As advisors to young physicians across the country, we are often asked, “What is the most important thing I should be doing financially in the first years of practice?” Our answer is simple: “You need to build a solid foundation.” The application of the concept of a foundation is different for each physician.
However, as with patients, we often see very common symptoms and can make some generalizations about what is involved in creating a financial foundation for many young doctors.
Foundation building for young physicians depends on where they are in their personal lives (single, married, kids, etc.). Also, it can and needs to begin before the physician even leaves training because, like most things, establishing the right habits are key to building a financial foundation.
Most young physicians will see a significant increase in their incomes when they begin their practice. Up to this point, they have typically been living paycheck to paycheck, and a jump in income by five-fold or more can be a bit euphoric. With a “spend now and plan later” attitude, many young physicians will indulge a bit and make large purchases. Often taken too far, they find themselves once again living paycheck to paycheck. The attitude then becomes: “Once I make partner in a few years, I’ll address my financial plan…”
At the outset of their medical career, physicians in training are told “first, do no harm.” As advisors to young physicians at the outset of their financial careers, we give similar advice: “First, build your foundation.” That foundation includes protecting your future income and earning potential with disability and life insurance.
Young physicians’ greatest asset: future value of income
The most important factor in the building of a foundation is to protect what you have already built—before tackling the endeavor of building wealth. For many young doctors with little savings and often large student loan debt, their question is often, “What have I built? I am in severe debt!” The answer is that you have actually built a significant asset that needs protecting— the value of your future income.
Given the significant investment made to become a practicing physician, it should not be surprising that the value of your future income is also significant. For example, let’s say an orthopedic surgeon is offered a starting salary of $300,000, including benefits. Assuming this physician plans on practicing for 30 years (and 3.5 percent inflation), the present value of this annual income is $5,517,613, even if that physician never makes more than $300,000 per year, including inflation. Most people would think an asset this valuable is worth protecting.
What is needed to protect this asset? That depends on who they are protecting it for—for just themselves or for others dependent on them. For both types of doctors, they need to protect their ability to earn this income in the future. That is why disability income insurance is so critical—and is tool number one for young doctors to implement.
Disability income insurance conceptually is straightforward: If you become disabled, it will pay you. For young physicians (and doctors typically into their 50’s), this protection is critical because they have not accumulated the savings to support themselves and their families in case they cannot work as a doctor.
When looking at purchasing individual disability income insurance, determine what your true need is, not how much you can get. If monthly expenses are $3,000 a month, but an insurance salesman says you can get $5,000 a month in coverage, you are over-insuring yourself. Though having more coverage than what’s needed is not always wrong, controlling expenses in order to build the proper foundation is more important. Physicians will also want to make sure they’re purchasing adequate coverage.
The definition of disability should be occupation-specific, thus a physician cannot be forced to go back to work in another field. A residual or partial disability rider is another important part of the contract, in case the physician suffers a partial disability and can still work part time in their occupation. Typically, there has to be an income loss of 20 percent or greater.
Also, in the event of a long-term disability, having a cost-of-living rider as an inflationary protector is important. Young doctors should also be aware of what is available through their employer. More often than not, a hospital will provide group disability income insurance at no or minimum cost to the physician. The issue with group insurance is that it covers the masses. This can lead to coverage that is not occupation specific, has short benefit periods, does not have a partial or inflation protection rider, and can be cancelled at any time. Though that is not the case with all hospitals, generally group insurance is not adequate for a young physician.
Often, there are discounts in place that are connected to the hospital that allow a young physician to purchase individual disability income insurance at a discount, or with unisex rates. The unisex rate option is the most ideal and has the greatest impact on female physicians.
For young doctors with financial dependents—typically children or spouses, but sometimes other family members—the focus needs to be on protecting future income value not only against disability, but also against death. This is why life insurance is tool number two that we typically recommend.
Much like disability income insurance, you need to first determine what your need is from a death benefit perspective to make sure you are being cost efficient. The way to determine your need is to decide what expenses would need to be covered. For example: mortgage, education funding for children, car loans and other debts, income support for spouse.
Young physicians in a position of purchasing life insurance should probably consider term insurance as their best option. Term insurance is inexpensive and provides a death benefit for a period of time (10, 20, 30 years). This does not mean term insurance is the only or best type of insurance; it is generally best for a young physician who has a specific need.
Permanent life insurance can be a very tax-efficient saving vehicle that provides tax-free growth and tax-free distributions if structured properly, and can provide great asset protection depending on your state of residence. For these reasons, permanent (cash value) insurance is often selected even by young physicians as a wealth accumulation and protection vehicle.