Collier and Associates
Dear ASDA Member,

This is the second in a three-part series on PRACTICE AND FINANCIAL MANAGEMENT for the future dentist.
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For over forty years, Collier & Associates has provided legal, tax and consulting advice to dentists and their advisors. Through our twice-monthly newsletter, the Collier Advantage, and our continuing education seminars, we keep dentists current with the latest on tax savings ideas, investing, practice transitions, retirement and education savings, insurance (what you need and what you need to avoid), estate planning and asset protection.

This e-Newsletter is on “Saving and Investing.” (The topic of the first part in the series was “Practice Transitions.” This was a comprehensive review of all of the key issues affecting a young dentist joining a practice as an associate or contemplating buying into a practice. It was sent by email on November 2, 2011).

The purpose of the current e-Newsletter is to expose students to some of the basics of investing and the importance of long-term savings. With very few exceptions, it will be nearly impossible to one day retire comfortably unless you understand (and follow) the basics. Many of our clients tell us that they wish they had this sort of instruction while they were in dental school, rather than learning the principles through trial and error over a long time period.

Understanding Money At The Most Basic Levels Can Help Make Some Of Your Most Important Decisions Easier

There are only three ways to make money:

(1) From our own labor. Once you graduate and start working, you will certainly make money this way.

(2) From the labor of others. This is easier for a business- person. The possibilities are more limited for professionals.

(3) Having our money grow and work for us through compounding. This is critically important. In time, our money can make more for us in a year than what Nos. 1 and 2 can produce. Wasting this is criminal.

How Money Grows (#3 Above)

There are three ingredients that will determine how much your money will grow to:

(1) How much you save each year. Obviously, the more you save, the bigger the amount at the end.

(2) How well you invest your savings. Obviously, the higher your investment rate of return, the more you will have at the end.

(3) How long you let your money compound. Interestingly, this is likely more important than Nos. 1 and 2. Sadly, by the time many most people grasp this power of compounding, they have squandered the early years - the most potent part of compounding=s power.

The next two items show how these most basic principles can help a young doctor understand the incredible power of getting into the habit of saving something every year.

The Power Of Compounding

Albert Einstein was once asked what was the most powerful force in the universe. His answer: Compound interest. Some approximate rules of thumb: at 6% money doubles every 12 years; at 7% every 10 years; at 8% every 9 years; at 9% every 8 years; and at 10% every 7 years.

Young Doctors - The Ease And Power Of Starting Early

The goal is to get as many doublings as possible. The earlier we start, the more doublings we get. True, the amounts saved early are lower than what we can afford to save later, but the more doublings of the early, smaller amounts can more than make up for that. Too many young doctors think saving small amounts is unimportant. They implicitly are saying AI=ll wait until the amounts I can save are meaningful.@ Thus they fall into the trap of beginning their careers with the habit of spending everything they make. That is a terribly difficult habit to break. Somewhere in their fifties, reality sets in and they must catch up with very large savings. They squandered the early years when compounding would have done their heavy lifting - either out of ignorance or an unwillingness to tell themselves or their spouses that we can=t spend everything we make. 

Getting it right is not much more difficult for a young doctor than just keeping one=s rising standard of living a year behind one=s rising income. That permits us to save something every year. If we set our standard of living at our yearly income, we save nothing. Delaying gratification by as little as one year is the difference between becoming wealthy and not becoming wealthy. Benjamin Franklin called this the difference between happiness and misery.

