By Brian Hufford, CPA, CFP®
The term "financial freedom" has always been somewhat of a banal phrase to me. To young, high-energy dentists who are experiencing the consumer-based financial freedom of a high income from valuable clinical and business skills, it is an "I'll-think-about-it-later" topic. To dentists in their mid-50s and beyond, it is the nag of a reminder of impending mortality and the loss of the physical ability to pursue a loved profession.
Perhaps the only important thing about the idea of financial freedom is the reality that one must plan for life's transitions to avoid a prince-to-pauper one in later life: dinner today at Ruth's Chris, lunch tomorrow in the soup kitchen. In that regard, there truly is an important financial reality: one must align financial priorities throughout life to eventually replace working income with income from savings.
All dentists eventually retire. If they are financially savvy, they have sufficient savings to replace old passions with new ones. They do not sit around talking about the past. Just like monitoring important instruments piloting an airplane, there are five financial freedom "dials" that must be continuously monitored to replace working income:
- The Savings Dial: The one revelation you must experience to be on a path to financial freedom is that if you are unable to save 20% of your income every year, it is not an income problem, it is a management problem. Once the pilot is at cruising altitude, applying more power does not make the journey to the destination happen any faster. Whatever percentage of your income you are currently saving, this percentage would likely remain unchanged even if your income grew dramatically. I have seen too many dentists who earn more than $500,000 per year who are unable to save, to believe any differently.
- The Debt Dial: I have come to believe that the debt dial is akin to the ailerons in an airplane. One of the scariest skills a young pilot must learn is how to recover from a full-power-on stall, applying full power and pulling back on the yoke until the nose of the plane dramatically dips and control is lost. Applying all available cash to debt reduction feels like that to me. One can certainly soar at a rapid rate with full power and full-up ailerons, but cannot overcome the effects of gravity beyond the laws of physics. In finance, the law of physics is called compound growth from savings. To avoid a devastating full-power-on stall and loss of control, cash flow committed to debt repayment must not exceed 25% of income.
- The Tax Dial: Taxes are like an airplane's rudder. The winds of government confiscation must be constantly counterbalanced to maintain straight and level flight. Ironically, many dentists completely forget about the other flight controls and hope to arrive at their destination with only rudder control. Avoiding taxes becomes an end in itself, with full right rudder, flying in circles. With ongoing income tax planning, taxes can be maintained at 25% of income and cash flow, at least for now.
- The Large Purchase Dial: Large purchases are any expenditure in excess of $3,000 in any given year that is nonrecurring or discretionary. This would include expenditures for things such as college tuition for children, paying cash for dental equipment, or automobiles. To me, the airplane's compass is most akin to the instrument that must be monitored, such as large purchases, to safely arrive at the ultimate destination. Your ultimate destination is financial freedom, not living with your kids. Your compass must be maintained on the annual savings of 20%. This may mean detailed planning to avoid frequent 90- degree turns.
- The Lifestyle Dial: The lifestyle dial reminds me of the plane itself. My first solo flight, cross-country trip was in a two-place Cessna 152 to Terre Haute, Ind. This was not a very glamorous destination or a very glamorous plane. Two Air Force Reserve pilots decided to have some fun by flying in formation with me in Phantom fighter jets. Yikes! Whether it's a private jet or a Cessna, the combined Lifestyle Dial and Large Purchase Dial cannot exceed 30% of income or cash flow.
RELATED | Scheduling for maximum profitabilityIn summary, financial freedom is a beautiful island destination only reached by plane. You are the pilot. Monitor your dials and don't get lost.