[Editor's Note: Here's a re-published post from WCI Network partner, The Physician Philosopher and is about the advice I gave back in 2011 for young docs to “live like a resident” for their first few years after residency. Enjoy TPP's fresh reminder on the principle!]
Chances are that if you are reading this blog, you have heard it said time and again that when you graduate you should “live like a resident.” The truth is that this is really solid investing advice. The White Coat Investor has said on more than one occasion that he can predict your financial future with “surprising accuracy” if you tell him what you did in the first couple years after you finished residency.
That’s all well and good, but where’s the proof that you should live like a resident after residency? Well, the proof is in the pudding. Let’s look at the ingredients to see if the pudding tastes as good as it sounds.
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Pudding Ingredient Number 1: Savings Rate
The first ingredient in the Live Like a Resident pudding is a giant dash of savings rate. Your savings rate is the main determinant of your initial success in investing. Later on, your money will start to work for you once you’ve saved a substantial amount.
Why is this initial savings rate so important right after you finish? Glad you asked.
The 2 Million Dollar thought experiment:
Your goal in this thought experiment is to get to $2 Million Dollars. Here are the assumptions. You save 50K annually each year and earn 8% interest growth (we could assume less, it’s just the number I chose). Given these assumptions, it would take you 19 years to get to that goal (you’d actually be sitting at $2,072,313 at the end of year 19).
To understand the following numbers, here is the key to the following tables:
The First Decade
Here is what the first ten years would look like:
Even after ten years of savings, your annual savings rate (that $50,000 you save each year) accounts for ~70% of the entire total of your accumulated savings.
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Why should you care?
- This means that the major determinant of your retirement nest egg in your early years is your savings rate (it accounts for 70% of your savings at 10 years).
- With these assumptions, you have not even gotten halfway to your goal of $2,000,000 in TEN years of saving. In fact, you stand at less than $800,000.
- Remember, though, I have to add another 1.2 million dollars in 9 years and I only saved $800,000 in TEN?
The next decade is where the magic happens.
The Second Decade
In the graph, you’ll notice that year 17 is the break-even point where the total amount saved coming from your contributions starts to dive below 50% of the total value and compound interest starts taking over as the predominant factor determining your total savings.
The take-home here is that the further along you get, the less your savings rate has to do with your total accumulation. This is because your compounding interest begins to really shine from all those hard years of saving early while you lived like a resident.
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This is one of the many ways that the rich get richer. Once you’ve saved “enough” your compound interest starts working overtime for you.
Saving Early Matters
For those that prefer visual representations, the following figure may explain it better.
The blue bars are the % of your total savings that comes from the money you have saved (i.e. your contributions). The orange bars are the % of your total savings that comes from compound interest.
Time in years is on the X-axis, percentage of your total savings is on the y-axis. Note that the first year you start investing the entire bar (100%) is blue, because all of your savings came from your contribution from that first attending paycheck.
As noted earlier, in year 17 these two points (the blue bar and the orange bar) are even at 50%. From that time point forward, compound interest is more responsible for your total savings than your contributions.
What happens if we extend the math further? Well, after 30 years, this savings plan ($50,000 per year for 30 years) was started, the total savings would be $5,641,161.
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Of this total, 73.5% would be due to compound interest (or $4,164,161) and only 26.5% would be from your contributions (a total contribution of $1,500,000, or 30 years at $50,000).
You read that right. You contributed 1.5 million dollars over 30 years and made over 5.6 million dollars. THAT is the power of living like a resident and earning compounding interest.
What accomplishes a large total savings is having a high savings rate in your early years, and a high savings rate is best accomplished early in your career by living like a resident when you finish.
Pudding Ingredient Number 2: Grindin’ Debt Like a Resident
Of course, your savings rate is only part of the pudding. Your savings rate could be even higher than $50,000 per year if you didn’t have those pesky student loans.
This is why it is so important to make a plan to deal with your student loan debt early! And, if you don’t know what to do, then get a student loan consult! The sooner you have a plan, the sooner you can take the next steps.
This is important because the % of your money put towards debt and your savings rate help determine your Wealth Accumulation Rate (WAR). The higher your WAR, the faster you’ll be obtaining your financial independence.
After all, after you live like a resident and that debt is paid off you can then put that money towards others important things, including:
- A higher savings rate that will allow you to reach your financial goals faster. If you had started out investing $75,000 per year, you would have reached the 2 million dollar mark by year 15 instead of year 19. That could save you four years.
- You can make a big purchase, such as a bigger home, with the increased monthly cash flow (though I don’t encourage you to think about money in terms of monthly payments).
- Invest more in your kid’s 529 or perform your first backdoor Roth IRA.
- Use some of that money (via The 10% Rule) to enjoy a little more of life. Maybe take that vacation you’ve been waiting to take.
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You can do whatever you want with the additional money once your student loans are paid off. Odds are that once you have built the kind of financial muscles it takes to live like a resident, any financial goal is within reach.
