Dentists must pay attention to wealth management from the moment they graduate until the day they hand over the keys to their practice. After all, no one else is looking out for your retirement. It takes a combination of smart money management, saving diligently and investing in your practice to ensure you have a golden egg waiting at the end of your working life.
While keeping an eye on your money is a constant, the critical steps to building wealth differ depending on where you are in your career. In the early years your focus should be on dealing with debt, lowering risk and getting a good handle on tax planning. The middle years are all about maintaining good financial discipline and making the practice as strong as possible. As retirement approaches, there are important steps to take to prepare the practice for sale and get ready to enjoy the next part of your life. We take a look at what dentists should be doing to manage their wealth during all three phases.
The Common Denominator
Have a Plan
The three stages of wealth management have one thing in common. “At every phase of your career and beyond there should be a comprehensive written plan,” says Sam Martin, MBA, CFP, CPA with Dental Group Companies, which includes Dental Wealth Advisors LLC, DG Advisors and DG Transitions LLC and is based in Kirkland, Washington. The plan should outline your major goals, including buying a house, saving for the kids’ college education, traveling and enjoying leisure activities, and preparing for retirement. The plan serves as a roadmap for saving and spending, with plenty of markers along the way to show that you’re en route to fulfilling your dreams.
“We’ve found that the likelihood of achieving the goals you set out to achieve is much higher with a written plan and some means of ongoing monitoring of that plan,” Martin says.
When Josh Whelan, ChFC, CLU, CFP, a certified financial planner with The Whelan Group in Bellevue, Washington, first sits down with a client to create this plan, the conversation begins not at the beginning of a person’s career but at its terminus. “We might not etch this in stone, but I always ask them, ‘Where do you want to end up?’” he says. “From there we can work everything backward and say, ‘If that’s the most important goal, I need to do these things by this point.’”
There’s a saying that it’s never too early or too late to start saving for retirement. “Dentists should maximize their contributions early on,” says Mark Reynolds, CPA, a partner and shareholder at Jones and Roth CPAs and Business Advisors in Eugene, Oregon. Because of the nature of compounding interest, even small contributions at an early age can turn into big savings by the time retirement comes around.
The same is true of planning for retirement. Although starting that process in conjunction with entering the workforce is a good idea, there’s no wrong time to create an actionable plan for the future. If you don’t have a wealth management plan, contact an advisor today to start creating one.
Josh Whelan: “I generally encourage people to buy their practice before they buy their home. It increases debt payments, but more practically, I have a lot of clients who have bought a house in north Seattle and then found their dream practice south of Seattle. Either they bought the practice and grinded it out, or they decided the commute was a deal breaker and let it go.”
Save Money and Manage Debt
Whelan has plenty of conversations with young dentists who are preparing to buy a practice about the best use of a dollar. If they’re working as an associate, does it make more sense to put money toward paying down debt or increasing savings?
The answer is different depending on each person’s situation, but he does provide a few guidelines. When a banker evaluates a dental practice loan application, they expect to see a lot of student loans. That won’t scare them off. Many of these loans are federally subsidized, Whelan points out, which adds reduced payment options as your income grows. Because of that, paying down student loan debt shouldn’t be the top priority.
Instead, focus on paying off any credit card balances. “In almost all cases, banks see credit card debt as a symbol of, ‘I couldn’t wait to buy this so I have this credit card,’” Whelan says.
Banks also like to see that potential clients can manage money wisely. “If I save money in cash or a money market that’s easily accessible, I can easily demonstrate to a bank that here’s what I’ve earned and here’s what I’ve done with it,” Whelan says.
Protect Yourself and the Practice
Once dentists have a practice they should take all possible precautions to protect it and themselves. That means insurance—and lots of it. “We identified, at one point, fourteen different types of personal and business insurance you might need at one point or another in your career,” says Martin. On the personal side is home, auto and life. Depending on how the business is set up, the practice may need policies such as basic liability, professional malpractice, overhead, short-term disability and pension liability.
On top of insurance, all dentists should develop an estate plan, he says. “Even if you’re 32 you might need a transition plan because you need to know what happens to the practice in the case of death and disability. If you don’t have a plan you might be leaving your loved ones with a horrible situation.”
The practice should be incorporated in a way that protects your personal assets in the event of a lawsuit or other problem. Anyone who opens a new business should have a detailed conversation with an attorney about what type of legal structure makes the most sense. It also makes sense to revisit your incorporation type on a regular basis.
Engage in Smart Tax Planning
The business’s legal structure affects personal risk, but it also impacts how the business is taxed. “The biggest single thing that pops up in the category of wealth enhancement is proactive tax management,” says Martin. “Tax planning is to say, ‘Can we take proactive steps that will reduce our taxes or increase our after-tax return, which allows us to turn around and fund more into our retirement plan?’”
Every spring, when each client’s tax return is filed, Martin has a projection for the following year’s tax liability ready. “You never want to get behind and you always want to know what’s coming due,” he says. Each fall, he meets with his clients and goes through a set of tax planning questions. The list includes having a discussion about whether the current incorporation type still makes sense.
Jones and Roth also takes a tax advantage planning approach to helping dentists build wealth. One important thing to consider is how new equipment purchases will affect the practice’s tax burden, Reynolds says. Another important thing to look for is changes to tax law that might allow the practice to take new deductions (or require them to stop claiming deductions that are no longer valid).
Sam Martin: When it comes to picking an investment advisor, make sure you work with someone who is a fiduciary. That means they’re legally bound to make recommendations that are in your best interest, not their own. Find someone who is willing to help you set goals and meet them, not an advisor who simply wants to invest your money.
