Dentist Money: Why Debt Isn’t Always a Bad Four-Letter Word – Episode 7

Do you feel pressure to pay off your student loans, practice loans, building, or mortgage? A lot of dentists are conditioned to pay off debts as soon as possible. But when managed correctly, the right amount of debt can be used to build your wealth faster and help you retire better. In this episode of the Dentist Money Show™, Reese and Ryan explain how to pay down debt and save for retirement in a balanced way.

Podcast Transcription:

Reese Harper: Welcome everyone; I’m your host, Reese Harper, here on the Dentist Money show where we help dentists make smart financial decisions. I’m here with my co-host, Sir Ryan Isaac. This week we’ve got a great show planned. We are going to talk about one of the most common questions we get from dentists which is, “Should I invest money or eliminate my debt?” We’re also going to talk about how to mix debt with investing—maybe the right balance if there is one, and then some mental roadblocks that cause people to make irrational decisions with how they reduce debt. Ryan, I’m going to let you introduce some of the situations where we see this. Maybe give us a little introduction to this topic.

Ryan Isaac: While we were going over this, we were trying to pinpoint which people ask this question a lot. We were asking ourselves, “Is this the most common question at any age?” And we pinpointed that it’s more common among a few phases.

Reese Harper: To say it’s the most common question might be a little bit of a hyperbole, but it is definitely in the top three.

Ryan Isaac: The first thing we thought of was that you recently spoke at a large state dental convention. It was a group of new doctors, 0-5 years was the crowd there I think. We had everyone write down questions, and 80% of the questions included that. The other kind of person we get that from a lot is a new doctor with a few years in practice who has more debt than he has cash on hand. He hasn’t started a real purposeful, consistent savings plan yet. He bought the practice a few years ago; there’s a little bit of money that piles up. He puts it on the student loan and does it again a few months later, not super consistent.

Reese Harper: Usually within the first five years or so. It’s just more of a balance sheet issue than time.

Ryan Isaac: But then we were asking ourselves, “Do our clients that are in their forties and nearing their fifties who have been in practice for a while and saved money for a long time, is it as common of a question?” I think it still comes up—how to eliminate debt. It’s still a really common question, but that group is definitely more worried about having enough cash to stop working eventually.

Reese Harper: It becomes more obvious at that point; you have to start piling up cash. But if they’re going through a big transition, a big improvement, or relocation, you see guys struggling with that too. They realize they are going to take on new debt when they are approaching retirement, in the latter part of their career. They don’t know if they should pay it off or how they decide on the mix.

Ryan Isaac: Well we have a few points we will hit. The first question when we were talking about this is, “Why do some people feel it and some people don’t?” Some people feel the pressure to hurry and pay off debt at the expense of investing now, and some people don’t feel the same way.

Reese Harper: I will list a couple, and I will let you take a couple. I think one of them, if you think about how long they have spent in school. Some people get done with undergrad in four years; other people have had a break from school, finishing up their undergrad, and it might be a six-year period of time before they are wrapping up their undergrad. Then you have graduate school, then residency. It could be 10-13 years; your buddies have been working for ten years, and you have been going to school the whole time. I think there’s some anxiety about the fact that you have been deferring all this income. You’re not making money, you’ve been building up debt, and you’ve pent up anxiety because you’re entering the work force really late. I think overall the pressure starts to mount over a long period of time, and that’s your only financial goal. You’re not thinking about entrepreneurship, a practice, and growing something—you’re just thinking about this debt that keeps piling up. The easiest way to build financial goals during school is all related to student loans. That’s definitely why students just getting out of school feel the pressure. What would you add?

Ryan Isaac: You’re touching on another, too: dentists typically have a lot more debt than the average person does. Most people don’t even have that much debt on their mortgages.

Reese Harper: It blows people’s minds when they find out how much debt a dentist carries.

Ryan Isaac: How much school costs alone.

Reese Harper: Before you get into the equipment, the TIs, the building, and the practice acquisition debt. You could have millions of dollars of debt, and that’s so foreign to somebody. Even starting a new Audi car dealership. It’s expensive to start a dental practice. It rivals almost any other startup. I don’t know a lot of startups that require that much debt. It’s not an option; you can’t boot strap it. You just have to sign up.

Ryan Isaac: There’s the location you want, that guy is retiring, and he wants a million bucks. What do you do?

That’s one of them. There’s a lot more talk from financial experts. When you read blogs about financial health and personal finance—debt freedom, and that’s the big one, right? Get out of debt at all costs, as fast as you can.

