Value of advice: “I just graduated from medical school. Should I focus on student loan repayment or on saving for retirement?"
The value of financial advice: An MD-guided process. This series from MD Financial Management (MD) illustrates financial situations faced by Canadian physician households, along with our planning process to solve problems and help you achieve your personal goals. While these composite case studies do not portray any single individual, they do reflect real-life conversations MD Advisors* have with physicians and their families every day.
Shaun, 30, just graduated from medical school and started his first year of a family medicine residency in Edmonton. He lives with his fiancée, Angela (29), in a rented apartment near the University of Alberta.
After completing his two-year residency, Shaun plans to join a group practice to work as a family physician. Shaun and Angela would like to get married in the near future, buy a home someday and eventually have children. As a couple, they're not tied to living in Edmonton long-term. Angela is originally from Ontario and would love to move back home. As a freelance photographer, she is flexible with her time and feels like she can grow her business whether they stay in Edmonton or relocate to Ontario.
The challenge: "Should I focus on paying back student loans or retirement savings?"
While Shaun expects his earnings to grow considerably in the next two or three years, he can't help but feel overwhelmed by the amount of student loan and medical school debt he incurred over the past eight years.
Shaun is concerned about his ability to pay down his debt, plus save for a wedding and buy a home. He's also keenly aware of his age, and lack of any retirement savings to date.
"I'm starting my career later than the average Canadian and have significantly more student debt. It feels like a big hill to climb to get out of debt, start a life with my partner and save for retirement."
Furthermore, rising interest rates have Shaun nervous about his debt load. He is itching to start repaying his loans.
The numbers: The couple's financial picture
The analysis: An MD Advisor's fresh eyes
Shaun was apprehensive when he reached out to Sarah, an MD Advisor. He thought a financial advisor wouldn't be able to help him until he was more established in his career and had assets to invest. He felt slightly embarrassed that he was starting his 30s in debt and with no savings.
Sarah eased his fears right away, assuring Shaun that he can accomplish his goals — especially with a solid financial plan in his back pocket.
"Most of Shaun's peers are in the same situation," said Sarah. “Working with an advisor is a smart move, it gives you a 30,000-foot view of where he's at."
Many people in their early 30s feel immense pressure to tackle a number of competing financial goals. By stepping back, we see that it's not as overwhelming as Shaun first thought.
Take the long view
Shaun's salary during his two-year residency will be somewhere between $60,000 and $65,000 per year. That, combined with Angela's income, gives the couple approximately $100,000 of gross income to work with.
The good news is that the couple learned to live frugally while Shaun was an undergrad and during his time in medical school. Their annual spending, after taxes, remains around $48,000 today.
That leaves Shaun and Angela with a positive cash flow of about $2,000 per month to allocate toward debt reduction and savings goals.
Sarah encourages Shaun to take a longer-term view of his finances and not bite off more than he can chew by trying to aggressively pay off debt, save for short-term goals and invest for retirement on a resident's income.
Indeed, after two years, when Shaun starts practising as a family physician he expects his annual gross income will jump to $244,000.
Show some grace
Shaun does not have to start repaying his Scotia Professional Student Plan Line of Credit until 24 months after he finishes his residency (although interest will accrue during the repayment grace period).
Similarly, Shaun's Canada Student Loan comes with a six-month "non-repayment" period, and the federal government has suspended interest on Canada Student Loans until March 31, 2023.
Sarah reminds Shaun to take advantage of his interest-free and non-repayment grace periods during his residency, while his income is low.
First things first
Shaun and Angela would like to get married within the next two years and expect a wedding might cost approximately $20,000.
They'd also like to buy a home within five to seven years. A detached house in Edmonton might cost $500,000, while a house in Angela's hometown of Barrie, Ont., might cost closer to $900,000.
Sarah runs a cash flow projection showing the couple how they can save for their shorter-term goals now, during Shaun's residency, and then accelerate their savings and debt repayment when his income quadruples.
The cash flow projection also highlights the difference between making RRSP contributions when Shaun is earning $240,000 per year (at a marginal tax rate of 47%) versus making RRSP contributions today while earning just $60,000 per year (at a marginal tax rate of 30.5%). Sarah explains how Shaun is still earning valuable RRSP contribution room that he can take better advantage of in his higher income years. Meanwhile, if Angela's income remains in the 25% marginal tax bracket she should focus on contributing to her TFSA rather than her RRSP.
READ MORE: Are you making these RRSP mistakes?
The plan: Balance competing financial priorities
"Shaun needed to hear that it's perfectly normal for young physicians to start their careers later than most Canadians and often further in debt," says Sarah, adding that it was also helpful for him to see the bigger picture. "Instead of trying to tackle everything at once, he could prioritize his short- and long-term goals to strike an appropriate balance between paying off debt and saving for the future."
Prioritize cash flow
Sarah congratulates Shaun and Angela on their discipline to keep expenses low. "It's not often I see young couples with such a healthy cash flow when they're first starting out."
If they're able to continue "living like students" (as Shaun puts it) for the next two years during his residency, the couple will have $2,000 per month available to allocate towards their savings and debt repayment goals.
