Q. What are the Next Steps to do With My Money?

I am a neurologist in my 30s and currently max out a 403(b) and a 457 with my employer. We also have a 529 for our 3 kids and put $5K/yr in there. Our only debts, student loans and a mortgage, have interest rates under 4%. I have read about backdoor Roths, personal and commercial real estate, post-tax investments through Vanguard, etc and all sound great. I receive frequent requests for capital this or that, but have yet to jump at them. Can you give some guidance around a logical approach or order to decide what’s the next step?

A.

I’ve written before about what order to look at your investments, especially if you still have debt, but it has been years and it’s definitely a topic worth revisiting multiple times. I also included a slightly different (but better IMHO) list in The White Coat Investor: A Doctor’s Guide to Personal Finance and Investing. In this post, I’m going to boil all that down a little bit, and add a few thoughts I’ve had lately on the subject.

# 1 Clean Up Your Messes

Who knew surfing could be a family sport?

Who knew surfing could be a family sport?

The first thing any new attending should do is to clean up his financial messes. This includes updating his term life, disability, and liability insurance policies. It includes paying off any high-interest debt (say 8%+) or at a minimum refinancing it to a lower rate. It includes boosting that emergency fund to 3-6 months expenses (shouldn’t be hard if you’re continuing to live like a resident as you should be.) It includes making sure there is a will in place. It also includes time-sensitive activities like converting any tax-deferred savings from residency before you hit a higher tax bracket in your first full year as an attending and getting rid of any traditional or SEP-IRA money to allow future Backdoor Roth IRAs. 

# 2 Compare Retirement Savings Figure to Available Retirement Accounts

The next step is to determine how much you’re going to save for retirement. To do this properly, use the Excel Future Value function or similar, make a few assumptions, set a few goals, and come up with an annual dollar figure. However, if you don’t feel like doing that, well, multiply your gross annual income by 20% and call it good. Now, take that figure and compare it to the amount of tax-protected retirement space available to you. That might take a little research. Include any employer match that may be offered. If the amount you wish to save for retirement is $50K a year, and all you have is a 401(k) with an $18K contribution limit, a $6K a year match, and $5500 each in his and hers Roth IRAs ($35K total), then you’re going to have to invest (another $15K a year) in a taxable account for retirement.

If you have a 401(k)/Profit-sharing plan ($53K) available to you, but only wish to save $50K a year, then you may not need to use any other accounts or investments to save for retirement. You may, however, face a choice of WHICH accounts to use. The general rules for an attending in his peak earnings years are:

  1. Get any available match
  2. Max out all tax-deferred options
  3. Max out Roth options
  4. Invest the rest in a fully taxable account

However, there are lots of exceptions to these general rules, especially when comparing tax-free (Roth) and tax-deferred accounts.

# 3 What About Other Financial Goals?

There are other financial needs and goals out there. The most well-known, of course, is saving for college. Assuming you’re saving enough for retirement and can save more, 529 plans are excellent places for college funds. In many states, not only your withdrawals are federal and state tax-free, but you also get a state income tax deduction or credit in the year you make the contributions. Other financial goals may be paying for your healthcare, either now or in retirement. If you have a High Deductible Health Plan, you can open an HSA. This Stealth IRA can even double as another retirement account, and as the only triple-tax-free account, it is actually where my first investment dollars go each year. You might also wish to invest some money for your kids, especially for their 20s. This can be used for autos, a summer in Europe, a wedding, mission work, paternity/maternity leave, or even a house downpayment. While you want to be careful about the kiddie tax rules, if you invest tax-efficiently using a UGMA/UTMA you can reduce the overall tax burden significantly.

You may also wish to become debt-free or at least pay off your student loans. Paying down most non-mortgage loans is the equivalent of a guaranteed after-tax investment with an interest rate equal to, well, the interest rate of the loan. Giving large sums of money to charity may also be a goal. If you do not wish to actually give it this year, but want the tax deduction now, you can use a charitable trust or even just a donor-advised fund at any of the major brokerages or mutual fund companies.

You may also wish to save up for some high-ticket, but relatively short-term goals such as a house downpayment, a new car, an expensive vacation, a vacation home, or an expensive boat or airplane. This savings is generally done in safe investments such as a savings account, CDs, or a short-term municipal bond fund.

# 4 And Beyond That?

Most people, including doctors, don’t get to this point, but many doctors who read financial blogs do. They’re covering all their expenses, on track to reach their financial goals, and still have more money than they know what to do with. Here are some considerations for what to do with this money.

A- Spend it. Believe it or not, spending money can make you happier as I wrote about last year in my post Loosening the Purse Strings. Try to spend deliberately and with an emphasis on boosting your happiness.

B- Give it away. Find some charities whose goals you support and well, support them. This has the nice benefit of an additional tax deduction most of the time. You may also wish to help friends or family by starting a college fund for a niece or paying off a parent’s mortgage.

C- Build wealth. There is no limit on a taxable account. You can always invest more in order to spend more later, give more later, achieve financial independence sooner etc.

