How to Develop a Financial Plan and When to Do it

How to Develop a Financial Plan and When to Do It

Should you employ a professional financial planner for a detailed roadmap of your financial journey? 

Or can you develop your own plan, keep moving in the right direction and review and adjust along the way?

I’ve included a graph for the science lovers (based on “Observational data”).  This one demonstrates my observation of doctor planning temperaments compared with the general population. 

Clearly, I am on the extreme left – hence my need to research each financial decision in such detail I may as well write the article and share online!

If you “Wing it” completely with finances (by ignoring them), it is very likely you will end up with inadequate investments to live your ideal life in years to come. 

Time spent developing a  plan will get you closer to your goals (even if you don’t really know what they are yet). 

A rigid plan stuck to without wavering may be best for those with definite goals and time frame, and to whom a “Set and forget” plan is appealing.  

But life plans and financial markets change, presenting opportunities and challenges along your journey, sometimes best served with some flexibility with planning.

Financial Checkpoints During Your Career.

Significant pay changes or life events (co-habitation, separation, starting a family) are important opportunities to assess your long-term financial situation and make or adapt a financial plan. 

At entry to internship it’s possible to maximize the power of compound interest with tiny amounts of savings ($100 / week?) for incredible results over 30-40 years.

 Amount invested per week Years invested Projected balance at 7% growth
$100 20 $228,099
$100 30 $525,580
$100 40 $1,110,770

When moving up to registrar, most receive a significant bump in pay – an opportunity for lifestyle inflation or getting long-term financial plans on track.   

Starting work as a General Practitioner or Hospital Specialist involves another bump in pay, though with less time for compounding, still a significant opportunity to save and invest.

Pre-retirement – A check-in 10 years before retirement is important to ensure you are on track.

These review and plans can be performed with a professional, or independently depending on your financial literacy, complexity of investments, personality and time.

Should You See a Financial Planner to Develop a Detailed Financial Plan?

Seeing a financial planner can help non-planners start setting goals to work towards. 

The deadline of an appointment demands answers to the tricky questions such as home and travel aspirations, child education costs, expected retirement age and income for an acceptable retirement lifestyle.

For the younger folk, setting these big goals seems overwhelming. 

When retirement is 30-40 years away, how on earth do you work out the income desired?  It’s easy to put it in the “Too hard basket”. 

Face the tough questions now, knowing the answers won’t be perfect.  Your goals can always change, but working towards a plan is likely to land you in a better financial situation than burying your head in the sand.

For those that tend to worry, a professional financial plan can provide a sense of certainty and reassurance. 

For those with an ambitious target or tight time frame, a professional can help work out if your target is realistic, and form a plan likely to achieve your goals. 

If you come in to a significant lump sum windfall and don’t have a plan for it, it’s best to find a trustworthy professional to get a sensible plan.  It’s important to avoid falling for a scam or impulsively speculating in risky investments.  

Individuals with only basic understanding of finance, and little interest or time to invest in the topic will benefit from using a  carefully chosen professional.

Having a written plan (professional or otherwise) can help you stay the course when the inevitable market crash occurs.

A dip in the market (Property or shares) is a valuable opportunity to take advantage of the coming recovery by pouring as much in as you can manage. 

But a fall in stocks tends to prompt the opposite behaviour.  Panic selling at the worst possible time locks in a loss. 

A written plan stating your plan if asset values fall  (10 or 20%) to invest a planned amount more per pay, or continue with original plan regardless.

A professional financial plan is an expensive exercise ($2000+) so you want to time this carefully to get the most value. 

The plan can only take into account your situation at the time and anticipated future circumstances. 

Life often changes far more rapidly than we anticipate, sometimes making a plan irrelevant in just a few years.  

If you are paying for a financial plan early in your career, it is worth checking the cost of plan reviews and adjustments.

Your plan will be based on the current assets you own (superannuation, property and other investments outside superannuation) and estimated future performance of those, as well as continuing investments.  Anticipated growth is based on long-term historical performance. 