Ingredient Number 3: A Pound of Earnings
One of the big advantages that you have coming from residency is that you are “used to” living and working like a resident. If you can keep that work pace up for even an extra 12 to 24 months following residency, you’ll likely make a lot more money. That is one of the ways that I paid off $200,000 in student loans in 19 months after I finished training.
This additional work could be through locums tenens work, picking up extra shifts, or working a side hustle or three. For example, some ways that I’ve earned additional income since finishing training include my side hustles including picking up extra shifts, performing medical malpractice expert witness work, and my The Physician Philosopher blog.
The point is that when I finished training, I was used to working resident hours. Keeping that going really helped us achieve our financial goals sooner.
Putting Living Like a Resident Together
Since this post hasn’t had enough math yet…let’s add some more here. Let’s say you earn an extra $1,500 per month from your extra shifts or side hustles. This would leave you with a couple of choices:
One choice is to pay off more debt. Say you came out of medical school with $200,000 in debt. You were smart and refinanced your loans to 3.5%. At $4,000 per month, this will take you 4.6 years to pay off. If instead, you worked a little harder and made some extra cash, you might be able to pay $5,500 per month. This would pay off that same amount of debt in 3.3 years. It would also save you about $4,000 in interest as well.
Alternatively, if you invested that extra $1,500 per month for three years after residency (total of $54,000 over that time) this would turn into $404,643 after 30 years at 8% compounding interest.
Either way (paying down debt faster or increasing your savings rate) you are building your wealth much more quickly. This is why it is so important to continue to work hard after residency. You can accomplish your goals faster.
Take Home: Live Like a Resident
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Many readers will already understand these principles, but for anyone early in their career, I hope this serves as a solid reminder. What you do in those first few years after you finish is fundamental to your financial success.
If you need help figuring more of this stuff out, then I encourage you to go and purchase The Physician Philosopher’s Guide to Personal Finance. It’ll teach you the 20% of personal finance doctors need to know to get 80% of the results.
What did you do right after you finished? Did you buy the big house and the nice cars? Did you put the extra money towards grindin’ debt or investing? If you had a time machine, what would you do? Leave a comment below.
Great article. Am beginning to see the justification given by some for confiscatory tax rates.
TPP! Great article! I’m glad Jim reposted it.
The % total savings vs compound interest chart is especially striking. I’ve also noted that it’s really around 30 years out when the compound interest and net worth starts going exponential. For most of us docs, though, that’ll coincide with retirement, when we’ll have to start drawing down on the accounts.
There really is a big penalty for delaying your earning years until the early to mid 30s. Because of the compounding effect of time, as you beautifully demonstrated, it’s more than one might think.
— TDD
Yeah, starting late makes it tough to catch up, and really emphasizes the importance of starting early!
TPP
I love this article! The power of compounding interest gets me excited, like seeing a magic trick. Especially seeing that I’m at about year 5 in your table and I haven’t seen a ton of compounding interest yet – it reminds me to just keep doing what I’m doing and the next decade will start to really bear fruit. I pretty much lived like a resident after finishing residency but did reward myself with a new car which I have since paid off and still have. I got side jobs which allowed me to pay off my student loans in 3 years and max out sep-IRA in addition to 401k. Since I paid off my loans, I bought a bigger home and am putting extra towards the mortgage so it will be paid off by the time I’m 53. I also am now putting a total of about $100k per year into retirement and brokerage accounts. I figure I can work less later and put less into retirement then if I’ve already turbocharged my savings early in my career.
Your story sounds very familiar to mine. I financed a car (**Wouldn’t recommend this for anyone, for the record) with some of my 10% rule money. It’ll be paid off next month, which is about two years into ownership. We paid off our loans in two years as well. And I’ve also considered going part time once we have turbocharged our accounts a bit.
Striking resemblance, I must say!
TPP
I have friends who live in a no state income tax making 250k which leaves them about 200k after tax or roughly 17k/mo after tax. They simply used the rule of their expenditure being what they took home in their last year of residency plus 1000 roughly.
Most people take home about 3k in residency which even with this simple formula would leave you over 10k a month even if you doubled your residency monthly take home. 120k per year is very doable and with 8% returns you’d have 2 million and not counting any other work related ira or match.
Any doctor can get to 250k with a working spouse or picking up a few shifts extra and living with an extra 3k per month is too simple. I am more extreme and limit monthly total expenses to 3k but that is only till year 5 live like a resident plan as i plan to retire at max 10 years after that.
In retirement in a state with. No income I would pay 18% on 300k of income
Compounded interest is the 8th wonder of the world
Learn the rule of 72 and the marginal utility of wealth
Long time reader, but leaving a reply for the first time.
I am a physician from Poland – you know, third-world country in the Eastern Europe 😉 Our financial reality is totally different from yours, but lots of stuff is universal, as we are all humans, in the end.