Reese Harper: Like you said, financial experts on a lot of the national talk shows are targeting the average American when they talk. The average American has a really disproportionally high amount of debt relative to their income. I wouldn’t say dentists are immune to those problems, but they have a different situation in terms of their median income is about five times the size of the median income of the average person. They are listening to the same talk shows though; do you know what I mean?

Ryan Isaac: Totally. I don’t know if we were planning much time on this part, but I always think about that when someone will bring up a national radio show where the caller is saying, “Hey I’ve got this $70,000 mortgage; I’ve got $7,000 on my car and $5,000 on the credit card—what do I do? I make $27,000 a year.” For the dentist to take that information and then assume that applies to a $400,000 student loan and a million-dollar building and a half a million-dollar practice. It seems like that should be really different advice. It should be separate.

Reese Harper: Totally. I just think that a lot of it is because it is so easy to define. It’s super easy to define that interest rate is high, get rid of it, that’s financial health. Of course, get rid of your debt. That’s an easy thing to do. You can see it every month happening, and it feels really good. I get that.

Let’s hit on why people might not feel pressure to do it. Those are examples of when people feel pressure, now what about people who don’t?

Ryan Isaac: I think there’s a number one reason why people don’t feel pressure to hurry and get rid of their debts.

Reese Harper: I would guess it probably has to do with how much they make or how much cash they have—how successful they are right out of the gate.

Ryan Isaac: Higher income, more cash.

Reese Harper: If you’ve got a lot of liquidity; if you bought a practice that’s super successful, and you have a lot of debt but the cash flow is there day one, I don’t know that you feel the same amount of pressure. It might sound counter intuitive; you would think that people who had the money would just write a check and get rid of the debt, but I think it’s the people who don’t have the money that feel the most pressure to reduce the debt quickly, because they feel like that’s the problem. The problem is the debt, and it’s stopping them. And while I agree with that, there is an excessive point that debt can really hinder your growth. The first month and year you get into a practice, you should not be thinking about hurrying and eliminating debt. There are so many other priorities you should start focusing on if you want to have a practice that has longevity and a personal balance sheet that is healthy. It’s a little more complicated.

Ryan Isaac: Yeah, I will always make that argument to friends or clients that if you took the same amount of debt you have today but just put $300,000 in your investment or checking account that you have access to, I bet you’re going to sleep better. I bet it is not going to bother you quite as much. But that’s a good one.

We have talked about how everyone has a different past and history with finances and being raised, and everyone has a different paradigm or view on money and finances, and that has to affect it at some point.

Reese Harper: I grew up in a place where income was fairly low. My dad did really well later on, but early on in my family’s life, all I can remember growing up is that we had this farm, and this farm was a huge burden of debt over my family’s life. I had a pretty negative association with debt, so for me it was natural to then say that I wanted to avoid that at all costs. That seemed like the thing that was the most burdensome that I had ever heard. And then on top of that there was all the low hanging fruit financial advice saying, “get out of debt.” For me, I had a very anti-debt paradigm. We will talk about that a little bit later, but I think your history with debt affects you a lot. If you didn’t have a negative association with it, and you had plenty of financial means and you saw parents and friends who were doing well, I don’t know that you would have that same view.

Ryan Isaac: It seems like you just view the debt as a means to an end—it’s the way you got to where you are.

Reese Harper: Yeah, and the pressure there is different. I don’t think they feel the same level of anxiety. Overall, I would say that some of these people don’t realize that debt actually is the foundation; taken to an extreme, it can create the problem we see in our government right now in our national deficit. If there’s an unlimited amount of debt, every dollar will be spoken for by every government agency, and taking that away is very difficult. Just like within a business, if you have payroll expenses, marketing budgets, the ways you are treating your patients, events, things that you do that are just part of your scheme of running your practice and you’re pulling back on that stuff and reinventing the wheel just to reduce overhead is nearly impossible. Once your payroll expenses are at a certain level, the only way you are getting rid of them is if people walk away and you have hard conversations. Debt really creates the ability for economies, countries, and businesses to modernize.

Ryan Isaac: So in a dentist situation as opposed to boot strapping and just paying as you go if you have the extra cash flow, there are moderate amounts of leverage that are rational amounts. I always make this argument too—how else do you get through a decade of dental school without some loans? Some people are fortunate to have family or military experience, or maybe they can work their way through it, but that’s just not that common.

