By Dr. James M. Dahle, WCI Founder
I heard a call on The Dave Ramsey Show from the wife of a soon to graduate dental student. She was asking about whether he should use a doctor loan to buy a house. Here are the two segments in case you missed it:
I thought the call was illustrative of two things.
First, the call demonstrated the unbelievable burning desire of graduating docs, and especially their spouses, to buy a house. I’ve discussed this many times before and regular readers know how I feel about buying a house right away (i.e. don’t, especially if you still have years of training ahead of you.)
Second, the call illustrated just how debt-numb most doctors are at the completion of their training, as discussed in this guest post by a “profligate borrower.” You see, Dave quickly asked this lady the key questions — “How much student loan debt?” and “How much income?” The answers were not particularly surprising to someone like me who has a pretty good feel for the pulse of the current professional educational environment, but it apparently was to Dave. She said “$480K in debt and $120K in income.”
The problem here may not be obvious to someone who has not had to deal with a significant student loan burden. To those who have, the issue is very clear. You see, you cannot actually pay off that loan with that income during a normal career length. Let me demonstrate.
Doing the Math on Student Loan Debt
Consider the amount of interest that accumulates each year on a $480K debt burden at, let’s say 7%. It’s about $34K. Let’s assume this couple is relatively tax savvy and only pays 20% in taxes. That’s $24K. So, $120K-$34K-$24K= $62K.
Now, let’s assume this family of four lives relatively frugally on a resident’s salary, $40K. That leaves $22K with which to actually pay down the debt, save for retirement, and save for college. Just for fun, we’ll say half of it, $11K, goes to debt pay off each year.
How long does it take to pay off $480K at $11K per year? $480K/$11K per year = 44 years. What? You wanted to have your loans paid off before you’re eligible for Social Security? Not going to happen. Not to mention you’re never going to become wealthy when you’re only putting $11K a year toward it, and that’s totally ignoring helping the kids with college.
Now, before the critics get after me, I know that it’s not quite as bad as I illustrated. In fact, if you put $45K ($34K interest and $11K principal that first year) toward the 7% debt each year, you actually pay it off in just over 20 years because more of the payment goes toward principal each year. But whether it’s 20 years or 44 years is largely irrelevant in this scenario, because we’re talking about someone who busted his butt in high school to get into a good college, busted his butt in college to get into a good dental school, and then ends up with the equivalent of a resident’s salary for nearly his entire career. Now, I know dentists are really into teeth, but I doubt very many of them are into teeth enough (at least after the first 5 years) to do it for the equivalent of a $40K/year salary. (Correct me if I’m wrong, dentists.)
The problem is that the debt is just too large for the potential income. Some people look at it as an “investment” of $480K to get a job that over a 30-year career will pay $3.2M. As you can see, that’s a very bad way to look at it. Perhaps a better way to look at it is to consider the ratio of student loan debt to peak earning salary.
What Is the Ideal Student Loan Debt to Salary Ratio?
What is the ideal ratio? Well, it’s 0X, but that’s the wrong question to ask. The right question is what is the maximum ratio you should tolerate before deciding additional student loan debt just isn’t worth it?
My general debt recommendation is to not exceed a 1X level for your student loans and a 2X level for your mortgage. Obviously, people in the Bay Area often have to stretch that recommendation to get a home. But when I say stretch I’m talking 3-4X. And that stretch is going to have a significant effect on minimum career length, vehicle driven, school attended, etc. Likewise, perhaps some physicians and dentists attending an expensive school without parental or spousal support have to stretch a bit. But when I say stretch, I’m talking maybe 2X, not 3-4X. And again, that’s going to have a significant effect on lifestyle.
I think most docs should aim to have their student loan burden gone within 5 years of the completion of training. What percentage of income must go toward student loans to accomplish this? Let’s take a look.
Let’s assume an interest rate of 7%.
- 1X: 24% of gross income
- 2X: 48% of gross income
- 3X: 72% of gross income
- 4X: 96% of gross income
My nine-year-old descending Pingora, Wind River Mountains
Basically, 3-4X is impossible. So don’t ring up 3-4X in student loan debt. Either choose a different profession or find someone else (i.e. the military or similar) to pay the bill.
What If You Already Have Too Much Student Loan Debt?
