Bestselling author, James Clear, says, “90% of success comes from focusing on the simple and obvious things for an uncommon amount of time.”
Perhaps, there is nothing more simple and obvious in financial planning than the concept of saving. Consistently saving money is by far the most impactful behavior when it comes to reaching your retirement goals.
Notice I didn’t say the easiest. Simple and obvious can still be very difficult in application. Especially when the results take a lot of time to notice.
Let’s break it down.
Saving is harder for dentists
I’ll give it to you straight; dentists often don’t save enough money to maintain their lifestyle in retirement. This is one of the reasons why you retire seven years later than the average American.
It’s understandable, and there’s a couple of reasons for this.
First, dentists usually need to save more money than the average person. When you make more, you’re likely to spend more. We call it lifestyle creep. And when you spend more, you have to save more to maintain that lifestyle later in life.
The second reason is more biological, and one that applies to all humans.
Imagine you were offered the following two options:
Option A: You can have $500 now
Option B: You can have $1,000 a year from now
If you’re like most people, you’d take option A. Money now feels better than waiting a year—even if you’d get twice as much. This is what psychologists call temporal discounting. Our brains put lower relative value on future rewards compared to rewards in the moment. Even if those future payoffs are objectively better.
It’s the same reason eating healthy and exercising is hard. And really why anything that requires you to push off a reward to the future is hard. Your brain is actively working against you.
The result is usually a lot of stress and anxiety. When you don’t save money you have a lower margin of error with financial decisions. Most times, dentists react by trying to work themselves out of the problem—with longer hours or extra years. But it shouldn’t be such a grind.
There are steps you can take right now to start getting out from under your stress around money and saving.
Understand the flow of cash in your life
You may hear a term in financial planning called cash flow. Let’s explain what that means.
As a dentist, you make income from two main sources:
- The salary you make as an associate and/or the salary you pay yourself as the owner
- Business profits (if you’re an owner).
Once you make that money every month, quarter, or year, it has to go somewhere. In a nutshell, that’s what we mean when we say cash flow—the flow of money in and out of your life.
Start by recognizing there are only four places your income can go:
- Spend it
- Pay off debt
- Pay taxes
- Save it
Cash flow for each of these categories can be measured with a simple equation to create a ratio—or a financial health indicator that helps you quickly understand how well you’re managing your ongoing income.
And the most important one is your savings ratio, which is the amount of money you’re putting toward your future divided by your total income.
To be more precise, future is defined as anything beyond one year. And savings would be money that goes into an account or asset that increases your net worth.
For example, if you’re putting money away for a big vacation or a new car later in the same year, we wouldn’t define that as savings. That’s just delayed spending, and it doesn’t increase your net worth. Compare that to money you’re saving in an IRA which is increasing your net worth and won’t be used until you retire.
Here’s an example of how to calculate your savings ratio:
Let’s say you make $240,000 per year, which is $20,000 per month (before taxes). Assume you’re saving $3,000 per month between your 401(k), Roth IRA, and brokerage accounts.
You divide $3,000 by $20,000, which means 15 percent of your income is going to saving for the future.
The order matters
As I mentioned above. There’s only four places your income can go. Spend it, pay off debt, pay taxes, or save it.
And this is usually the order people follow. For most, you save what is left over after you take care of the first three. Which brings us to the next way to relieve the stress.
Warren Buffett has a classic quote that goes:
“Do not save what is left after spending, but spend what is left after saving.”
If you followed this advice, you’d never have to worry about a budget ever again. Ok, maybe that’s not true. But it would simplify your budget down to two categories:
- Savings
- Everything else
We call this reverse budgeting, and it follows the logic of paying yourself first before you do anything else.
This might scare you. You might think, “What if I don’t have enough left over for spending?” You will. I’ve seen this time and time again.
Instead of relying on willpower to save your way to retirement, create a system of savings. There’s no simpler system for saving than the reverse budget.
Set up a separate account (like a brokerage account) and send a set amount of money there every month. Don’t even let it come to your personal checking. Make it automatic and consistent. You’ll adjust quicker than you think. In fact, most dentists we talk to don’t even notice the change after a month or two.
Once you’ve been doing it for three or four months, review your cash flow again. Then increase your savings rate, if possible. As your income increases, so too should your savings.
A healthy savings ratio
For a dentist, we recommend saving (and investing) between 15-20 percent of your income over the course of your career. Do that for 30 years and you are very likely to be financially successful.
If you can’t save 15-20 percent of your income at first, that’s okay. Start with 10 percent. Or 5 percent. Just start. Don’t let the pursuit of perfection be the enemy of your progress.
In his bestselling book, The Psychology of Money, Morgan Housel wrote about Warren Buffett:
“His skill is investing but his secret is time.”
The key to all of this is patience. Time is the secret ingredient. The magic.
The progress will be slow at first. At times, it may even feel like you’re not making any progress at all. Remember, most success comes from doing the simple and obvious things for a long time. Develop a system for savings and stick with it. That’s how you’ll replace the anxiety of keeping up with the confidence of being in control.
Matt Mulcock, CFP® is the CEO of Dentist Advisors. In addition to advising dentists across the country, he oversees advisor development and the implementation of service improvements. Matt is co-host of the Dentist Money™ Show podcast and author of the “Money Matters” blog. Learn more about Matt.