Financial Literacy for the Newly Minted Physician: Part One

“Compound interest is the eighth wonder of the world. He who understands it, earns it…he who doesn’t, pays it.
-Albert Einstein
Your Life Of Abundance
The first thing to note about your life the day after you finish residency is that, despite the fashionable whining of your peers, yours has been an existence of relative abundance: You have likely never driven a nicer car, earned a higher salary, or had greater autonomy.
In 2014, the average resident salary one year out of medical school was $51,000 (Medscape). For perspective, in 2014 the median U.S. household income was $53,657 (U.S. Census Bureau). Given that the median household size was 2.54, a new, single intern fared better than most families that year (Statista).
With your first post-residency paycheck, you are suddenly thrust into the rarefied world of high earners. But as you’ve noted from every Wall Street Journal article bemoaning how hard it is to make it on $300k a year, being a high earner is not the same as being wealthy. With great income comes great vulnerability. Unbeknownst to you, that first paycheck tattoos a giant bull’s eye onto your forehead, visible and inviting to an entire financial services industry positioned to take advantage of your financial illiteracy. The choice is clear: You can either learn to manage your money or join your peers and pay dearly for your ignorance. Join me as we “bushwhack” a novel trail leading to financial independence for physicians.
Understanding Money
The key to understanding money is conceptualizing it properly. Contrary to popular belief, time (not money) is your most valuable asset. Money is a tool that can empower you to allocate your time based on your priorities and free you from the need to work.
As a newly minted physician, you will likely start out hungry and eager to earn. Adding one or more ingredients (kids, a spouse, a mortgage, deep bags under your eyes) over the ensuing decade can alter this calculus. Physicians 10-15 years out of residency tend to place greater value on autonomy and flexibility.
Looking at your upcoming career trajectory, if you save money and invest it, compound interest will work in miraculous ways to increase the size of your pile of cash over time. Eventually, with careful stewardship, your invested money can earn you more than your day job. If you take on significant debt, on the other hand, compound interest will chip away at your pile of cash in the form of interest charges, committing you to more years as an involuntary wage slave. A thoughtful financial plan can make the difference between a 10-15 year career that ends or is voluntarily extended on your terms, and a 20-30 year career that leaves you depleted and defeated.
The Goal: Financial Independence for Physicians
It stands to reason that saving and investing money brings you closer to freedom, while unchecked debt and expenses compromise that freedom. The goal of accumulating wealth is to reach the point down the road where your income (from savings and investments) meets or exceeds the costs of your lifestyle, so work becomes a choice rather than a necessity. This is commonly referred to as the state of financial independence.
Many people who achieve financial independence continue to work but have the luxury of choosing the type and amount of work on favorable terms that accommodate their lifestyles. Some continue to practice medicine in a less remunerative form, such as providing care for the destitute, or in a part-time capacity to pursue travel, athletics, child-rearing, artistic endeavors or philanthropy.
On that future day where you have accumulated sufficient funds, you will be in the enviable position of possessing “Free-you” money. This will enable you to turn down work (clinical or otherwise) that is not meaningful or intellectually stimulating. It also means weathering the vagaries of life (e.g., job loss, illness or injury, caring for elderly loved ones) with less stress than peers living check to check.
How do you achieve financial independence? Live far below your means, invest the difference, and put your money to work. The following are commonly encountered scenarios to help you score victories and avoid rookie mistakes that might lead you astray from the path to financial independence.
New Expenses: Should I buy a house and new car out of residency?
It’s not cool to rip off an old person, yet every dollar you spend now is Young-You borrowing from Old-You. Think carefully about what you spend on, especially big ticket items.
The newly minted physician is in an ideal position to commit mistakes with significant long-term financial consequences. Having mastered delayed gratification while non-medical peers earned income, there is understandable temptation to purchase a home or new car to make up for lost time. These decisions should not be taken lightly. With a bit of forethought, you can avoid common pitfalls.
Take the example of a new car, which in economics represents a classic depreciating asset. Driving a new car off the lot instantly loses 11% of its value, and each subsequent year that value decreases a further 15-25% per year. On average, five years after leaving the dealership, your car is worth 37% of what you paid for it (Edmund’s). Most of us would not think to invest in an opportunity that, on average, loses 2/3 of its value in 5 years, yet we don’t stop to think that a new car has this effect on our finances. A reliable, late-model, used car with excellent fuel economy can handle your needs just as well, and investing the difference will bring you closer to financial independence.
A house purchase is more complex. There is a strong psychological bias toward home ownership in the U.S. (As a homeowner, I can attest to this susceptibility firsthand.) But does it make sense from a rational financial standpoint? Realtors argue that the pleasure derived from homeownership justifies the cost, while the counterargument that the opportunity costs of foregoing investment and the inability to access the funds in your home (loss of liquidity) are huge liabilities.
To act as devil’s advocate, here’s a link to a thought-provoking blog post comparing the costs and benefits of renting (and investing the would-be down payment) against home ownership assuming a fixed-rate, 30-year mortgage. The author concludes that an investment portfolio in low-cost index funds would be worth significantly more than an appreciated home at the end of a typical 30-year mortgage period.
There will inevitably be trade-offs to consider. For those with kids, it may make sense to spend more for a small house in a great public school district rather than spend less for a bigger home but pay for private education. Since home prices mostly keep pace with inflation, the asset you end up with by the time you hit the empty nest stage will likely maintain resale value sufficiently to preserve your portfolio. In contrast, money spent on private education does not earn interest. The value of providing a parochial education or meeting special educational needs via private school may alter the math in your unique situation.
An additional consideration is that the three greatest expenses within our control are typically housing, transportation, and food. Any decision to purchase a home should factor in how it will impact transportation costs – buying or renting a nicer place farther from work that increases your transportation costs (vehicle, fuel, psychic, and opportunity costs of time spent in traffic) may not be worth it once you tally the true costs (more about this below).
There are many nuances to this calculus, so I will defer the discussion to bigger brains than my own. Even accounting for the mortgage interest tax deduction (which historically favors physicians, who tend to buy more expensive homes in higher cost of living areas), there is less of a benefit in favor of the homeowner than our parents’ generation might have led us to believe. Far safer to rent for your first few years out of residency as you determine if the new job and community are a good fit. Waiting provides the added benefits of paying off educational debt and saving up for a down payment, and many physicians tend not to stay at their first job out of residency.
Anticipate change
Saving money by avoiding the expensive car or house immediately out of residency additionally increases your options when you are most likely to want to reduce your clinical load. As you get older, your priorities will change. Whether or not you have a partner or kids, physicians a decade into practice seem anecdotally to share a desire for greater autonomy, flexibility, and control over their clinical schedule. Your tolerance for disruption of circadian rhythms and missed social opportunities also changes over time. Nights, weekends, holidays and on-call shifts that were easily handled in your 30s are more disruptive and harder to recuperate from in your 40s and 50s. As your life starts to revolve less around your individual needs and more around commitments to family and community, the opportunity costs incurred from clinical work usually increase.
In part II of this article, we’ll continue our journey toward financial independence for physicians. We’ll explain vocabulary you’ll need to understand for investing purposes. We’ll also discuss the virtue of frugal living, and its paradoxical compatibility with the pursuit of pleasure out of proportion.

CrispyDoc

David Presser, MD, MPH is a graduate of Stanford, UCSF and Harvard. He completed a residency in Emergency Medicine (EM) at UCLA and an International EM Fellowship at Harvard. A born-again personal finance geek, you can drink his Kool-aid at crispydoc.com.

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