Unfortunately, this is the real question. There are tens of thousands of docs who are either in this situation or soon will be. What can they do? Well, there are a few options to consider.
#1 Boost Income
What if that dentist figured out a way to make $250K instead of $120K? Now his ratio is less than 2X. How can he do that? He can go to an area with more demand, he can work harder, or he can learn a thing or two about business and own the practice, bringing in some associates and keeping part of what they generate. He can also take a second job, such as real estate investing or another entrepreneurial pursuit.
#2 Find a 501(c)(3) job and Go for PSLF
There aren’t nearly as many of these for dentists as for physicians, but they do exist. Even if the job pays 25% less, it also means your loans are gone in less than a decade.
#3 Go for IBR/PAYE/RePAYE Forgiveness
This isn’t a great option since it takes 20-25 years and the forgiveness is taxable, but when you’re desperate, you’re desperate.
#4 Get a Partner, Especially a High Earning One
There are many doctor couples I have run into where one of them is either not working at all or barely working. That’s fine. It’s not tough to live on a single doctor's salary — I’ve done it for years. But in this situation, the family isn’t living on anywhere near a doctor's salary. So if your spouse has the ability to earn, especially earn a lot, send them to work. You simply cannot afford the luxury of a stay at home spouse given your previous financial errors.
I almost put a # 5- live really frugally, but that’s pretty much a given. You don’t even really have the option to do otherwise, and you can only squeeze so much blood from a turnip. Clipping coupons and reusing paper towels isn’t going to do a lot when it’s up against a debt churning out $30K+ a year in interest.
If you’re in this situation, I’m sorry. If you’re not yet in this situation but heading that way — do all you can to minimize your student loan burden and maximize your income. It might seem like monopoly money now, but I assure you the bill will come due eventually.
What do you think? What is the maximum acceptable ratio of student loan debt to income? What is the best way to deal with it if you find yourself already in this situation? Comment below!
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I’m a 30 year old PGY2 IM resident with about 200,000 in loan debt from medical school.
*Attended a public medical school that unfortunately cost about 37,000 a year in tuition averaged over the 4 yrs.
*Lived on about 12,000 a year from MS1 year until now.
*Have 50,000 in my ROTH IRA/ROTH 401K
*Had college paid for by parents and probably 30,000 by my entire family during medical school. I don’t feel that guilty about it because I had above a 4.0 GPA in HS, a lot of sports, and a 90th percentile on my SAT/ACT. My parents made too much money so I couldn’t get a scholarship. Did the best I could.
*My coresidents are using up their entire 50,000 salary on living costs in our average-cost state. I overheard a resident say, “Why would I contribute money to a roth ira when I can’t do it later on as an attending?”
Personal finance fail haha. I guess they thought that your contributions would disappear or something as an attending.
Then I see people that have 400,000 of debt, are older, non-traditional residents with 1,000+ dollar watches and 35,000 cars that they are leasing. Crazy.
I graduated from an out of state med school in 2010, total med school loans: 240, no debt from undergrad.
Started IBR while a resident
I’m 1.5 years out of training and making 480. I’m maxing out retirement accounts, funding back door roths, etc.
My student loans have grown to 290 (6.8%) and I have a 260 mortgage (3.8%).
I’m 5 years into PSLF but I’m kind of expecting the program to go away or dramatically change before I can use it.
My strategy is to save enough so that if PSLF doesn’t work, I’ll have enough to just pay off the loans.
If I do have my loans forgiven, I’ll have enough to pay off the remainder of my mortgage. Best case scenario would be debt free in 4 years.
Great job!
Very nice:) With that kind of salary you have nothing to worry about;) Even if you don’t get the advantage of the PSLF, you’ll have a mortgage at only 3.8% which is likely going to seem really low in the coming years as fed interest rates rise. And you’ll still be getting the tax deduction of that interest you pay each year as well. So, this is all a win win scenario for you as long as you save as you say you will.
Do you mind answering What specialty and which practice setting?
Jim,
I’m going to take offense here — you stole my ratio talk that I give to residents! (j/k, great minds as always).
