a good position, but it can’t be done without thinking and planning.”