Past performance is the best indicator we have, but does not always predict future growth.  1-2% error in estimated growth can make a huge difference to your situation in 30 years!

We may be about to enter a disastrous or amazing decade for investing – nobody really knows!

Starting Balance Yearly Contribution x 30 years Growth Projected Balance
$100,000 $9000 6% $1,328,564
$100,000 $9000 7% $1,670,883
$100,000 $9000 8% $2,107,379

The closer you are to your goals, the less important the anticipated growth and inflation, and therefore the more accurate your plan is likely to be.

By the time you are 10 years ahead of retirement you really want to be confident you will hit your goal on the current trajectory. 

If you have left it later than this, it may be a little belated to make magnificent changes to your financial situation, but a professional can help work out where you stand and how your options weigh up (Working longer, downsizing home, retiring with less). 

The timing of your plan in relation to market movements may result in over or under estimation of your projected growth.

Plans written during a bull market (when markets are hitting all-time highs, as currently) may overestimate.  Those formed during a bear market (when the stock market falling, on the news daily) may underestimate. 

The most important issue if you decide you would like a professional plan will be to find a trustworthy, qualified and competent advisor.

Professional or Otherwise You Need a Financial Plan

Preparing for a Financial Plan

Whether you are seeing a professional or developing your own financial plan, you will need to gather lots of information, and make some decisions before working out a plan. 

Especially if you are paying for a plan, make sure you have enough time to work through this properly to get the most value for your financial planner fee.

Start by brainstorming your hopes and dreams over the next 40 years, with your significant other if you have one. 

Divide them into time frames.  What would you like to achieve in the next 5 years, 10 years, 20 years etc. 

Estimate the age at which you would like the choice to retire.  Are you happy with that being your preservation age (bearing in mind this may change in line with the ageing population)?

If you want more control over your retirement age you will need some assets outside of superannuation (although a large offset account may work).

It can be intimidating to estimate your desired retirement income 30-40 years in advance. 

Consider your current expenditure as if you were retiring this year.   This can be performed manually (for example calculating spending over a 3 month period) or through one of the banking apps designed for this purpose.

Which of your professional expenses will disappear – commuting, work clothing, AHPRA and college fees? 

Will you still need any personal insurance?  Will you still be paying premiums? 

Do you currently have children at home that will be independent by the time you retire?       

How much do you currently spend on travel? Is this enough to maintain your traveling aspirations in retirement? 

Come to a figure in today’s days dollars.  This is your retirement income in today’s dollars. 

You will also need to know what assets you currently own, and how much you are currently contributing to superannuation and other investments.

The final information you will need is whether you have any surplus income you can put towards your goals. 

Analyse recent spending.  Do you have a surplus already?  Is there spending you would be happy to cut back on to produce a surplus (or grow a bigger one).

List any further assets, liabilities and income from all sources. 

Developing a plan

Your superannuation fund likely has some extremely basic modelling for projection of retirement income.  Read all the small print to ensure whether it is taking into account fees and insurance premiums. 

Each retirement calculator uses different assumptions so comparing a couple of calculators.

Is there a gap between your projected retirement income and the income you desire?  Calculate how much you need to invest (inside or outside super) in order to fill the gap before your desired retirement age.    

At the early stages of your career, it may seem impossible to get a realistic idea of your situation, and a professional plan too expensive. 

Investing something ($100/pay) – and increasing that every year (1/2 of pay rise?) is a great start.  

A formal finance review and plan can then occur mid-career to assess what adjustments are needed. 

Investing automatically via direct debit (and ignoring the market dramas) is the easiest way to slowly grow financial security and freedom.

Where will you put these savings?  This depends on what growth you need, your risk profile and what suits your situation.  For long-term goals, you will need to outgrow inflation (~3% long-term).

Professional advice, robo-advise or lots of personal research are your options in deciding which way to go.

If your plan is more complex, involving investment properties and/or debt, it is likely worth paying for either a professional planner or purchasing financial projecting software.