I gave a talk at ICEP where I talked about this rule of thumb. https://icepblog.org/2014/09/25/the-house-i-will-never-live-in-managing-student-debt/
I think it’s a really great way for residents and new docs to think about their debt issue. I have residents I’ve worked with who have $400k between them and spouse but they’re both high earners who could easily pull $500k. When I hear about a peds resident w/ $300k+ taking a primary care job for <$100k (wish I was kidding) I just shudder. You're right, the math doesn't work out.
MJP
I have very few original ideas. I don’t recall purposely stealing that one though.
i hope it was really clear that i was kidding!
My multiple is high because of my mortgage
Grad in ’06, 250K in loan debt down to 170 now. Good news is it’s mostly 2.875%, payments $700/mo.
Think I can make 480 for foreseeable future and hoping to save 50 in a SEP IRA. Still worth it to do a backdoor Roth for 5500/yr? Can’t decide.
The killer is the house w 1.65M mortgage. Rate is 3.6, but payments are obviously high at $7500/month and leave me at a 3.8-4X. This is what it takes to avoid private schools in my area.
Practice “loan” is interest-free 24K/yr for 4 years. I could start paying down my student loan debt after that is done and go to the mortgage after that.
Should I be more aggressive towards retirement, including non-retirement accounts and additional retirement accounts or focus more on debt? With low rates on my loans I plan on saving more rather than paying off debt at a faster rate than above.
Let me be super blunt here:
You are 10+ years out. You still have all three kinds of :”good” debt- student loans, mortgage, and practice loan. Your total loan burden is still about 4X your impressive income. You are basically an example for those younger than you of what not to do if you want to be moving toward financial independence. I would have hoped that 10+ years out you would have gotten rid of two of those debts completely and be rapidly moving your mortgage toward something like 1X your gross income.
I agree the killer is the massive mortgage. It’s still well over 3X all by itself. I assume you’re in the Bay Area or Manhattan or something. But I’m not convinced that you fully realize what having a mortgage like that means for the rest of your financial life.
The bigger problem is your attitude toward debt– i.e. that’s it’s okay, everyone does it, it’s “good debt,” it’s “something to be managed, not eliminated,” “the interest rates are low so it’s okay” etc.
You don’t make enough money to carry this amount of debt, even at low interest rates, and expect to really build wealth as rapidly as you probably want to. For example, you’re “hoping” to save 10% of your income and trying to decide if it is worth saving another $5,500 a year. That number needs to be twice that high. I generally recommend a 20% of gross savings rate. So that’s $96K a year. That’s in addition to college savings, paying off debts etc. But it’s tough to do that with a $1.65M millstone hanging around your neck.
I think the house is probably too much. I know the transaction costs are huge, but I would give very serious consideration to selling it and downsizing, at least until you can clean the rest of this up.
A flaw in this discussion is the assumption that the dentist will make 120 ad infinitum. I made that for 1-1.5 years. Then my production grew and I was making closer to 180. Then 4 years out I bought my own practice and am now (iyh) making closer to 420, after practice loan, in my first year of ownership. School debt is getting out of control. But we should keep in mind earning potential, not just for year #1, but for the years down the road as well.
I’m happy for your success. But according to Google, the average dentist salary is only $167K, less than half your $420K. You’ll notice my first suggestion (boost income) is exactly what worked out well for you.
true, but I would doubt that a mean of dental practice owners would be that low. I would assume it would be closer to 250-275. In dentistry, you have to risk it to succeed.
True, but there are 2 separate and really unrelated things here. You are being paid an average of 165 a year for your dentistry, and then you are paid another 100 or so a year for your business ability. Which makes sense with the numbers. Average overhead is 55%, average dentist pay is 30%, leaving 15% for running the business, so simply buying a good practice can increase your pay by 50% if you run it well.
Unfortunately, “risk it” usually means another $500K practice loan. But I agree with you that ownership is usually where the money is at in life.
At least 500k, if one is buying a worthwhile practice. However the numbers I was giving were already minus “the note”
AFD, you are an astute business owner that is reaping the benefits. Most dentists can’t do what you are doing (running a 900k-1m solo practice or some iteration of that) efficiently. The most recent ADA survey results prove this.
http://www.ada.org/en/science-research/health-policy-institute/data-center/dental-practice
The first table, the first bank of data specifically calculates data for practice owners. This is the data dentists themselves report, as owners. If you’ve ever taken this ADA survey, it doesn’t separate business dollars from production dollars.
