Having too much money seems like a good thing, right? Well, yes, up to a point. A cardinal rule of financial planning is to have three to six months of living expenses in the bank as emergency funds.
But if you have money – in addition to the emergency fund balance – in a low-interest savings or checking account, it is wasting – when it could do a lot more. for you. We see this most often with docs at the start of practice. They often follow the sage advice on keeping their spending level stable as they move from a resident’s or scholar’s salary to a practicing physician’s income.
So what’s the deal with this advice? Young doctors are happy to see their bank account balances increase as their $ 60,000 “ramen noodle” income increases to $ 300,000 per year of “lobster” income. But often they don’t realize the mistake they make of leaving money behind without a solid financial plan to invest in.
How to start allocating cash for long-term financial health
If you wade through a pile of cash, you are not alone. As far as the problems go, the money recovered is nice to have. However, letting it stagnate is not a way to build a financial future. Fortunately, the solution is simple. Early in their careers, physicians should develop a reasonable savings and investment plan that they can easily follow.
Here are 10 ways to make the most of your extra cash, listed in approximate order of importance.
Keep your emergency account stable. Having an adequate emergency fund – three to six months of living expenses – helps you sleep better at night. This amount will vary from person to person depending on their personal circumstances and their comfort level about the amount of money they might need in an emergency.
But there is a catch – actually two. First of all, do not put any extra money into this account beyond the amount you set. Why? Most likely, it will be in a savings or money market account, earning less than 1% interest. You’d better invest the extra money in more profitable vehicles. Second, do not withdraw money except in a real emergency.
Save for planned expenses. Beyond emergencies, you will need another liquid cash account for large expenses that you can anticipate, such as tuition at a private school, roof repairs, replacing a car, or long-awaited vacation. You can plan for these expected costs with what we call a “save to spend” account. It is important to note that this savings or money market account should be completely separate from your emergency fund.
Pay off high interest debt. If the interest rate on your credit card debt is in double digits, pay it off quickly. Also, see if you can refinance other loans, like 6.8% student debt. If you can’t refinance at a significantly lower rate, and you don’t plan on using Public Service Loan Forgiveness (PSLF), add it to your quick repayment stack.
Maximize your retirement plan. Fully fund workplace pensions with $ 19,500 per year ($ 26,000 if you’re 50 or over in 2021.). If you are under 40 and your employer offers a Roth deferral, you may want to fund some or all of the amount with that Roth after-tax money. Why? If your tax rate increases over time, by paying the deferral tax now at the lower rate, you avoid paying a higher tax rate on the distribution afterwards.
Fully fund your HSA account. Do you have a high deductible health plan? Lower your taxes by funding your pre-tax HSA account up to the maximum allowed: $ 3,600 for individuals and $ 7,200 for families. Plus, if you pay your medical bills out of pocket, you can invest in the vehicles your HSA provider likely provides, allowing the account to grow tax-free.
Take advantage of the Roth IRA backdoor method. Are you and your spouse under 50? If so, you can each fund a tax-free Roth IRA stolen account with $ 6,000 per year. Even better if you are more 50, you can each contribute $ 7,000 per year.
Pay off debt at low interest rates. I rarely recommend paying off low interest debt. However, if you’re very averse to debt, paying off your mortgage or car loan quickly can relieve stress – and it’s hard to put a price on your well-being. No financial advisor is qualified to assess the emotional impact of paying off these loans quickly, so speak up if you think this option works for you.
Finance your retirement. Are you funding your retirement investment vehicles up to the maximum allowable amounts and still not saving at least 20% of your gross income? Open a taxable investment account and deposit the amount needed each month to reach at least 20% of gross income saved for retirement. Better yet, have the bank automatically transfer the amount from your checking account to your investment account each month. It’s a decision of less and more money saved and invested.
Save for college. If you have kids and are already adequately funding your retirement, consider creating 529 college account balances as a tax-free vehicle to help pay for college.
Think about whole life insurance. In most situations, I’m not a fan of whole life insurance, which some insurance sellers say is a great way to pay for anything from retirement, to funding education, to restoration of lost hair. However, if you’re in a high-paying specialty or living well below your means, there are some tax-advantaged features of whole life insurance that can make it an attractive option.
Here’s a bonus tip: Now that you’re no longer sitting on that pile of money, what’s the next step? It is important to set up an automatic investment every month so that you do not have to sit down again on extra cash and try to decide what to do with it. Organize monthly deposits to an investment account, 529 accounts, whole life insurance policy or whatever options you choose.
Don’t get too comfortable with cash.
Don’t let all of your extra money sit in low or no growth accounts, especially since the low interest rate you earn won’t even keep pace with inflation. Yes, you will first define the correct amount of cash in your emergency fund and “save-to-spend” accounts. But then, don’t waste time. Be busy financing all the other important savings vehicles that will help you achieve financial independence.
The above article is intended for informational purposes only. Please consult a legal or tax professional regarding your situation.
About Dr Joel Greenwald
Joel S. Greenwald, MD, graduated from Albert Einstein College of Medicine in the Bronx, New York, Joel completed his residency in internal medicine at the University of Minnesota.
He practiced internal medicine in the Twin Cities for 11 years before switching to financial planning for physicians, starting in 1998.
Joel’s wife is a radiation oncologist, which makes him all too familiar with the stresses of medical practice.
Knowing first-hand the challenges of practicing medicine, Joel’s passion is to make the lives of physicians easier by helping them ease their financial worries.