At certain times of life, a detailed professional financial plan may be a good plan – Coming in to an unexpected large sum of money, or other large and unexpected changes in circumstances, starting a family, and planning for retirement. 

But an independent professional plan is an expensive exercise, and it is all based on educated best guess assumptions for future growth. 

If your finances are fairly simple, many choose to work on their own financial plan, working on rough estimates to get them closer to their intended goal without the large expense of a professional plan. 

The one thing that is absolutely no use is to stick your head in the sand.  It is important to have an idea of where you currently stand financially, set goals and work towards them. 

Should You Protect Your Income? The Ultimate How to Guide

Should You Protect Your Income? The Ultimate How to Guide

There are massive changes coming to income protection. 

Despite being the most expensive personal insurance, and premiums increasing recently, insurers are losing money annually. 

The Australian Prudential Regulation Authority (APRA) has stepped in to address concerns about insurance provider sustainability.  An open letter from APRA to insurers outlines its intentions for the near future.

Changes are planned to commence March 31st 2020, when it will likely become impossible to secure “Agreed value” policies covering more than income in the 12 months preceding the claim.

From July 2021, further changes are expected, with abolition of agreed value policies altogether and insurance policies requiring renewal every 5 years – under new terms and conditions.    

My take on this is that income protection is going to become even more expensive, and less generous.  If you are considering starting a policy, talk to an adviser as soon as possible to try and get in before the changes.

What is Income Protection? How Does it Work?

Income protection is the personal insurance you are most likely to claim.  It provides a regular income in case of inability to work due to illness or injury. 

Those over the age of 25 will usually have some automatic income protection through their superannuation, but those under 25 have to request insurance. 

We see patients becoming unexpectedly injured or severely unwell at work all the time, but often don’t consider the financial consequences of lost income – which can be severe enough to cause home repossession. 

Most people, including doctors, feel somehow immune to these random events, but of course they can happen to anyone.

Do You Need Income Protection?

This really depends on your situation.  What would happen if you contracted an illness or catastrophic accident requiring months to years off work? 

Unless you are financially independent through investments, or have someone who loves you earning more than enough to support you both, it is likely you should have some income protection. 

Even if you don’t need insurance now, it is worth considering whether your needs are likely to change.  Do you plan to have children?  If you will need income protection within the next 5 years, consider securing the policy now.  Premiums escalate surprisingly rapidly as you age (significantly in 2-3 years during my 30s as I discovered!)  Delay also risks developing a medical condition in the meantime that could make you un-insurable, far more expensive to insure or have significant exclusions in your policy.

How much Income protection do You need?

This is tricky!  It will take a detailed look at your budget, and what your obligatory expenses are (you won’t be holidaying overseas if your ill enough to claim income protection). 

Then you need to look into the future and anticipate changes to those expenses.  For the reasons outlined above, it’s best to make your policy as future proof as possible. 

Consider other sources of income. How much of your obligatory expenses could be covered by your partners income?  Do you have any investment income coming in that would continue despite illness or injury? Also take in to account any significant long-term savings that could help financially support you.

Remember to calculate gross income required – your benefits will be taxed as personal income.  You may (in the next few months) still be able to secure an “Agreed value” insurance policy.  This means you will be paid a prior agreed benefit in the event of a claim (Up to $30,000 per month). 

It is likely agreed value insurance policies will not be possible after July 2021 (perhaps sooner).

The other type of policy (the new norm) is “Indemnity Value” – the benefit paid is based on your income immediately prior to the claim. 

Indemnity value policies may be better for those going up the payscale over the next few years, but could be disastrous for individuals becoming ill or injured after 12 months of parental leave, other extended time off work, or the 1st year of a private practice before profits kick in.  It also could be detrimental for those whose health has been deteriorating for a period of time, and who have reduced hours worked as a result. 

If taking out an indemnity value policy, try to find one that will calculate the benefit on your income over the past 3 years to minimise the risk of being short changed.

Can You get Income protection?