Reese Harper: Yeah, and that’s the reason that our dental industry in our country is so much more advanced than other places. We have access to capital markets to put people through school, to allow them to purchase equipment, to allow them to purchase real estate. We have a healthier dental eco system because there is capital in those markets. Half the reason that emerging countries struggle is because they don’t have access to capital. It’s not because the people there don’t want to rise out of poverty. Banks can’t take your money and let it sit in cash and then not lend it and somehow stay afloat and keep up with inflation. Lending is part of our country, and it’s healthy when used in moderation, but it’s super dangerous when you are over leveraged.

That was a long theoretical explanation. I’m kind of upset right now.

Ryan Isaac: We will go back and add a disclaimer: this is a lot of theory in the next five minutes.

Reese Harper: If Reese starts seeming like he’s being a little upset with what’s going on nationally, and it sounds like it might not be related to dental with these undertones. I’m sorry.

Ryan Isaac: You either are mad or you didn’t eat.

Reese Harper: Focus in.

Ryan Isaac: The next big question people want to know is why should they invest now? They want to wait until they have their debt paid off because won’t they have more money?

My biggest argument to this every single time is behavior. I’m just going to argue that it will be so much easier to learn what it feels like to go through up and down markets as an investor with smaller dollar amounts than it’s going to be when you are in your late forties or fifties or just further down the road when the dollar amounts are a lot bigger. If you’re investing a few thousand bucks a month right now, that feels different than if you have paid off all your debt, and you’re going to bundle all those old debt payments into one and put a lot of money into this thing that you have never experienced before.

It goes into the next point which is learning what it feels like to save money automatically into your investments, which is different than knowing what how the investments move feels like. But just seeing that monthly amount go out like a bill that’s for your future and your retirement is important.

Reese Harper: If people treated their retirement savings like they treat their mortgages, you could almost guarantee retirement outcomes, but they don’t. They are very flexible. Mortgages take your house away if you don’t make the mortgage payment; your retirement nest egg doesn’t come back at you. If your retirement portfolio disappeared if you stopped making a monthly deposit, you would not miss one. I just feel like people don’t take it quite as seriously, so it’s good to get started saving money consistently and treating it like a disciplined part of your finances. It’s more important than your house in terms of your overall financial sanity and your long-term financial health. People are going to disagree with that because they love their houses. And I love my house too. And we all want a little bit nicer one out there. I’m sure you’re all listening thinking, well I like this house, but that next house.. that’s the one. But learn to automatically save money and be disciplined.

Ryan Isaac: So the behavior argument is rational—it just feels like it’s going to be easier to shape and mold behavior over a long period of time than jump right into it.

Reese Harper: Don’t make extreme shifts like that. Don’t shift where you are going from zero to everything. You could put yourself in a situation where you enter a bad market and that is probably what we should hit.

Ryan Isaac: Aside from the touchy feely, which maybe not everyone agrees with. That’s the behavioral argument we’re going to make all the time. But if we’re going to talk about data and facts then you look at market history, and one of the true main concepts of investing is the longer you give yourself, the better your chances are of actually capturing the return that the market is going to give you.

Reese Harper: All right all you left-brained people out there that want real facts and figures. Yeah, we can’t really get into this a lot because my legal council says if I say anything investing-related, someone out there is going to listen to this and say, “That was an actual personal tip he gave me, which I think is crazy.” Just don’t take anything I say as personal advice out there. Call an advisor. You should have a diversified portfolio, and that should be invested in a lot of different things, which is beyond the scope of today. But let’s take an example of a common index or a common market that you have all heard of, which is the S&P 500. This is the largest 500 stocks in the United States that are domiciled here. You look at different time frames to see if you are actually going to have a positive return. How about you hit one of them. What is the probability of a daily positive return? If I put $1,000 in today, what is my probability of having it go up vs. down?

Ryan Isaac: It’s not bad. It’s 54%.

Reese Harper: So I have a 54% chance of it going up. What we call that, and why this is different than gambling, is it’s a mathematically expected return. We call that an expected return—it means that, statistically, you have a positive chance of it going up. That’s when you know it’s an asset and it’s not Black Jack, because if you did that every day, there is a positive outcome. It’s almost every other day except for once every long period where you are going to have two days in a row where it goes up. If you went quarterly, it’s a little bit better. What is it?

Ryan Isaac: 58%.

Reese Harper: 58% on a quarterly. If you let yourself go to a year you’re at…

Ryan Isaac: 74% of the time over any one-year period, it’s going to be up or positive.

Reese Harper: And then five years?

Ryan Isaac: 86%.

Reese Harper: So if in five years I have an 86% probability of a positive return, there’s still a 14% chance that I have a negative return after five years.

Ryan Isaac: And it doesn’t say how positive.

