Jovan Johnson, MBA, CFP®, CPA/PFS

We understand that finances may be the last thing on your mind after working 80+ hours a week; however, developing healthy financial habits is just as important as keeping your patients healthy. As a resident physician, you are in the lower-earning phase of your career. This may be seen as a bad thing; however, from a tax perspective, this could serve as an opportunity. There are many tax benefits that you can take advantage of now that may not be accessible to you once you become an attending physician. In this article, we discuss 5 tax planning tips that you should consider as a resident physician.

1.) Pay little to no taxes on the earnings in your taxable account

There are very few vehicles that offer little to no taxes. If you already have a taxable investment account while you are a medical resident, it may be time to consider taking advantage of tax gain harvesting. Since you are in your lower-earning years, you may qualify for the 0% long-term capital gains tax rate. For example, you would qualify for a 0% capital gain tax rate for 2022 if you have a taxable income of $41,675 or less if you file as a single individual or $83,350 or less if you file as a married filing jointly.

If you qualify for the 0% capital gains tax rate and you already have some significant gains in your taxable account, tax gain harvesting may be a great strategy for you to utilize. To take advantage of this strategy, you would sell positions that have a significant gain and then use that cash to reinvest. Therefore, your gains on the positions you sold would be tax-free (0% capital gains tax) and the new positions would have a new basis. One thing to keep in mind is that to take advantage of the capital gains tax, you can only sell positions that have long-term gains (assets held for a minimum of 1 year). The best time to deploy this strategy is closer to the end of your medical residency, right before your income significantly increases.

For example, let’s say you earned $45,000 in income as a resident (after considering the cost of health insurance and other employer-related deductions) and had $12,000 in long-term capital gains and dividends. The standard deduction for single filers in 2022 is $12,950. Let’s say you also took advantage of the $2,500 above-the-line student loan interest deduction. The $12,000 in long-term capital gains would be taxed at a rate of 0% since your taxable income would be $41,550, which is below the threshold.

2.) Create tax-free income for retirement 

In many cases, employers of medical residents do not offer a match for contributions to your retirement plan. Without a match offered, it may serve you better to fund a Roth IRA instead of your workplace retirement plan. In a traditional retirement plan, known as a pre-tax account, your contributions are tax deductible which lowers your overall taxable income. However, when you take withdrawals in retirement or at age 59 ½, you will have to pay taxes on the full withdrawal. Your contributions to a Roth IRA or other Roth retirement account are not tax deductible, so it does not lower your taxable income. However, when you take withdrawals from the account in retirement or at age 59 ½, there are no taxes due. Due to residency being a lower-income period, you won’t be missing out on much of a tax deduction if you choose to fund a Roth IRA instead of a traditional retirement plan. You will be in a higher tax bracket probably for the rest of your life once you become an attending physician. So, pay the lower tax rate now. Also, once you become an attending physician, you most likely won’t be able to contribute directly to a Roth IRA anymore. However, don’t worry too much. There is something called a backdoor Roth contribution that we won’t discuss in detail in this article.

In 2022, a single individual under the age of 50 can contribute up to $6,000 ($7,000 if age 50 or older) of earned income to their Roth IRA.

You may be wondering why I recommended the Roth IRA and not the Roth 403(b) or other Roth retirement account offered by your employer. There are some benefits that are only applicable to the Roth IRA. One is the ability to access your contributions (basis) tax and penalty-free if the account has been open for at least 5 years. Another benefit is that since the Roth IRA is an individual retirement plan, you have access to many more investment options than in your employer-sponsored retirement plan. Also, you can use up to $10,000 tax and penalty free of your Roth IRA earnings to purchase your first home — if you meet the requirements. Lastly, there are required minimum distributions that apply during the retirement phase. Essentially, the IRS typically requires individuals to begin taking distributions from their retirement accounts at age 72. RMDs do not apply to Roth IRAs.

As you can see there are many benefits to funding a Roth IRA right now in your position.