Your ability to secure a policy depends on age, medical history and “Risky” activities and occupations.  Chronic illnesses, extended periods of time off sick or a history that is perceived as high risk to insurers (especially back pain in men, anxiety in women) will make securing a policy more difficult and more expensive. 

Sometimes insurers will offer a policy with specific exclusions that won’t be covered if they recur (such as back pain if you once complained of pain in the back!).  It is definitely not worth lying about your history, as the insurance providers will not pay out if they find you have been dishonest (even if it’s completely irrelevant to the eventual claim).  

Exclusions can be reviewed and sometimes removed at a later date, provided you have had no further issues, you have a good insurance broker to negotiate on your behalf, and the provider decides to play ball. 

When does Income protection kick in?

You can choose different waiting periods before your income protection starts paying benefits, usually 30, 60 or 90 days.  This should be based on your amount of sick leave accrued (assuming you are staying with your current employer) and how long your emergency fund would last if the worst happened. 

Premiums drop significantly as you increase the waiting period.  Do remember, though, that if you have two episodes of illness with a brief return to work between, the waiting period may have to be served for the second illness again.

How long does Income protection last?

Superannuation income protection policies often pay out for only 2 years – not much use if your surgical career is ended by a traumatic limb amputation.  Other policies continue to age 60 or 65 years, which will provide long lasting income replacement – at significant cost. 

When considering how long you need income protection for, consider your savings, debt, partner income, dependents, your age, superannuation balance, and your Total permanent disability insurance payable if you were never able to return to work.

Own Occupation vs Any Occupation

Many cheaper insurance policies (including those that come with your superannuation) will only pay out if the insured cannot work in any capacity. 

Unless you can cover your expenses with a minimum wage job (I’m impressed if you can!) get own occupation insurance.  Again, you will pay extra for this.

Should You Buy Income Protection Inside or Outside Superannuation

Premiums are tax deductible whether they are in or out side of super.  If you need to claim on the insurance, income is taxed at your marginal rate, regardless of whether premiums were paid inside or outside superannuation.

Paying from within superannuation can help affordability at the time if cash flow is tight.   If you are not salary sacrificing the maximum into superannuation, increasing your salary sacrifice to cover the premiums is a tax efficient way to pay. 

If no extra is contributed to superannuation to cover into the premium, they will eat into your superannuation balance and cost a lot more in the long-term due to lost investment earnings on the premium amount.

Insurance inside superannuation is often cheaper, and the most hassle-free way to secure insurance. Unfortunately, superannuation income protection is often an inferior product, often paying benefits for only 1-2 years. 

Benefits may cease if the insured becomes permanently incapacitated (qualifying for Total permanent disability if they have it).

For protection inside super, the unwell person needs to meet the legal condition of release of superannuation law as well as the insurance policy definition of incapacity.  

Insurance inside superannuation cannot be moved to another superannuation provider.  If the insured is moving employers, they must either keep the same superannuation or start a new policy. 

As well as excess management fees associated with multiple superannuation accounts, automatic insurance could mean individuals with more than one super account are paying multiple insurance premiums.   

If the insurance is left with an old superannuation account, and the premiums consume the entire balance, the insurance will obviously be cancelled.

Income protection inside superannuation may be appropriate for you if you have few expenses, or have significant savings and no plans for adding dependents to your household.  You also need to have reviewed your superannuation and made sure you’re happy using the fund for the long-term.

If you have insurance through your superannuation, it is worth checking your occupation rating. 

Doctors (apart from retrieval) are considered low risk and therefore attract a cheaper premium, as long as the correct occupation rating is applied.  If you are automatically enrolled as a blue-collar worker, you are paying more than you should. 

Income protection insurance outside super has a larger choice of features and usually more extensive cover available, at a greater cost.  It is a hassle to get set up – requiring medical underwriting, lots of paperwork and lots of questions from the insurance company.  But once it’s set up, as long as you pay the premiums, could last as long as you need income protection (before July 2021).