An Example For A Younger Doctor

Let=s assume a 50 year old can save more ($50,000 per year) and can invest at a higher rate of return (10% or 12% or 15% - this is probably unrealistic in the current economy, but these growth rates are being used to prove a point); vs. a 30 year old who can save less ($20,000) and can invest at a lower rate of return (7%). Who has more at age 65? This shows the power of compounding - that starting early can more than overcome saving less per year and earning less on it:

                            Annual Saving   Rate of Return   Number of Years   Amount at Age 65

30 Year Old           $20,000                     7%                       35                         $2,764,738

50 Year Old           $50,000                     7%                       15                         $1,256,451

50 Year Old           $50,000                    10%                      15                         $1,588,624

50 Year Old           $50,000                    12%                      15                         $1,863,986

50 Year Old           $50,000                    15%                      15                         $2,379,020

To match the $2,764,738 of our 30 year old, the later starting 50 year old would have to save $110,022 per year if earning 7%; $87,017 if earning 10%; $74,162 if earning 12%; and $58,107 if earning 15%. The combination of starting early, staying the course, and letting compounding do the heavy lifting is so powerful, it should be part of every dentist=s professional school education (and spouses and significant others should be required to attend the course).

Specific Advice to Dental Students

When we lecture to senior dental classes, we always make a point of telling the students that they should get into the habit of saving money every year – starting now. This is often met with a look of bewilderment by students who plan on graduating with hundreds of thousands of dollars in school debt. We are not talking about saving a lot of money. If you can save $20 per month (an amount you can probably live without having), that is $240 per year. And even with the power of compound growth, it will take a very long time for that to amount to much. But, that’s not the point. More important than the amount you are saving is the fact that you are actually starting the savings habit. Getting into the habit of saving something every year is the key.

When you graduate, you may take an associate job paying $100,000 per year. That will feel like a tremendous amount of money. You will discover, however, that it is very easy to spend all of $100,000 whether it is used to pay down student loans, to buy a home or to simply buy then things that make you happy. As you progress in your career and your income rises, you will find that you are fully capable of spending all of $200,000 or even $300,000. In other words, you can spend everything you make in which case you will never start the savings habit.

Roth IRAs for Students and New Dentists

If you have not done so already, open a savings account at one of the discount brokers or mutual funds families like Vanguard, Fidelity or Charles Schwab. If you have any earned, W-2-type income, you are eligible to open a Roth IRA. This will be your savings account of choice. Savings put into a Roth IRA go in with after-tax dollars, but the long-term growth can be withdrawn in retirement tax-free. If your earned income is modest, you may not be subject to any current income tax. For 2012, the standard deduction, which all taxpayers are eligible for if they don’t itemize their deductions, is $5,950 for individuals and $11,900 for married couples. If your earned income is below these thresholds, you will pay no income tax, and you get the long-term tax advantages of the Roth IRA cost-free.

Keep the Investing Simple and Straightforward

When it comes to investing this money, if you are investing relatively small amounts, you can simply put all of it into a broad based stock index fund like the S&P 500 (500 of the largest U.S. public corporations) or perhaps the Wilshire 5000 (the total U.S. stock market from large caps all the way down to small and micro caps). In terms of having exposure to foreign markets, you can own a foreign stock index fund. However, many U.S. companies are now generating over half of their income from overseas. This makes them a good way to invest in foreign and emerging markets which have faster growth rates than the U.S. and the more developed Western countries.

For a student or a young doctor, we generally recommend against owning bonds. Currently, the interest being paid on bonds (their yields) is near their all-time lows. But more importantly, the benefits of owning bonds, such as their lower volatility and their predictability of interest payments and bond maturities, are important to an older person planning a retirement. They are relatively unimportant to a younger person who is investing for long-term growth.

Stock Market Volatility is Stomach-Churning but is the Friend of the Long-Term Investor

The volatility that comes with stock investing can be harrowing for someone approaching (or in) retirement, but it should be a non-issue for a young doctor on the cusp of beginning a career. Stocks will be volatile investments. But that does not mean that they are risky investments. The concepts of “volatility” and “risk” are often thought of as meaning the same thing, but they are very different concepts. Volatility measures how much a particular investment might move up or down in price. Risk, on the other hand, is harder to quantify. Risk is the likelihood that an anticipated investment outcome will not come to pass. Stocks are always going to be volatile, but this does not necessarily make them risky.

The key factor is your time horizon. For example, if you know that you will need money in a couple years to make a down payment on a home, then do not put this into stocks. Over a short time period, this will indeed be a risky move. However, if you are investing your savings for your eventual retirement, then investing in stocks is not risky. Over one-year, three-year or five-year time periods, there is no telling where stock prices may be. However, over longer periods, we know that stock prices will be higher and usually substantially so.