3.) Contribute to a 529 to pay off up to $10k in student loans

In December 2019, the SECURE Act was passed into law. One of the provisions of the law is that 529 plan owners can use their funds to pay off up to $10,000 of the account beneficiary’s student loans (including yourself). With a 529 plan, you can be both the owner and beneficiary. This $10,000 amount is a lifetime limit per beneficiary. Below is a summary of some of the pros and cons of taking advantage of this benefit:

Pros:

  • There is no age limit for account owners or account beneficiaries.
  • The money in the account can be invested and potentially earn great returns.
  • Investments in the account grow tax-free if you use the money for eligible expenses. Also, some states offer tax deductions or credits on your contributions.
  • The money can be used to pay off $10k per lifetime in student loans without tax and penalties.
  • If your account grows to greater than $10k, you may transfer the excess funds to another beneficiary such as a child, sibling, spouse, etc. without tax consequences.

Cons:

  • Your investments may be subject to market volatility.
  • You can’t double-dip on tax benefits. You can’t use your 529 plan to make the $10k payment towards student loans and take advantage of the $2,500 student loan interest deduction in the same year.
  • It will not cover much of your debt.

If you live in a state that offers a tax deduction or credit for contributions, this benefit can save you money on taxes and student loan interest. To avoid the double dipping rule, you could take advantage of this provision for one year and use the student loan interest deduction every other year. Double-check that your state conforms to the Federal rules on this provision.

4.) Take advantage of the student loan interest tax deduction

While you are most likely able to postpone your student loan payments during residency, your student loans will still accrue interest in the meantime. This will significantly increase the total amount you will owe after residency. If you are able, it may make sense to begin paying back your student loans. Understandably the loan payments would be high considering the average first-year resident’s salary in 2020 was $58,921. To lower the payment amount you may sign up for an income-driven repayment plan if accessible. Making student loan payments during residency can save some money on interest in the long run.

For example, if you decided to not make any payments during a three-year residency for a total original student loan amount of $203,062 — the average medical school debt among the class of 2021 — you would add approx. $33,345.66 in interest to your total balance. This assumes that you had a 6.16% average interest rate and no subsidized loans.

An additional benefit to making student loan payments during residency is the student loan interest tax deduction. The IRS allows you to deduct up to $2,500 of paid student loan interest from your taxable income if you meet certain criteria. This is an above-the-line tax deduction, so you can qualify for this deduction whether you take the standard deduction or itemize deductions. The deduction is subtracted from your taxable income to save you money. For example, if you fall into the 22% tax bracket, the maximum student loan interest deduction would put $550 back in your pocket. In 2022, you can take the full deduction if your modified adjusted gross income, or MAGI, is less than $70,000 if single ($145,000 if filing jointly). If your MAGI was between $70,000 and $85,000 if single ($145,000 and $175,000 if filing jointly), you can deduct less than the maximum of $2,500.

5.) Moonlight and be paid as an independent contractor (1099 income)

Moonlighting, working an additional job as an independent physician outside your residency, may help you achieve some of your financial goals. However, there are requirements/criteria that apply to moonlighting. There is typically a cap on the number of combined educational and work hours for residents at 80 hours per week. This is to ensure that moonlighting does not interfere with the resident’s qualify for work or compromise patient safety. Check with your employer for details.

Even considering some of the drawbacks or caveats, there is no denying the benefits of medical moonlighting for residents. This extra income could help with achieving some of your financial goals such as paying down debt quicker or building an emergency fund. In addition, you may qualify for various tax deductions as an independent contractor such as CME costs, medical licenses, lab coats, scrubs, travel, computer, equipment, professional society dues, educational expenses, gas and travel expenses, and cell phone.

Final Thoughts

As a medical resident, you are super busy and have little time to take care of your financial health. However, the tips included in this article may be well worth your time as they could save you thousands of dollars in taxes. Take advantage of your lower-earning years as a resident, as you will lose access to many of these tax opportunities once you become an attending doctor. Please consult your CPA or tax advisor for more specific details on how you may take advantage of these tax opportunities. Feel free to schedule a free consultation with us by clicking HERE.

If you have any specific questions, please send an email to jovan@pieceofwealthplanning.com

Disclosures

None of the information provided is intended as investment, tax, accounting, or legal advice, as an offer or solicitation of an offer to buy or sell, or as an endorsement, of any company, security, fund, or other securities or non-securities offering. The information should not be relied upon for purposes of transacting securities or other investments. Your use of the information is at your sole risk. The content is provided ‘as is’ and without warranties, either expressed or implied. Piece of Wealth Planning LLC does not promise or guarantee any income or particular result from your use of the information contained herein.