The Doctor's Bill: A Place To Tinker Decision ⋆ XRAYVSN

Johanna’s Take:

Dr. Hi Flagston and his wife, Lois, are running out of room as their family of 6 includes 4 children ages 5 and younger!

A detached garage combining a workshop along with a guest room will allow them to get out of the house for some peace and quiet tinker and fix things – and might encourage grandparents to visit and babysit more often!

It could also possibly add to the value of their property. (Since I cannot be sure of that, I’m treating this as pure expense.)

So – can the Flagstons’ afford to put another $240k into their house sometime in the next year?

Let’s see.

The positives:

· Mortgage debt only.

· As a family physician, I’d guess Dr. Hi is in the 90th+ percentile.

· Excellent savings rate of 33%.

· Living in a relatively LCOL state (although metro areas are more moderate).

The negatives:

· You’ll be more tied down to your house – and your job.

· Only $93k saved – will definitely need to borrow for the majority of this goal.

· 4 college educations in the future.

· Planning to RE at age 52 – should be saving more?

Assumptions (I will use conservative estimates wherever there is an uncertainty.)

· 6% average long-term returns on savings (Assuming no emotional mistakes in upcoming bear markets and corrections).

o By my calculations, you will have close to $6.5M at retirement.

· Average inflation.

· No more children.

· You have plenty of appropriate life and LTDI in place.

· No divorce.

· You invest in an appropriately-diversified portfolio and do not make any behavioral mistakes.

· No private school tuition.

· No significant financial assistance for other family members.

· Reasonably good health.

· TCJA 2017 does not sunset in 2025 and current tax rates remain in effect.

For college, I took Dr. Hi at his word and estimated $300k more needed in future dollars in 15 years (didn’t run the calc for each child).

For most colleges, $100k 15 years into the future will not be enough but NC has some great state schools.

We’ll hope for scholarships and, if necessary, assume the kids will supplement with student loans.

When estimating the effect of college on a portfolio for this exercise, I calculate the PV of the expected need and deduct it from the current portfolio.

As a result, I reduced the current baseline portfolio by $125,180.

The mortgage was a little trickier. I calculated the Flagstons’ annual surplus as follows:

Salary $500,000.

Savings (@33%) ( 166,500).

Living exp ( 140,000).

Taxes (fed/state blended rate of 32.39% ) ( 161,950).

Surplus $ 31,550.

Divided by 12, that gives Hi and Lois a monthly payment of ~$2,630.

Assuming an interest rate of 5% and a 20% downpayment, I used a calculator to solve for the term of the mortgage and came out around 7.5 years.

I’d recommend taking a 10-year loan and paying extra on it whenever possible.

Can they afford this?

We may be cutting it a little tight for two reasons:

· $6.5M in 18 years @3% is only ~$3.8M today.

While that does afford a lifestyle of $152k in total spending per year (taxes included), I don’t think many of our clients who would be comfortable embarking on a 40-year retirement today with only $3.8M in savings.

· I don’t believe $100k/child for college will be enough in 15 years.

They will likely want to save more.

However, it’s not all gloom and doom.

Let’s look at it this way – can’t a doctor earning $500k/yr afford to build a $240k addition onto his home?

What’s the real problem here?

To me, it’s the fact that Dr. Hi plans to retire in 18 years.

Practically speaking, however:

1. I believe his income will inflate and

2. I don’t believe he will fully stop working at age 52.

What makes me say this?

Experience with our physician clients.

By a wide range, the norm is FI, but not RE:

“I want to be FI in [8 – 15 years] so I can to work as much or as little as I want.”
Or “ I want to work ½ year and travel the other 6 months.”

And so on.

Plus, clients tend to underestimate their income in planning, for ex: “My contract is for $500k base, but I’m also getting production bonuses that I don’t want to count.”

I do think the Flagstons’ can afford the addition – but they should take the above caveats and assumptions into consideration and accept this: if 52 is a hard retire date, after which they will earn nothing else, then they should not plan on many more “big ticket” items in their lives going forward.

If another quarter of a million dollar want arises, they should also plan to adjust some expectations

Xrayvsn’s Take:

First off, I have to commend this doctor for achieving quite a remarkable feat of:

Having no student loan debt (or any other debt except for a mortgage for that matter).
Having a great household income of $500k/year despite being in a specialty (Family Practice) that typically is considered one of the lower paying specialties.
Having a praise-worthy savings rate of 33%.
Having a 7 figure net worth ($1.18M not including 529 plan values ($1.27M with)).