Sarah suggests first prioritizing building their cash savings for the next six months. That would give them $12,000 in extra savings on top of Shaun's $2,500 emergency fund.
By that time, the moratorium on Canada Student Loan interest and both Angela’s and Shaun's non-repayment period will end.
Shaun's minimum student loan repayment will be $300 per month, while Angela's will be $200 per month. Sarah suggests paying the minimum for now, adding that they will each receive a 15% tax credit on the interest paid on their loans each year.
The couple would then reduce their monthly savings to $1,500 per month as they started making minimum payments on the student loans.
After another six months (one full year from now), Shaun and Angela would have $21,000 in savings, plus the $2,500 in Shaun's emergency fund. That's enough to pay for their wedding.
Starting to invest
With one big short-term goal achieved after just one year, Sarah suggests another shift in priorities and advises the couple to start investing in a tax-advantaged account.
"The Tax-Free Savings Account is a great savings and investing vehicle for every Canadian, particularly for young people who are just starting their careers and haven't yet hit their peak earning years," says Sarah.
With their $2,000 per month in extra cash flow, Shaun and Angela should continue paying $500 per month towards their federal student loans, plus another $500 per month to keep building their savings balance.
The remaining $1,000 per month would be well purposed in a TFSA. Sarah advises the couple to each put $500 per month into their own TFSA and then invest that money, an important step that many Canadians miss, into a diversified investment portfolio.
After one year, the couple will have each contributed $6,000 to their individual TFSA, and added another $6,000 to their savings account.
"They'll start to see their assets grow and feel like they're finally making progress on their debt repayment and savings and investing goals," says Sarah.
Accelerating their goals
Once Shaun finishes his residency and starts practising as a family physician, he expects his income to start at around $244,000.
"That would lead to take-home pay of about $160,000 after taxes," says Sarah, adding that such a big jump in income will lead to many more complex decisions around saving, spending and paying down debt.
Indeed, after simply saving what they could afford while making minimum student loan repayments, Shaun and Angela will be in a great position to accelerate their financial goals with approximately $11,500 per month in extra cash flow.
Sarah shares a rough outline of what the couple's new reality might look like and what they should prioritize.
First, they should take a breather. "They've been living like students for years and deserve to spend a bit more on themselves to live a more comfortable lifestyle." That could mean renting a larger and/or more desirable home in Edmonton, spending more on groceries or dining out, or taking a relaxing vacation. "Let's assume a $12,000 increase in spending to $60,000 per year after taxes," says Sarah.
Next, Shaun should open an RRSP and contribute $22,000 for the tax year in which he will earn $244,000. He should have accrued that much RRSP contribution room from the income earned during his residency (RRSP deduction limit is calculated as 18% of the previous year's income, plus any carry-forward room from prior years).
A $22,000 RRSP contribution would bring Shaun's taxable income down to the bottom of the 47% combined marginal tax bracket in Alberta and save him more than $10,000 in taxes. This can be done with monthly contributions over 12 months. Sarah also reminds Shaun of the RRSP contribution deadline, which is 60 days after the end of the year.
Now they need to tackle the elephant in the room — Shaun's $100,000 line of credit.
Sarah says that with monthly payments of $1,000, it will take 10 years to pay off the line of credit in full. Given Shaun's aversion to debt, Sarah suggests tripling that to $3,000 per month.
"You can afford it," she says.
Shaun and Angela's federal student loans should get a payment boost as well. They'll double their payments to $600 and $400, respectively, to pay off those loans faster while still taking advantage of the valuable tax credit.
While the couple is getting aggressive with debt, Sarah advises them to be equally aggressive with their savings. Specifically, they should each double their TFSA contributions to catch up on unused contribution room from previous years.
Finally, the big mystery for Shaun and Angela is where they plan to live in the long term. They're content to rent for the foreseeable future but would like to buy a home of their own soon — ideally when they decide to have children and raise a family.
Since that goal may be closer than they think, Sarah thinks it makes sense to keep socking money away in a savings account. "Call it a house down payment fund, or an opportunity fund that can be used to help buy a home in Edmonton, relocate to Ontario or to help Shaun set up his own private practice if he wants to one day," says Sarah.
Wrapping it up
Shaun feels a sense of relief seeing the numbers – and his life – neatly laid out over a four-year period. At age 30, the numbers clearly show that his financial future looks promising if he follows Sarah's plan.
Angela is pleasantly surprised as well, and appreciates Sarah's calm approach to helping them sort out their priorities and see the big picture. "We can get afford to get married soon and maybe even buy a home in five years," she says excitedly.
Sarah encourages the couple to follow their plan closely and reminds them that working with their MD Advisor throughout their careers will help them keep an ongoing road map of their financial goals over time, and answer important questions as they arise.
* MD Advisor refers to an MD Management Limited Financial Consultant or Investment Advisor (in Quebec), or an MD Private Investment Counsel Portfolio Manager.
The above information should not be construed as offering specific financial, investment, foreign or domestic taxation, legal, accounting or similar professional advice nor is it intended to replace the advice of independent tax, accounting or legal professionals.