Reese Harper: No, it depends on the period.

Ryan Isaac: Once again, the more time you give yourself, the greater the odds that you will capture some of those good periods.

Reese Harper: Totally, a ten-year puts you at a 94% chance. So you only have a 6% odd of having a negative return after a decade. But strangely enough, we just went through one of those ten-year periods, so if you felt like you just went through that it’s possible. I would just recommend you give yourself thirteen or fourteen years, and then you will be fine. It’s really unlikely, but a ten-year period is not a guaranteed positive return in an equity market. If you get to twenty years, statistically right now a twenty-year period, historically, there has never been one twenty-year period where that hasn’t been a positive return. We’re not making the argument today about where you should put all your money or how to invest it. We’re just making the argument about why delaying your investment life until your mid forties to late forties or early fifties, which is what we see a lot of the time, it starts decreasing the probability that you’re actually going to have a positive return and use equity markets to your advantage. You really don’t have these as a tool you can use if you wait longer. If somebody comes to me and they are fifty-five trying to retire in ten years, I have a harder time building a portfolio that can give them the returns that they want.

Ryan Isaac: You don’t have any time to take any risk either. You have erased the risk time horizon.

Reese Harper: That’s just a really important factor. Give yourself a long period of time so you can get a higher probability of return over your career. And you will have less pressure to hit a home run.

Ryan Isaac: That’s really boring advice though. You don’t have a hot stock tip that’s going to help me?

All right so the other side of that— to be fair, what are some situations that I should consider paying debt now rather than investing?

Reese Harper: Well one more tip about why you should consider investing now rather than later. We have this situation happen all the time where someone tells me, “I’m going to be debt free in seven years.” And then I ask them how they calculated that. An example is someone telling me that they save $8,000 a month right now; they looked at their debt and it’s $470,000 and they ran the numbers. And I tell them their taxes are artificially low because they just bought that practice or building. So as those taxes come up, they are not going to have as much money left over every month as they do right now. It feels great now, but that won’t continue because taxes need to rise. So that tacks on a couple more years. The flip side is, they are operating without digital x-rays yet. They don’t have equipment; they have old gear and an old office. Maybe they have a new office, but they have old equipment. They are assuming over ten years they are not going to have any more major expenses, which is not likely. No medical bills or house improvements? So if someone says seven years, it might be more likely that it will at least be 10-12 or even double. I do like the idea of just saying, “while your debts won’t be reappearing at the level you started with, they will come back. And it’s very difficult to become entirely debt free as a dentist until quite a bit older in your career at which point you have left 10-20 years pass of just learning these investment, life, budgeting and planning lessons that you are going to need to have until you’re eighty-five.” So I just like that behavior a little better.

As long as the following items are not really causing you trouble. So why should you consider paying down debt now rather than investing more?

Ryan Isaac: The first reason that comes to mind is that if your savings rate is high enough. You have a savings rate that is consistent.

Reese Harper: So savings rate is the percentage of your personal gross income that you have left over at the end of a year, whether that is just piled up in your business checking or you’re throwing it at extra debt payments or putting it into retirement accounts. Think of it as the percentage of your gross income that is extra left over.

Ryan Isaac: Out of the left over money, if you can consistently put between 20-25% of that away, broken down monthly or annually. If you can consistently do that without breaking from your behavior, then I would comfortably say that’s probably going to be enough for you to get to where you want to be when you want to stop working. Any excess cash on top of that, feel free to pay some debts more aggressively, or take a vacation, build a new home, or buy a new car.

Reese Harper: Some people are listening to that thinking that their savings rate is 5-8% and that is where we would say, “Exactly, that’s the problem. What is your debt rate? What is your tax rate?” Once you have a healthy financial picture, 20-25% savings rate isn’t impossible. That will just naturally happen.

Ryan Isaac: Would you say that our clients are somewhere along that rate on average?

Reese Harper: Yeah, that’s a pretty good average savings rate.

Ryan Isaac: Somewhere in there compared to a national savings average of between 3-5%.

Reese Harper: Now it’s not when you first bump in to people, but after they fine-tune just a few items and get a little bit more organized.

Second, why pay down debt now rather than investing more? I know some people in my family and some of my friends have such a visceral hatred for debt. It burdens them forever. They just can’t function without it. And that’s a financial personality. That’s a behavior that has either been learned or condition, or something you just don’t feel comfortable with, and I get that. Regardless of all the benefits that we’re talking about of a more balanced approach, if you started going down this other road, you would just quit. You have a market dip; you don’t like the mental anguish of the debt. You have a brother-in-law that tells that you just have to keep paying down debt 24/7, and eventually it just wears you out. If you’re not going to stick with a balanced approach, it’s better not to get started in the first place. You are putting capital at risk by investing money that doesn’t have a 100% probability of return every year. You don’t want to quit doing that.

