It is never too early to start thinking about retirement. In fact, the best time to start thinking about retirement is when you first start working. But, it is never too late. The next best time to start planning for your retirement is right now. That’s why I wanted to get back to basics for this post and lay out the simple path to wealth for doctors.
But I know…
The concept of saving and investing your money can seem intimidating and scary. I felt that and it led me to stick my head in the sand for way too long. But, in reality, you can use a few simple strategies to ensure that you can retire on your terms!
So let’s review the simple path to wealth for doctors
Here we go!
1. Manage your expenses
In order to build wealth, you need to increase your margin. And your margin equals your income minus your expenses.
Margin = Income – Expenses
Unfortunately, our income is not always in our control. But our expenses are 100% always in our control.
So step 1 is to create a budget to understand where your money is going. Sit down once a month and go through all of your cash, debit card, and credit card purchases. Start to eliminate unnecessary expenses. Then begin to spend intentionally.
2. Pay yourself first i.e. Build a savings rate of 20%
Once you start to track your expenses, your goal is to minimize them to to those that are necessary. Then, you will start paying yourself first.
With every pay check, most of us pay ourselves last. We pay all of our rents, mortgages, subscriptions, etc and then keep what is left over. Usually there is nothing left over. Sometimes it is even worse and we need to use credit to cover expenses.
By paying ourselves first, we manage our expenses and, with each pay check, take out a certain percentage to save. After that and only after that, we pay the other people in our lives.
The goal is to save at least 20% of your pre-tax or gross income. This may seem impossible at first. I recommend trying to save 1% of your gross income in the first month. Then increase it to 2% the next month…and so on and so on. Before you know it, you will have reach your goal!
What Do You Need to Include in Your Savings Rate?
3. Use your tax-advantaged retirement accounts to invest
Regardless of your employment circumstances, you have access to multiple retirement accounts that you can invest in that have great tax advantages.
Most of these accounts allow you to contribute pre-tax money. The money then grows tax-free when invested and is only taxed later when you take it out in your retirement.
The Backdoor Roth will even allow you to contribute post-tax money that grows tax free and is never taxed again.
Many employees can also invest additional pre-tax money in a 457(b) retirement account. Other tax advantaged accounts include a 529 or HSA account.
A full review of all options for investment accounts can be found here.
4. Actually invest the money
I can’t tell you how many physicians I talk to who are masters of saving. But then they just let that money sit in their savings account or a money market account.
We need to invest the money to actually make it work for us and grow. If we don’t, it is the same as putting money under our mattress. It actually loses purchasing power due to inflation!
So, when you contribute, you need to move the money that you contributed into your chosen investments. This can seem intimidating but can easily be done as I lay out in detail below:
5. Let compound interest work its magic!
Albert Einstein said that compound interest is the most powerful force in the universe.
When your money is invested wisely in a total stock market index fund for example, let’s say it averages a 7% return each year. Well, each year, you grow your money based not only on the principal amount that you originally contributed, but also on all of the interest you earn each and every year. This is how your money will grow exponentially.
But what about when the stock market goes down?
Over the long term, the overall stock market has always gone up. If you put money in the overall stock market at any point in history and just did nothing and kept it there for 20 years, you would have made a lot of money.
So, this is how you need to invest. Invest money for the long term. Do not invest money you plan to need in the next 20-30 years. Invest in broadly diversified index funds that mirror the entire stock market. Do not invest in individual stocks or try to time the market. Investors that try to do this do worse than passive investors 80% of the time!
6. Invest your extra savings
In all cases for doctors, by saving at least 20% of your gross income, you will have savings left over to invest after you have maxed out your tax advantaged retirement accounts.
So, invest this money in a taxable investing account that anyone can open online. Sure, you lose the tax advantages, but you still grow your money via compound interest to increase your wealth and build your next egg!
7. Retire on your terms
Studies have shown that you can safely withdraw 4% of your retirement nest egg each year without risking that you will run out of money.
So, to estimate how big of a next egg you will need in retirement, you can calculate your expected expenses in retirement (which you have been tracking with your budget) and multiply by 25.
4% = Retirement Expenses/Nest Egg
Nest Egg = Retirement Expenses/4% = Retirement Expenses * 25
Therefore, once you reach your estimated nest egg, you know that you can retire!
In fact, once you know your goal next egg, you can estimate how much money you need to save each year to reach your goal by estimating an expected rate of return on our investments. It’s a good rule of thumb to use an estimate rate of return of 7%.
You can find a detailed calculator to run these formulas for yourself here!
Now let’s use an example of the simple path to wealth for doctors!
The average state physician salary in 2021 is approximately $225,000.
Therefore, our minimum goal is to save $45,000 each year. ($225,000 * 20% = $45,000)
Let’s assume that we have $0 in current savings and plan to work 35 years before retiring as we are just starting out. Using the Future Value function on Microsoft Excel with $45,000 in yearly savings with a 7% rate of return, we will have $6,220,660 in our next egg!
Now keep in mind, if you have just saved $45,000 for 30 years instead on investing it, you would only have $1,350,000. So you more than tripled your money. That’s the power of compound interest!
Estimated Nest Egg = FV(7%,35,-45000,-0,0) = $6,220,660
Now, we know that we can safely withdraw 4% of our next egg each year. So, our annual “income” in retirement will be $248,826.
Retirement “Income” = $6,220,660 * 4% = $248,826
Now you know that you will be able to retire on your terms with retirement “income” equal to your current income that will cover your expected expenses.
More about these calculations here!
And you can tailor this simple path to wealth for doctors to your individual circumstances!
If you want to work less than 35 years, you can adjust this in the equations above and figure out what your “income” would be. If this is not enough to cover your expected retirement expenses, then you can adjust to save more.
And so on. The power is now in your hands!
I hope that I’ve been able to show just how important and powerful it is to start your retirement planning. Again, the perfect time may have been 5 years ago, but the next best time is now!
What if you want more than the simple path to wealth for doctors?
That’s ok too!
Ultimately, that describes the situation that I am in. I have chosen to accelerate my path to financial freedom. And you can do this too through a variety of avenues like these below:
- How to Increase Your Compensation Both Clinically and Non-Clinically
- Physician Side Gigs to Make You Passive Money
- A Real Estate Investing Guide for Physicians
- Are Medical Surveys Worth It as a Side Gig?
And don’t forget to check out my free masterclass webinar on The 12 Steps to Financial Freedom for Physicians!
What do you think? Does the simple path to wealth for doctors work? Should something else be added to it? How have you calculated your nest egg? Let me know in the comments below!