by Brian Hufford, CPA, CFP
For more on this topic, go to www.dentaleconomics.com and search using the following key words: retirement savings, wealth, large purchases, Breakeven Syndrome™, Brian Hufford.
In working with members of the Academy of General Dentistry to determine how dentists can improve wealth creation, we have found four primary barriers that can block a dentist's ability to save. We ask dentists to save 20% of their dental income. The four primary barriers (Four L's) are: loan payments, luigi (taxes), lifestyle spending, and large purchases. If a dentist is unable to save 20%, one or more of the Four L's is out of alignment.
For younger dentists, the primary barriers to saving are loan payments and lifestyle spending. For older dentists, the primary barriers are taxes and large purchases. This column talks about how to keep large purchases from preventing your ability to save and create wealth.
What is a large purchase? We define a large purchase as any expenditure of more than $3,000 that is related to equipment, furnishings, or facility purchases or large expenditures for dependents, such as college tuition. A $50,000 esthetic dentistry advertising campaign on television is not a large purchase since it is a promotion expenditure that is part of the practice overhead. This expenditure can sabotage wealth also, but is simply part of the overhead expenditures that must be managed for practice profitability.
Properly aligned, with savings of 20%, the Four L's look like this: loan payments 25%, luigi (taxes) 25%, lifestyle 30%, and large purchases 0%. The truth is that there is no room for cash expenditures for large purchases unless loan payments or lifestyle spending are reduced.
When a dentist writes a check for new equipment (a large purchase) or for new furniture for the living room (also a large purchase), the ability to save can be compromised unless loan payments are less than 25% and lifestyle is less than 30%. There simply is no ability to pay cash for large purchases otherwise without sabotaging savings.
Older dentists, who typically need to increase retirement savings, may be confronted with the large purchase of college tuition for children. At the point in which significant progress has been made to eliminate debt later in a career, the large purchase of college tuition for two children can postpone savings an additional eight years. Many dentists continue to support children into their 20s until they become established in careers after college.
There are several strategies to make regarding needed expenditures for equipment and paying for college tuition, even when college savings are not available, without sacrificing the ability to save 20% of income. Saving 20% of income is not negotiable. The problem is never the problem. The problem is how we think about the problem.
It is not acceptable to stop saving when you have children in college or need new equipment for your practice. You must create strategies for saving 20% during the different phases of life, as one or more of the Four L's challenges your ability to save. If you do not, you will travel through life caught in the Breakeven Syndrome™ (see my column in the February 2006 DE for more about this syndrome) with no ability to save and no ability to exit dentistry.
We believe the right way to think about large purchases is to combine the overall allocation of loan payments and large purchases to equal 25% of income. The first task is to add loan payments, both practice and personal, to determine if this total exceeds 25% of income. For most dentists, loan payments will exceed 25% of income without large purchases factored into the equation.
If loan payments exceed 25% of income, debt must be restructured to lower the percentage. If you are not in debt, you could spend up to 25% of income for large purchases. Most dentists have debt and also need to make large purchases annually. The first strategy to keep the combination of loan payments and large purchases less than 25% of income is to have properly structured debt, then to avoid paying cash for large purchases if they will exceed the 25% limit when combined with debt payments.
Here are some strategies our clients use: Employ a line of credit in your practice and make large equipment purchases on the line of credit. Never pay cash unless the total of loan payments is less than 25%. At the end of each year, roll the line of credit purchases into a five-year term loan. For auto purchases, consider leases or longer-term, low-interest loan payments to prevent purchases of automobiles from sabotaging savings. For college tuition, when savings are not available, consider obtaining student loans instead of paying cash if a cash expenditure eliminates your ability to save.
The wealth creation potential in a dental career by saving 20% of income is $12 million. Don't let spending for large purchases threaten your ability to create wealth.
Brian Hufford, CPA, CFP®, is CEO of Hufford Financial Advisors, LLC, an independent, fee-only planning firm that helps dentists achieve financial peace of mind. Contact Hufford at (888) 470-3064, or at [email protected].