While stock prices may be all over the place from year-to-year, over long periods, they move higher. Looking at the last 85 years (1926-2010), stocks have ended the year higher than they started 61 times. This is 72% - nice, but hardly something to bank on. Interestingly, as the measuring period expands (five-year rolling periods, ten-year rolling periods, etc), the riskiness of investing in stocks decreases. Since 1926, there have been 81 five-year rolling periods (1926-1930, 1927-1931, etc.) and in 70 out of these 81 periods, stocks have ended the five years higher (86% of the time). In 72 out of the 76 ten-year rolling periods, stocks ended higher (95% of the time). And in all 66 of the twenty-year rolling periods dating back to 1926, stocks ended up. This includes the years of the Great Depression, the high inflation and low growth era of the 1970s, and the current economy of the Great Recession.

If you have some perspective about stock market history and you also know that major volatility in stock prices is normal, you will be better equipped than most new investors. You should realize that when there are big drops in stock prices, this does not mean that stocks are suddenly “risky” long-term investments. Instead, you will be able to take advantage of these occasional times when everyone else is frightened to add stocks to your portfolio when they are selling at bargain prices. In other words, for a long-term investor (which is what you are), volatility will be your friend, not your enemy.

Investing vs. Paying Down Debt

When you have some money to invest, you will inevitably wonder whether you should use the money to invest or to pay down debt. Like many things in life, the answer is “it depends.” Ben Franklin was right when he said that a penny saved is a penny earned. Prepaying a debt with a particular rate of interest is the equivalent of investing in a bond that pays the same yield. But, from a purely economic point of view, you should put the money to work where you think it will earn the highest long-term rate of return. Stocks have historically returned around 10% per year – though this is far from guaranteed. Prepaying an 18% credit card debt is actually an 18% guaranteed rate of return, and all of the available money should be used for that.

However, if the choice is between a “hoped for” 10% return in stocks vs. a guaranteed 5% prepayment of a student loan, then the answer is much more nuanced. You may be of the mindset that your stock investments will yield the long-term higher returns and put all available cash into building up your stock portfolio. Or you may have more of an old world mentality about being out of debt as soon as possible, so you put all available money into that. Unless you are using the money to pay off a very low rate (and tax deductible) home mortgage, there is nothing wrong with this approach. On this issue of investing vs. paying down debt, do what feels right for you. By definition, that will always be the right decision.

Final Thoughts

These are exciting times! Graduation is in sight and you will soon begin a fulfilling and successful career. The last thing on your mind is retirement. That’s understandable, but you should begin taking the steps now (even in dental school) to put yourself on the right financial track.

Based on over 40 years’ observation, the doctors who have retired the wealthiest got rich slowly by doing three very basic things: (1) they saved something every year. They did not save excessively to the point that they deprived themselves of the things they wanted or needed; (2) they invested the money simply and sanely. These doctors did not exotic with complex investment strategies but invested with a long-term approach in a sensible mix of stock and bonds; and (3) they avoided the big mistakes that drained capital or took years to recover from. The single biggest financial mistake dentists make is getting divorced. Half of what has been built up over their career walks out the door. Unfortunately, there are dentists who never learn, and get divorced on a repetitive basis. For a multitude of reasons, be certain that you get the biggest choice you will have in your lifetime (the selection of your future spouse) right.

Now is the Time to Start!

In the third and final C&A e-Newsletter on PRACTICE AND FINANCIAL MANAGEMENT, we will summarize the real-world advice that we’d give to a young doctor at the beginning of his or her professional career.

The Collier & Associates Doctors’ Newsletter (the “Collier Advantage”) is now free to dental students. The bi-weekly Collier Advantage is the widest read dental newsletter of its kind, covering the latest on tax savings, investing, insurance, transitions, practice management and more. Call our office at 216-765-1199 or visit to register.

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