Congratulations on doing so well! The few of us on this blog know the secret to being successful in dentistry. Most of our colleagues don’t understand the value of business ownership or simply can’t do it well. Unfortunately, the numbers presented in this article are true for the vast majority of dentists.
I will be doing a pain management fellowship next year. (currently in my last year of residency)
refinanced with DRB 2ish years ago, maybe a little less. have ~350K including interest right now at 5% 10 year fixed.
my loans kick in 6 months into my fellowship (thanks DRB for lying about extending through fellowship!) and I think my fixed 10 year monthly payments will be somewhere in the mid $3500 a month or something. Will be moonlighting as an EM attending a weekend a month or so at around 230$/hr – this will all go to student loans per month. My salary as a fellow is around 65K for the 1 year.
My wife will be living in another city for the 1 year making a similar salary in her last year of a surgical subspecialty residency. She is still with the govt as she didn’t get on the DRB bandwagon fast enough and got a crappier rate not making it worth refinancing for her. She has about 200 K.
I feel nervous about the situation. Overall as long as salaries dont go down I think we’ll be ok. Plan to pay this debt off faster than 10 years but I think being a pain doctor I shoulnd’t have too much issue paying this down treating it like a mortgage essentially.
No kids, no house right now. Ill prob wait on all that.
I think a big part of the problem is that most pre-meds and med students are extremely ambitious and want to go to the highest ranked institutions possible no matter what the cost is. Private undergrad, private medical school, residency in Boston, NYC or San Fran, that adds up tremendously. Not to mention that when you are single you start running numbers and think to yourself, I can pay for these loans in no time. Then marriage, children, private education, the big SUV happens and then your numbers don’t quite make sense anymore.
When I am asked I always say worry about matching into a great residency and go to public schools. Instead of GW go to UF, instead of Boston, live in Durham. You will see that after 12 or 13 years of racking up loans, you will hate yourself.
Not to beat a dead horse, but after some research, the average salaries posted for dentists are based on the Bureau of Labor and Statistics. That info is based on salary reported. Most dentists transition to practice ownership at some point within the first 5-10 years of their career. At that point the goal is to limit reported salary and most pay themselves a salary between 80k-150k. The rest is taken as profit and not included in the reported salaries.
Do you think the younger guys are transitioning as much as the older docs did?
Yes, but possibly at a slower rate. I believe 20 years ago it took 2-3 years for most docs to begin the practice ownership route. Now-a-days, it seems like more often it is between 6-10 years out. I began looking 2 years out, but the process took over a year (to find the right office).
This article is spot on. I actually can’t believe that the government allows students to take unsecured loans above 1x their expected annual earnings.
This should be a rule of thumb for all degrees as it’s unbelievable that a high school student can obtain a 100k loan to obtain a BA in communications from a below average private college where the average student with that degree from this type of institution makes less than 50k per year. The same thinking should be applied to professional schools. 400k to become a general dentist? The average general dentist less than 5 years out of school makes well below 200k per year. Of course there are a few exceptions but by definition, the majority of dentists earn the average wages reported by the American Dental Association.
I do not have access to data that analyzes the average income of a newly minted dentist less than 5 years out of school, but it’s less than the 167k mentioned in some of the comments above as that includes senior associates and practice owners.
If you’re considering going to a dental school that costs more than 1-2x your expected AGI after matriculation, think twice about it as your financial future may not be what you bargained for. Here’s a good read: http://oneloosetooth.com/dental-school-worth-400000/
Thanks for sharing that link.
What would you recommend for a pre dent switch into? I have been accepted at a private dental school for this cycle that would leave me about 450k by the time I graduate (including interest), and I just don’t think I can take out that many loans. I would love to be a dentist even without the old school “dentist” lifestyle, but this is just too far. I also can see myself enjoying a number of jobs (both in and out of healthcare) so I feel like dentistry is just not the way.
If you’ve been accepted, I would go for it. If you really have to take out that much debt then maybe military is an option for 4 years payback, or look at specializing. (Although the depending on if it’s a new private school, specializing is a little tougher as the schools with specialty programs don’t have any history on what kids of dentist the new schools produce.)
It is also possible to do some work during dental school and earn a little, but I think the biggest thing is living cheaply. I didn’t use even close to what my school would have given me for living expenses.
Congratulations on getting accepted, that is quite an achievement by itself.