What’s another one you can think of?

Ryan Isaac: When your amortization schedules are close to being done.

Reese Harper: Maybe a few years out.

Ryan Isaac: But when I hear that, I always think of how the average dental loan is ten years probably, even 15-20 years. Whenever we have clients who are within 3-5 years of being done, it’s just because they have been paying on it for ten years anyway. And they might have enough cash to write a check for that remaining couple of years if they want to.

Reese Harper: I guess in our internal language we have a little statistic we track called “Weighted Average Maturity” which measures if the dentist were to just take his debts and snowball them, when one gets paid off you take the money and put it on the next one, and how long would it take. Some people are literally 16-19 years, that’s how long it will take to snowball all their debt. That’s one extreme end of the range, and you have other people that might only have two or three years or less. That’s what you’re talking about, is that low end of the range. If you’re really close and you have a high preference for that and you already have an emergency fund, then it’s probably fine.

Ryan Isaac: What about if you just have a really ugly loan? Bad interest, bad terms.

Reese Harper: If you Google the Wall Street Journal prime rate, there’s a lot of different indexes that banks use for their debt, but you have this prime rate and usually there’s a spread or an amount they add to it so as interest rates go up they know how to price their loans. Very few banks for commercial lending actually use the Wall Street Journal prime rate, but it’s one you can Google quick and find it easy. So if you add 2-3% to the Wall Street Journal, I would say you are probably slightly above where the market is. If it’s plus 4%, you’re out.

Ryan Isaac: In today’s rates, this will be different whenever someone ends up listening to this, but it puts you in the 6-7, and compared to today what you can get for dental loans, then that would be good.

Reese Harper: So if your rate is too high, I wouldn’t want to carry that debt if it was excessively high. Sometimes people get loans that just really weren’t structured well.

Ryan Isaac: Maybe we can recap some actual things that people can do to have a balanced approach to debt and investing.

Reese Harper: A couple other really quick items, if you have a really high debt-to-income ratio, meaning it will be impossible to free up any cash flow, you have to start getting aggressive with debt reduction. So if north of 50% of your income is going to debt service mandatorily every month, it’s going to be really stressful to make any progress. So it all depends on the actual percentage of your income that goes towards mandatory debt payments. If it’s too high, you’re going to have to rethink it.

Ryan Isaac: Sometimes you just have those little loans that are clogging up the balance sheet, and it goes back to the point of paying off loans feels very tangible. There’s something very emotional about that.

Reese Harper: If there’s a small equipment loan that was 0% for a couple years…

Ryan Isaac: The old CEREC machine that’s in the corner. Some love it.

Reese Harper: That one will be a little bit larger expense probably, but it could have been a deal.

Ryan Isaac: There could be ten grand left on it, and you’re just like let’s get rid of it. Or a lot of people end up having all the different groups of student loans, and then you have the $6,000 one that’s sitting there.

Reese Harper: Sometimes it’s just nice to clean up a little bit to make sure your loans aren’t impossible to track. So I think those are probably situations where I would want to pay it off faster.

Let’s wrap up by giving them a summary on how we think debt reduction and investing should be done. Paying down debt and investing are both super important elements of your finances. I think it’s very good advice to say that every dentist should do both at a reasonable pace without sacrificing one for the other. I think people will have a hey day with this looking at their investments saying, “well it depends on what my rate of return was. You led me down the wrong road.” And look, I have no idea. We might have a negative return equity market for the next decade. We might have a positive 15% equity return. You don’t know. That’s not the point. The point is, you are applying the best probabilities here that we have. And the best probability is for you to approach this in a more balanced way so that you can learn the right skills and come out on top and be more independent and more self-reliant with all the knowledge that you need to get through a fifty-year financial career. You are going to be dealing with finances from age 65-90. I just think it’s healthier, and it promotes a stronger personal balance sheet. That’s my perspective on it. And I think that’s a good place to end it.

Ryan Isaac: Thanks for listening today. As always, please leave us a review on these podcasts. It gives us good feedback. If you want more information go to our website dentistadvisors.com. You can sign up for our free newsletter on there. And if you want to chat with us, give us a call. Our number is on the website, or you can click on a link at the top and see our calendar and schedule a time to talk to us.

Debt & Financing