# 5 What Investments Should I Use?

Assuming your investments are long-term (i.e. retirement) I’d just follow your written investment plan. The bulk of your portfolio should consist of index funds composed of stocks, bonds, and REITs. However, if you so desire, you can also add some real estate, either syndicated or directly held, investments designed for accredited investors, precious metals and other more exotic asset classes. But the key is to keep your goals straight, understand the difference between investments and accounts, and couple a reasonable plan with an adequate savings rate for the goals.

My Current Dilemma

Yes, all of that came out of that boat.

Yes, all of that came out of that boat.

As I write this, in July of 2015, I’m struggling a bit with where to deploy extra capital. Between my successful emergency medicine practice, the financial success of this website, good health, a little luck, and plenty of good financial decisions, we’ve been blessed with an income far higher than we ever expected or need and are trying to be good stewards of the money. We’ve already maxed out our Roth IRAs, HSA, Defined Benefit Plan (well, for 2014 as we contribute this money in March of the following year,) the WCI Individual 401(k), and have just about maxed out the practice 401(k)/Profit-Sharing Plan. We’ve contributed the tax-deductible amount to our children’s 529s, and even kick-started the newborn’s 529 with a $10K contribution. We dabbled in several syndicated real estate investments. We’ve bought a fancy expensive wakeboat, and have more money in our “allowance” funds than we know what to do with.

So what now? Well, being the creative financial mind that I am, I can come up with a baker’s dozen of items I’d like to do this year. Unfortunately, we but don’t have enough money to do them all. These include:

1) Purchase some more syndicated real estate

I like the asset class. I like the hands-off nature (I’ve learned that I not only dislike being a landlord, but I’m bad at it.) I dislike the difficulty of exchanging properties and I dislike the expenses that seem monstrous when juxtaposed to my index funds. There is really no limit to how much money I could invest in this each year.

2) Purchase shares in a life settlement fund

This is another asset class I’m really interested in. Not interested enough to meet the $100K minimum as it would knock my portfolio way out of whack, but maybe in a few more years.

3) Buy shares in my hospital

My for-profit hospital offers syndicated shares to the medical staff. Owning some would give us a look into the hospital’s finances and make it a little more expensive to cancel our contract. Expenses are higher than I like, but past returns have ranged from not-too-bad to incredible.

4) Build up a taxable index fund portfolio

This serves two functions- first, it gives me the “house payoff fund” I wrote about earlier this year. Second, it allows me to invest very tax-efficiently as I make large charitable contributions each year. I can tax-loss harvest any losses, and flush out any gains through the contributions. These contributions have kept me from really establishing much of a taxable account in the past.

5) Start a UGMA account for the other three kids

We started a UGMA in 2008 for our eldest. The intention is to give them both college money in a 529 and money for their 20s, when they can really use it, in a UGMA. The idea is to use it on a mission, a car, a wedding, or a house downpayment. I did some tax-loss harvesting in the 2008 bear market and it has grown well since. But we’ve never gotten around to starting one for the other three.

6) Max out 529s

We’ve never actually maxed out 529 contributions. With a limit of $28K per year per kid ($14K from each of us), we’re not even close.

7) Contribute more to family 529s

We’ve started 529s for some of the nieces and nephews, tiny amounts primarily to stimulate an interest in college and investing in both them and their parents. It would be great to put more money in those too.

8) More windows

My wife still wants to replace the rest of the windows eventually. I’m trying to be supportive but still haven’t forgotten that the last, very expensive, windows didn’t actually increase my happiness one iota.

9) Pay off the investment property

I’m trying to avoid getting upset that it still hasn’t sold at what I feel is a very reasonable price. Perhaps there will be an update by the time this post runs. [Update: It sold! Hallelujah!- more details in a later post.]

10) Saving up for next year’s contributions

While it’s cool that we’ve just about filled all the accounts by July, there’s really no reason I couldn’t fill them all in January if we really wanted to by saving up some money in the last few months of this year. Part of the reason for our financial success is we contribute to retirement accounts as early as possible, rather than as late as possible like many investors. This gives HSA, IRA, and 401(k) contributions 12-16 more months to grow in a tax-protected manner.

My daddy opened my 529 the day my SS card came in the mail

My daddy opened my 529 the day my SS card came in the mail

11) Expand our charitable giving

We would especially like to get our kids more involved in this.

12) Boost our automobile fund and vacation fund

The $8K we’ve got in there now isn’t going to go very far toward a new SUV when one or both of our 10-13 year old SUVs (each with 165K miles on them) eventually dies.

13) Work less

I’d really like to drop my night shifts. My group pays a heavy subsidy for night shifts, so that is actually a pretty big expense. But as I look at the above list, I think that would probably make me happier than any of those other uses for our money.

[Update 12/25/15- We ended up mostly doing the mortgage payoff fund (# 4,) but also did quite a few home improvements (# 8), more family 529s ( # 7), sold the property and paid off the mortgage (# 9), saved up for January Roth IRA, HSA, and 529 contributions ( # 10), and expanded charitable giving (# 11). I also put the family on the payroll and now have even more tax-protected accounts to max out.- more on that in a later post.]

What do you think? What do you plan to do with your “extra” money this year? What are you doing to get yourself into a position to have “extra” money? Comment below!