*Kinds, not kids
Thank you! I have already missed the deadline for the 4 year Military scholarship. The 3 year is a possibility, but apparently they don’t give out too many 3 year scholarships. I will apply for the NHSC as well, but 2000 applications for 200 spots is not exactly encouraging. I grew up in a rural area that is considered a site of need by the same organization, but it is still far from a given. I don’t mind giving a few years if the loan repayment is guaranteed, but these scholarships are getting very competitive.
Are you married? Any kinds or kids;)? Is the military or NHSC an option? What are your plans after you graduate? Is $450k just tuition and fees, or living expenses as well? Any other acceptances or possible acceptances?
I’ll be honest. Go for it if you are an above average kind of person (you’re reading this site already and seriously considering your choices, which speaks well). I made $200k my first full year out, and above $300k the next 2, and am now hovering around $400k AGI for the past 2. These numbers include healthy practice profits. The practice itself is worth $1.2m. Neither the student loans nor the practice loans are not paid off yet. But the equity in the practice and the income I now make have me positioned to do so in roughly 2 more years.
I started with $400k in student loans in 2011. I could have sold my practice at 4 years out and paid all my obligations and would have been able to start fresh at 0 (minus the mortgage). Similar to the military or NHSC. The only huge difference I had compared to the military guys is the knowledge and skill set to run a successful business. My earning potential in my 5th year was at least 2x what the military guys are in their 5th year. But I still have loans so all that 2x goes there for a few more years. Pros and cons.
I’m not trying to brag, but rather show you that the number is manageable. Especially if it really could be $350k instead of $450k. I would be in a much better position had I found this blog prior to starting. If you honestly are smarter and work harder than most pre- professional students, you can do it. I would still follow the same path either way.
However, if you’re seriously considering another profession, you still can. I’d get an engineering degree of some sort. Most dentists minds are well suited for engineering.
Sounds like you’ve had quite the run, that’s impressive! I would likely be looking at 450k when I graduate (that including interest and living expenses). I’m not married/have no kids, but who knows when I’ll start a family. I would be open to doing military or NHSC, but the 4 year military spots are full (3 year are more rare) and NHSC is very competitive. I’m sure buying a practice and eventually building a million dollar practice would be possible, but so many factors come into play (business skills, location, luck, etc) that I can’t bank on that happening. I feel like there’s just too much risk involved with taking out 450k in loans for the degree itself, and another ~500k for a practice, especially with dental salaries decreasing. I know most career fields are probably feeling the pinch right now, but that’s just a crazy amount of debt.
I think this article highlights an important topic for someone considering a very expensive professional degree program, and should absolutely take what you bring up into consideration when making their decision.
However, in my opinion there’s an oversimplifications in your recommendation of D:I ratio.
For a given debt to income ratio, there’s a HUGE income dependence assuming similar expenses.
Using the example in the post, someone earning $120k and owing $480k is going to have a tough time as you pointed out. What if that doc instead earns $240k and owes $960k?
The second scenario looks way worse (at same D:I ratio). Doc 1 takes home ~$96k as you stated and Doc 2 brings home ~$181k (little done to lower taxes). If both docs live on $40k/year + $11k for ‘other’ non-loan expenses as in your example, Doc 1 has $45k to pay towards $480k at 7% and Doc 2 has $163k towards $960k at 7%.
Doc 1 pays down his loans in 20 years while Doc 2 pays down his in less than 8 even though Doc 2 initially owes twice as much.
Obviously, neither is a situation one wants to find themselves in, but the advantage of additional income relative to your non-loan expenses (even if your debt to income ratio scales accordingly) makes a huge difference. This goes directly along with your recommendation #1 (earn more) and #5 (spend less) ways to get out if you’re already in.
I think your 1:1 ratio is a good recommendation for professionals with lower incomes and/or higher expenses. As your income increases, however, it becomes much easier to handle a higher debt to income ratio (beyond 2 or even 3) provided you don’t allow your lifestyle to (completely) inflate accordingly.
Two issues why I don’t think your point matters that much.
# 1 Thanks to the progressive nature of the tax code, that second doc brings home a lower percentage of his gross income. In addition, costs for things like life insurance and disability insurance are probably higher too.
