Once upon a time, dinosaurs and large dental retirement plans existed on earth. Then an “Investment Ice Age” swept the land, destroying the large dental retirement plans ... leaving most dentists frozen in place hoping the climate would change. How about you? Are you frozen in the past hoping the investment climate will thaw out your investment returns? Guess what? You can’t change the climate; you can only change how you adapt to it. Here’s how.
To illustrate the magnitude of the climate change, suppose that you had $2 million in your dental retirement plan in 1999, and were projecting future retirement assets with your financial planner. You had a conservative financial planner (at least for 1999 purposes), and he projected a return of 10 percent per year. Projecting to June 30, 2005, including additional pension savings, you would have expected your pension plan to have grown to $3.285 million.
Instead, if you had invested in the S&P 500 Index, your pension would have actually shrunk to $1.875 million in mid-2005, including your additional savings! If you had retired in 1999, and had taken $150,000 per year from your pension plan, the balance left by mid-2005 would have been only $669,000. Time to go back to work.
Is there any way to predict when an Investment Ice Age will happen? Economists say that a tool called the “Gordon Equation” is a good estimator of long-term stock market performance. The Gordon Equation basically adds dividends and earnings growth to create an estimate of future stock market returns. In the past 75 years, this equation yielded a return expectation in the S&P 500 of 11.20 percent per year. The actual return was 11.22 percent. However, for the future, this equation is predicting stock market returns of approximately 7 percent because of expected lower dividend yields. So, instead of returns in the 11 percent range, stocks may yield long-term investment returns in the 7 percent range. This might align with your gut feeling of expected lower returns.
To avoid the possibility of your pension becoming endangered - or even extinct - you need to save more! I suggest you adopt the following strategies immediately:
1 Save 10 percent of your practice’s gross production. If your production is $800,000 per year, this means saving $80,000 per year. This may sound very difficult, but it can easily be achieved in dentistry by properly structuring debt and capital expenditures. Most dentists lose $50,000 per year of savings potential with poor capital and debt planning.
2 Employ the best pension plan for your practice. Most dentists use SIMPLE and other IRA-based plans. These plans do not allow sufficiently large deductible amounts. The use of the right kind of qualified plan with the employment of a spouse can generate pension deductions of approximately $67,000 per year. This should reduce your federal and state income taxes by nearly $25,000.
3Compare your investment strategies and investment advisor with the current science of modern portfolio theory. You have learned the science of dentistry. Would you treat your patients with heresay evidence combined with emotions? No! Dentistry is an applied science. It is the same with investing. Read “The Four Pillars of Investing” by William Bernstein.
Instead of being frozen in the throes of outdated retirement strategies, it’s time to inject a radical era of global warming into your plans!
Brian Hufford, CPA, CFP®, is president of Hufford Financial Advisors, an independent, fee-only planning firm that is dedicated to helping dentists achieve financial peace of mind. Many dentists attend Hufford Financial Advisors’ Financial Breakthrough Workshops, which are offered in major cities throughout the U.S. Upcoming dates and locations are listed at www.huffordfinancial.com. Hufford can be reached at (888) 470-3064, or by e-mail at [email protected].