Nevertheless, Polish physicians have no debt after finishing medicinie, but in absolute dollar terms we earn nothing compared to the US physicians. Thankfully, basic cost of living, which is the only necessary material stuff to buy, is totally different.
Some numbers, if you are interested. If not, please just read the two last paragraphs.
I am on my first year of the orthopedic surgery residency, my wife is on the first year of the OB/GYN. Our basic salary is 3,200 zlotys each (800 dollars, more or less), but we work extra shifts. We work a lot (50-70 hours per week), so we earn 20.000-22.000 zlotys per month combined.
Our current luxurious cost of living is 3000-4000 zlotys per month, so currently our saving rate is 80-85 %. I am the investor in my household, and I invest in the real estate.
We eat whatever we want, we spend our free time in the nearby mountains or at the pool, we have the time for the exercise at the gym, riding a bike or walking. We have a 14-years-new car, we live in an apartment. What else anyone needs for a truly happy life?
But we are ambitious, hard-working and want to help others. Maybe we are both narcissts and perfectionists, God knows.
Nevertheless, after finishing residency, each of us will probably earn 30.000-40.000 zlotys per month, and adding some rental income, which in my rough estimate will be around 15.000-20.000 per month, we will earn about 900.000-1.100.000 zlotys per year after tax, total. Spending 4000-6000 zlotys per month living like the kings and the queens of the past centuries. But what will we do with the rest of this incredible torrent of money? I hope that it won’t change me in a way that I will hate myself.
Some of you might think that we are too frugal and if only we tried spending more, we will be so much happier. Been there, done that. Not a tiny bit.
I am not writing to boast, but to give you, the contemporary kings and queens of our world, some perspecitve. Really, I don’t quite understand your financial reality – you earn so much money, yet have financial troubles. Maybe that’s because there is always another dollar to be earned, there are always people who earn more, have more wealth, are higher in the hierarchy, and our flawed human nature wants us to always strive for more, never having enough.
I don’t hate you. Far from it. I love the humanity and I regret seeing us doing what we do with the world we’ve been given. We have a lot of problems, yet we could solve them in no time with some tweaks to our thinking and the outlook on the world.
Mo’ money, mo’ problems! 🙂
Thanks for chiming in. Just came back from Honduras where interns make $220/month.
Thanks for your perspective, Bart. It is an important one!
What happens in America is interesting, if not completely confusing. The same phenomenon happens to professional athletes, actors, and many other high-income earning people. The truth is that humans chase happiness, and we tend to do that with money when it is at our disposal… only later do we find out that the things we spent all of this money on don’t actually provide long-lasting satisfaction and happiness.
So, one reason we spend the way we do is because we are chasing happiness. The other is because of the pent up delayed gratification that occurs because of training and feeling like we “deserve” to live a doctor’s lifestyle when we finish. Of course, neither reason is really true or helpful. And both lead to exorbitant costs and a very low savings rate.
I 100% agree with you. It is really sad.
TPP
I would argue that the problem is our popular culture, which has become very materialistic, not just for docs, but everyone. If one ever did see an advertisement for a non-materialistic endeavor, it would probably be paid for by an entity wanting one’s money. Try this for a litmus test – would you rather have wealthy friends to hang with, or honest friends? Would you rather be in a Ferrari club, or a book club? Now which of those choices is the most rewarding in the long run?
//materialism[ muh-teer-ee-uh-liz-uh m ]SHOW IPA
EXAMPLES|WORD ORIGINSEE MORE SYNONYMS FOR materialism ON THESAURUS.COM
noun
preoccupation with or emphasis on material objects, comforts, and considerations, with a disinterest in or rejection of spiritual, intellectual, or cultural values.
the philosophical theory that regards matter and its motions as constituting the universe, and all phenomena, including those of mind, as due to material agencies.//
I’ve been taking a peak at a few of the articles on this website for a few months now and I have gotten a huge appreciation for the challenges you doctors face early on in your career. I’m a 44 year old Canadian Engineer making “doctor money” now but it seems my path to financial independence was much less arduous. I’m Canadian so by definition my student debt was minor. I also got a 4 year head start on a doctor (at a fraction of the salary, mind you). I also started making bigger salaries when I was financially more mature – that helps too.
In any case, great article and keep up your good work at educating young professionals.
Evergreen message, never hurts to hear it again! The illustrations really help to make the numbers sink in. The delay from finishing training is one thing. Add a few years to that due to lack of financial acumen and you have seriously jeopardized the magic of compound interest working for you. This reiterates the importance of the first few years out in your financial security for the rest of your life, as you said rightly.
Recently talked to some graduating residents about finances. We discussed WCI, but one of them said “well I’m not going to reduce my lifestyle or keep living like a resident.” Enjoy that debt you have then.
Nobody is asking them to reduce their lifestyle, simply to maintain it for a bit longer. You can lead a horse to water…
Exactly. I’m not sure why they felt like maintaining their current standard of living was so atrocious. Unless they were already living well beyond their means, but I’ll never know because I stopped talking after that response.