# 2 The higher your income the higher the temptation to spend it. I think it’s easier to live on $40K while making $120K than $40K while making $240K. I think it’s just a weird behavioral thing that doesn’t make any logical sense.
But you’re right that if you can pare your lifestyle down to the same level, a higher income is a net positive. You only NEED to spend so much on food and shelter.
Thanks for the reply WCI. Unfortunately I made a typo when calculating for the doc above – sorry for not catching it before posting and ruining any credibility even before I got started. In spite of that, I’ll soldier on if you’ll humor me. What I should have said was: Doc 2 can pay $123k towards loans (rather than the $163k I stated. This makes the repayment term in just over 11 years (not 8) as compared to 20 for Doc 1.
Addressing your point #1, this is in spite of paying a higher effective tax rate ($54k in federal taxes at 33% marginal rate + $12k in payroll taxes for a take home of $174k out of $240k gross).
Your second point is the most important, and the behavioral aspect is even more important than the financial. You’re right that it would be tough to live on $40k when earning $240k. The example I provided is extreme, but just trying to show that for a given debt to income ratio, the ability to pay down the balance is as dependent on spending as anything else.
Qualitatively, for a given level of spending there’s a logarithmic dependence to the debt to income level that one can ‘afford’ to pay back as a function of gross income – even when considering the increased effective tax rates that come along with higher pay.
Thanks again for taking the time.
I just read this as your repost today. It’s only gotten worse. I mentor new dentists and many have 500k to 700k in student debt. I feel for these docs. I can help them get incomes over 200k and the truly motivated will go higher to 400k plus after a few years but I wish someone was beating the drum to not accept these terms. The schools wont change until people wont pay the freight.
I agree there is precious little incentive for a medical or dental school to charge lower tuition when there is a line out the door of the most expensive school in the country.
At some point you just have to say no, it’s not worth it. With that much debt, the dental assistant who went to community college for 4 figures in tuition per year and then earns 65k at age 21 would have higher take home pay a much better lifestyle then the dentist after student loan payments.
If the dental assistant knows anything about 401k, roth IRA and investing they will reach a higher net worth than the dentist even at age 50 or 60.
Hey WCI, I’m curious why refinancing isn’t an option specifically identified in your article? While the borrower in the example above may have a hard time refinancing, I think others may very well benefit from doing what they can to reduce their interest from the outset if they’re committed to paying their loans down quickly.
In our case we refinanced over $500k and saved more than $12k in interest alone the first year by cutting our interest rates nearly in half. Even though the outstanding balance was huge, that extra $12k helped us reach $50k in debt reduction in the first year. Then, in the years that followed, wage increases took care of the rest and we were able to pay off everything in under 6 years. Our starting D:I ratio was well above 2, but we had a few things working for us:
We weren’t stuck with 6-8.5% loans.
We didn’t earn in Year 5 what we earned in Year 1.
Those two things may be but a glimmer of hope for those out there that are already stuck with a debt:income ratio of >2 and feeling a bit hopeless.
Wow! I wrote an article mentioning student loans and didn’t plug my refinancing partners in it? That might be a first.
I agree if you are going to pay off your loans that you should finance them early and often.
Here are my recommended resources: https://www.whitecoatinvestor.com/student-loan-refinancing/
I also agree that debt to income ratios aren’t static.
Great post. Unfortunately the reality of paying down your student debts has become an incredibly complicated situation with the prospects of PSLF. Lots of opportunity for moral hazard if you try to game the system with loans in professional school, then if you end up with the big debt load but don’t do academics you’re stuck with the check. Not a huge deal if you’ve been investing the difference, but we all know the downfall of behavioral economics.
I certainly won’t begrudge anyone who eventually benefits from PSLF. If it works out that I pick an academic job and have some loans forgiven after 10 years I’ll be doing it myself. But it seems like such an incredibly perverse incentive to dangle fat stacks of debt in front of students, show a potential carrot of magically forgiving them after 10 years, then hitting the labor force and realizing qualifying jobs are either not what they are cracked up to be or not as plentiful as you thought. I prefer a world where reducing the loan burden is always the right choice.
Agreed. The problem is the tuition bill, not the loans to pay it.
Is anyone influential to teenagers asking them to be aware of this issue of debt to earnings? If only this was the mantra of Cardi B and Post Malone we might see a change.