And all of this despite having 4 kids who are 5 years old and younger and only being 34.

To get to this level at this age when most physicians are still far in the red in terms of net worth is truly remarkable and likely post worthy in and of itself (if the submitter is willing, I would love to hear this story of how he achieved his current state of finances and put it on my platform.)

Now to get into the details of this particular request.

I am going to take the doctor at face value and have him exiting medicine at age 52 (18 years).

My view of his future medical income (and for any physician in any specialty for that matter) is not as rosy as Johanna’s take.

I do think there are a lot of things on the horizon that will challenge physician’s to maintain their current level of income:

Administrators will likely continue the trend of turning to “cheaper” mid-level providers with a subsequent smaller need for physicians who will take on more of the role as supervisors along with a diminished salary.
Healthcare costs in this country cannot continue on the trajectory it is on and there will be pressure to reduce cost with the physician salary as an easy target.
- Medicare has already made significant cuts to my specialty (Radiology) and it would be foolish to think that any specialty will be immune.
- As private insurance companies are often in lockstep with Medicare, reimbursement decreases across the board will then occur.
How will AI look in a couple of decades?
- Will it advance to the point where there is less demand for physicians?

Ok, enough of being a ~~Debbie~~ Doctor Downer.

My assumptions/method:

$500k household income will be stable for the entire time period in question.
Will take best case scenario of paying all cash (will drain liquid savings to a 3 month emergency fund level ($35k) and the balance comes out of brokerage account (not a good place to have money if anticipated use in one year).
Non-retirement assets outside of primary home will be required to support the family for 13 years prior to officially drawing on the tax deferred assets.
Savings will be steady at $165k/yr (33%) spread equally over 12 months and will earn 6% compounded annually.
- Scenario A: All the money is directed towards non-retirement assets.
- Scenario B: $25k will be towards retirement accounts, rest for non-retirement.
Because I am not in possession of advanced mathematical programs, etc, I am going to take the $300k underfunded college component out of the final asset value at time of retirement which coincides with the youngest child needing it in 18 years.
- This method presents a better outcome than in reality as money taken out earlier for the older children would not be earning money the full 18 years.

By paying cash for the detached garage using the above scenario, the doctor is left with a brokerage account value of $148k and $35k in liquid savings.

Scenario A:

Non-retirement at age 52.

Inputting starting point of $148k with $165k annual contribution into an online calculator yields a value of $5.5M.

Subtract the $300k from the total for the underfunded current college contribution and it yields $5.2M.

Using a SWR that I prefer (3.5%) suggests an annual withdrawal of $182k.

- Using an inflation calculator with 2.5% value, in 18 years (2037), today’s $100k/year estimated retirement need will be the equivalent of $156k/yr.

Tax Deferred at 65.

$280k with no further contributions will grow to $1.7M.

Using my preferred SWR (3.5%) suggests an additional SWR infusion of $59.5k.

Scenario B:

Non-retirement at age 52.

Inputting starting point of $148k with $140k annual contribution an online calculator yields a value of $4.75M.

Subtract the $300k from the total for the underfunded current college contribution and it yields $4.45M.

Using my preferred SWR (3.5%) suggests an annual withdrawal of $156k.

- Again using an inflation calculator with 2.5% value, in 18 years (2037), today’s $100k/year estimated retirement need will be the equivalent of $156k/yr.
  - Although at face value this scenario seems to give no margin of safety, there are a lot of mitigating factors that make it much safer:
    - It will only be for a period of 13 years before the retirement accounts come online and aid substantially. (see below).
    - The 3.5% SWR I am using also adds a lot more margin of safety than the more highly touted 4% SWR.
    - In times of great financial need the doctor can tap into the property equity or tighten the belt by eliminating discretionary expenses.

Tax Deferred at 65.

$280k with $25k annual contributions will grow to $3.8M.

Using my preferred SWR (3.5%) suggests an additional SWR infusion of $133k.

Going on the doctor’s estimated annual expenses dropping from $140k to $100k in retirement, both scenarios provide ample margin of safety that offset some of the favorable assumptions I made in my methodology.

The Decision:

Johanna: Thumbs Up

Xrayvsn: Thumbs Up