Increase Savings and Escalate Debt Repayment
Dentists enter the middle stage of their careers with most of their debt—possibly even their practice—paid off. “You own the ATM now,” says Whelan (or you will soon). “Our focus now is on how much cash we can pull out of that and where we can put it. Should we pay off debt? Save for retirement? Should we split the money into different objectives?”
Through the planning process, dentists and their advisors can prioritize how much money should be put to these different purposes. “I’ve used, just as a rule of thumb, putting 10 percent of your take-home pay to investments in the first phase [of your career],” says Martin. “In the second phase it should be 20 percent and in the third, 30 percent.”
“When we look at a practice, as a rule of thumb, for every million dollars of gross revenue there should be $400,000 of profit,” says Matt Adams, CFP, CLU, ChFC, a partner and certified financial planner at Jones and Roth. “You should put $100,000 to retirement savings and have $100,000 to live on.” The remaining $200,000 should be reinvested in the business through investments such as paying down debt and updating equipment or facilities.
Create Good Habits
It’s a good idea to identify how much money you need to reach goals such as funding retirement or college savings and set up automated contributions to accounts designated for those goals. Building good habits—now or even earlier in a career—will pay off mightily in the long run, Whelan says.
Have More Fun—But Not Too Much Fun
Fewer bills can mean more money for luxuries that seemed out of reach in the early days of a career. “You get to have more work-life balance now,” Adams says. “We talk to people about how they can achieve what seem like competing priorities because they don’t have to be.”
The important thing is to resist the urge to splurge. “Dentists have every reason to expand their lifestyle, but the caution is not to spend too much too fast,” Martin says. “Over the long haul you can have it all, but you can’t have it all now. Spread those expenses out and think about the trade-off. Is it more important for me to have a big house, more vacations or more money for the kids’ education? You absolutely get to have some fun, but you want to make sure you’re making choices that are in line with your goals.”
Revisit your wealth management plan and supporting financial information to make sure you’re on track toward hitting your saving and investment targets before making any major purchases.
Pay Attention to the Practice
As dentists become more focused on increasing the practice’s profitability, Reynolds uses a set of key performance indicators (KPIs) to examine whether important aspects of the practice’s production and expenses are in line with those at practices of comparable size in similar regions of the country.
Adams gives a few examples of how KPIs can help. “If you’re paying 120 percent of what your competitors are paying for supplies, those are places where you can go back and try to renegotiate a better deal with vendors or suppliers. If you haven’t raised your rates in 10 years you might want to think about doing that. You’re not going to lose people or patients if you bring them up to market rates. We’ll even get down as far as the efficiency of your hygienists and whether they’re paying for themselves.”
Once the dentist becomes less focused on paying down debt and more focused on sheltering the practice’s profits from taxes, Reynolds will often help them set up a cash balance retirement plan to ensure they’re maximizing tax deferred retirement contributions. “Adding a cash balance feature to a 401(k) profit sharing plan that’s already in place can allow the dentist to very quickly make large retirement contributions far exceeding the traditional retirement plan,” he says.
This may also be a good time to explore adding a business partner, Reynolds says. Bringing a younger dentist on board can make a practice transition easier once the time comes. Adding that person early also allows plenty of time to set up a legal structure that will make the transfer easier.
Mark Reynolds: If your practice can’t afford a traditional retirement plan in the beginning, set up a Simple IRA plan instead. “There’s no administrative cost. Each employee sets up an individual account. They can contribute up to $12,500 per year of their own contributions and the employer can match those contributions. They can contribute $3,000 more if they’re over 50 so they can catch up on saving.” When the practice is more profitable and well-established those accounts can be rolled into a 401(k).
Save, Save, Save
With debt nearly or entirely eliminated and retirement looming, priorities need to shift again. “Potentially we’ve got everything paid for at this point, and we should be socking it away like fiends,” Martin says. Extra cash should be directed toward retirement savings when it isn’t going to other priorities such as investing in the business.
Adding to a retirement account is vital even for dentists who own their business. “A lot of people assume, ‘I’ve put my heart and soul and money into building my practice and that’s going to be my retirement,’” says Whelan. “That’s something I try to bust right away. I encourage people to think of that as icing on the cake because we don’t know what the operating environment is going to look like in 20 years. If it keeps going in the same direction as general medical practice are, you may not sell it for much.”
Maximize the Value of the Practice
At this third stage it’s time to do everything possible to make the practice look attractive to potential buyers. This is when Reynolds will often really drill down on those KPIs and ensure all aspects of the business are in ship shape.
Begin Planning for Retirement
A few years before retirement the focus goes from earning and saving money to protecting it and making it last.
Just as there are strategic ways to spend money on the practice, there are many smart ways to get the most from retirement savings. Reynolds often advises people to draw on their retirement accounts before social security because it will increase the value of the latter. Accessing post-tax retirement accounts right after retirement, when a person’s taxable income is the lowest it’s been in a long time, can allow tax-deferred savings to continue to grow.
“Many dentists struggle to get their arms around how retirement will look from a financial perspective,” he says. “We create models to show them what it will look like.”
Occasionally Reynolds gets a dental client who has done such a good job of building wealth that they aren’t sure how to spend all their money. “That’s a nice problem to have,” he says. “We’re always happy to talk to people about their goals around estate planning, charitable giving or other ways to benefit their communities.”
Matt Adams: One way dentists can continue to draw cash flow from their practice after retirement is to retain ownership of the building and land where the practice is located and lease it to the purchasing doctor. “If you’re going to keep the building, make sure it’s owned by a different legal entity,” Adams says.