The Author at the Junction of Imlay Canyon and the Zion Narrows

In part 1 of this series, I discussed investing and tax issues and how they are different for a “high-income” doctor ($500K-$2M per year) versus a typical doctor ($150K-$400K per year.)  In part 2, Michael Relvas explained how to maximize disability insurance coverage.  In this final part of the series, I'll discuss some additional insurance considerations, debt management, estate planning issues, and asset protection issues.

Life Insurance Is Exactly The Same

There is little different about purchasing life insurance for a high income family.  Rules of thumb (such as “buy 10 times your income of term life insurance”) are generally inadequate.  The best way to determine how much insurance you need is to figure out exactly what you want it to cover.  You may want it to cover the mortgage, college for the kids, and then to provide a $300K per year income for your spouse so he/she never has to work again.  You can put a price on all these things.  Total up the price, subtract out your current portfolio value, maybe add a little back as a fudge factor, and that's your need for insurance.  For example, if you have an $800K mortgage on your first home, a $400K mortgage on the cabin, you have two kids and want $400K a piece for their educations, and you want your spouse to have a $300K per year income for your spouse (multiple $300K*25 using the 4% rule) and you get a total of $9.5 Million.  Round it up to $10 million, and head on over to to find an agent.  As long as you have no plans to use a cash value life insurance policy for anything, you determine how long until your portfolio is worth $10 Million (probably 20-30 years) and buy a policy for that length of time.

On the other hand, some two physician couples without kids may decide they don't need life insurance at all (or need much less) since they can live just fine on a single income.  It really comes down to having a plan for what happens in the event a money-earner dies.  In general, the amount of life insurance carried should be more a factor of what you spend and plan to spend than what you earn.

Liability Insurance

Liability insurance, including professional malpractice and personal (umbrella), policies should cover any reasonably likely liability.  There is great debate whether more coverage makes you a bigger target, but there's no doubt that when you have more to lose you probably ought to have more liability coverage.  Most docs should carry an umbrella in the amount of $1-5 Million.  High-earning docs should probably err on the high side of that, and perhaps even go up to $10 Million if they can find someone willing to sell it to them.  Discuss the pluses and minuses of increasing your malpractice coverage with local attorneys, including both defense and plaintiff's attorneys. In fact, it never hurts to make very good friends with the local ambulance-chasers, as many of them keep a “do-not-sue” list that includes friends and family.

Estate Planning

Estate planning really serves four purposes-

  1. What happens to your kids if you die
  2. What happens to your money and stuff if you die
  3. Avoiding probate
  4. Minimizing, or even eliminating, estate taxes

All physicians need a basic estate plan, but mostly just for the top three items.  The exemption for estate tax under current law is $5 Million ($10 Million married) and assuming it continues to be adjusted upward for inflation (a very big assumption, of course) the vast majority of doctors will never need to worry about the estate tax.  Given typical saving habits, spending habits, and life spans, it is unlikely that anyone with an income of $200-400K will have $10 million at retirement, much less 20 or 30 years later.  Run the numbers and you'll see what I mean.  Take an income of $200K, save 20% of it a year for 30 years, earn 5% real on it, and after 30 years you have $2.8 Million.  Even double or triple the figure and for a married couple, you're just not going to get there.  High-earning physicians, however, will almost surely have an estate tax problem, especially if exemption amounts are decreased or not indexed to inflation.  In addition, the exemption for state estate tax is much lower than $5 Million in many of the 21, mostly-blue, states with estate and inheritance taxes.

Give It Away

The key to avoiding estate taxes is to give your money away until your estate is worth less than $10 Million. That's an easy task if you have no problem actually giving that money away to charity and losing control over it.  If, however, you wish to keep and/or control that money, you'll need to get a lot more creative.

Minor Estate Tax Problems Are Easy

If you only have a small estate tax problem (i.e. your estate only exceeds $10 Million by a little) then you can simply give some money to your heirs early.  Remember that both you and your spouse can give away $14K per year to each child, grandchild, great grandchild, nephew, niece etc.  If you've got 4 kids and they each have 4 kids and they each have 4 kids you've already got 84 people you can give to.  84 x $28K= $2.35 Million per year.  You can get down below $10 Million in a hurry at that rate.  Even if you have fewer heirs, you can often escape the estate tax simply by giving them their inheritance early.  If you wish to place conditions on that money, you can always give it to them inside an irrevocable trust so you can control it both before and after death.  Also keep in mind that you can pay educational and medical expenses for heirs directly without counting against the $14K per year.  If you decide to gift stock or mutual fund shares to avoid paying the capital gains taxes yourself, remember that your heirs inherit your basis on a gift, but get a step-up in basis if they inherit it after you die.  So give them the high basis shares before death, and let them inherit the low-basis shares.

Move To A Low Tax State

Many people move to a no or low-income tax state such as Florida, Texas or Nevada in retirement.  Those with large estates have an additional impetus to move- avoiding state estate taxes.  If you carefully examine your state's laws and dutifully record the number of days you are in each state, you may not even have to completely move in order to get away from onerous estate taxes.

Solutions For Larger Estates

The larger your estate gets, the less useful just giving it to your heirs early becomes as a solution.  There are plenty of schemes out there, but most of them revolve around getting assets out of your estate early, then letting them continue to grow in value.  For example, you can give your house to one of your heirs at today's value, then he can rent it back to you.  It may double in value between now and the time you die, but it only eats up as much of the exemption as it is worth at the time of the gift.  Plus those rent payments don't count against the $14K limit.  If you don't trust that your heir won't throw you out, you can formalize the relationship with a Qualified Personal Residence Trust (QPRT).  It's an irrevocable trust where after 2-20 years the house belongs to the trust.  If you die before the term is up, the value of the house goes back into the estate.  If you don't, then it's out of the estate.  You don't have to start paying rent until the term is up.

A similar option is a Grantor Retained Interest Trust. (GRIT)  You put some assets in (subject to the estate tax exemption) and then you get the income for a certain number of years.  When the term is up, the beneficiaries get what's left.  A charitable remainder trust is similar.  You put money in, the charity gets the income from the trust for a certain term, and then the heirs get the rest.  Or vice versa- the heirs get the income and the charity gets the remainder.  All of these trusts allow you to get a large amount of assets out of your estate while using an amount of the estate tax exemption less than the full value of the assets transferred.

Another popular type of trust is an irrevocable life insurance trust.  You buy a cash value life insurance policy such as a whole life policy inside of an irrevocable trust.  In fact, since you won't be borrowing from the policy you don't have to worry about crossing the MEC line so you can fund the policy with a single payment.  Since the policy isn't generating taxable income, the trust pays no taxes.  Your estate is reduced by the amount of the premium paid (unless you keep premiums under the $14K limit).  When you die, the policy “blossoms” into a huge death benefit which is passed estate tax free to the beneficiaries of the trust.  You might be able to buy a $1 Million policy for $100K at age 55, which upon your death at age 80 pays your heirs $1 Million or more.  Nobody will owe income or estate taxes on the money once it is put in trust.

Asset Protection

Again under the heading of “Mo' Money, Mo' Problems”, as your assets increase avoiding catastrophic loss becomes more and more important compared to the rate of return on your money.  An appropriate insurance plan is still key, even for high earners, but asset protection considerations should be taken into account with most financial decisions.  These laws are all state-specific, so you should become very familiar with your state's laws.  If your state has a favorable homestead law (such as Texas or Florida) you may wish to buy a larger house than you otherwise might, and favor paying down the mortgage to other investments. If your state's homestead law is weak, like mine in Utah, you may wish to place money preferentially into retirement accounts, annuities or cash value insurance to protect it from creditors.  For a high-earner with a large amount of assets, the asset protection features of a cash value life insurance policy may outweigh the lower returns and higher costs.  You may also want to consider more exotic solutions, such as a portable offshore trust and family limited partnerships.

Debt Considerations

Debt paydown should be a relatively high priority for high earners.  Since all your tax-advantaged retirement options are maxed out, and taxable accounts are completely subject to creditors and relatively highly taxed, paying down student loan and mortgage debt can be a great option for extra income.  Student loan interest isn't deductible anyway for most doctors, especially high earners.  Too much debt/leverage can often spoil even the best financial plans for wealthy people.  Strolling through the real estate book section at your local bookstore will reveal that many of the gurus went bankrupt early in their careers.  Given your income and assets, there's no reason to run that risk.  Pay off your debt.  If you wish to invest in real estate, why not purchase the asset outright or pay it off quickly to minimize that risk.  And consumer debt?  Are you kidding me?  You make $800K a year and have a car loan or carry credit card debt?  Isn't that embarrassing?  If you can save up for and buy a luxury car in a month or two, I see no reason to embarrass yourself in the finance department at the dealership.

In conclusion, financial planning is a little different for the high-income physician than for the rest of us, but it's not THAT different.  The same principles of saving an adequate amount, maximizing use of retirement accounts, minimizing taxes and investment expenses and being adequately insured all still hold.

What do you think?  Agree?  Disagree?  Did I miss anything?  Any other considerations someone making a million a year should be thinking about?  Comment below!