Stepped or Level Premiums

You have a choice of two fee structures.  Stepped premiums start out much cheaper and are based on age, but escalate significantly as you get older. 

Level premiums start out significantly more expensive but do not increase with age, and are generally considered more cost effective if income protection is required for 10 years or more. 

Over the past 5 years, even level premiums have increased significantly due to an increase in claims. I had been horrified by my “level” premium increases, but now read that the insurance industry has been making massive losses for the past 5 years – and frankly it benefits no-one if these companies go bust.

Income protection and other payments

It is worth checking whether your income protection policy will continue paying benefits even if you qualify for TPD.  This will make a huge difference on how long you should have income protection benefits for (2 years or up to age 65) and how much TPD you require.

Income protection is taxed as normal income (assuming you’ve claimed tax deductions on the premiums), so remember this when planning how much you require.  Base your benefit amount on gross income required. The ATO have a simple tax calculator to help you work this out.

Look at the small print on whether premiums are reduced should you receive compensation payment or social security benefits

Income Protection and Tax

Income protection is a tax-deductible expense.  Insurance benefits paid in the event of a claim are therefore taxed as normal income

Does Your Policy Cover Partial Disability?

Check whether partial disability is covered.   When Dr Cristina Yang was stabbed in the abdomen with an icicle , she probably wouldn’t have been able to return to work for a while.  Her employer may have put her on a “Return to work” program of half shifts two or three times a week.  Would her Income protection policy have covered the rest of her income?

If a self-employed anaesthetist has a fracture requiring a dominant hand plaster cast, he will be able to perform some administrative tasks but will not be able to anaesthetise patients – likely leading to a significant reduction in income.  Will income protection make up the difference?

Do you get paid super?

I’m reading a lot about inadequate retirement savings lately.  Periods of time not contributing to your superannuation (eg parental leave, extended time off work) make a significant dent in retirement savings.  It is possible to get a policy that pays superannuation, just as an employer would.  You guessed it – at a cost.  Decide whether you need it, and check this small print when comparing policies.

Index linking

Is the income protection benefit index linked?  This means the benefit paid increases with time to compensate for inflation.  If Dr John Dorian suffered a major head injury from his scooter, aged 25, will his income protection benefit still cover his expenses in 40 years time?  Not a major issue if you only need income protection for a few years, but worth getting if needed for a decade or more.

General exclusions

Policies also have general exclusions that they will not pay for – Usually they will not pay if the insured is in a combat zone, injured due to acts of war or terrorism or no longer an Australian resident, illness as a result of pandemic or pre-existing condition, self-harm and attempted suicide.  Similar to your house or car insurance, it’s important to read and compare the policies in detail to understand what is covered and what is not.

How much does income protection cost?

This is extremely variable depending on age, waiting period, length of benefit payments, pre-existing conditions etc.  Expect to pay anywhere between 2 and 5% of the benefit amount as a premium (Mine comes to 3% currently). 

If you are buying several polices, ask for a discount!

Where to buy the best income protection?

You have three options – through your superannuation, through an insurance broker, or direct. 

Income protection is extremely complex, and is absolutely no use if you buy a policy that in the event of a reasonable claim, does not pay out. 

A broker will have a great understanding of all the pros and cons of different policies and help you weigh up what is most important.  They should also manage the claim process in event of illness of injury.  As you may know, insurance companies in general like to avoid paying out, so it would be beneficial, in my view, to have someone experienced and knowledgeable negotiating on your behalf.

Insurance brokers are paid a significant amount of commission for signing you up, so they are clearly not independent.  It probably makes sense to work with more than one insurance broker, and get quotes from direct insurers and carefully compare the terms of the policies.  It’s advisable to get all this right the first time so you only have to do it once!

When to stop income protection?

Insurance companies would like you to stay fit and well (Awww!) and working while paying premiums for the rest of your working career.  Premiums will increase as time passes, and stepped premiums will escalate dramatically as you age. 

In order to be cost effective as possible, you need income protection for the minimum time you really need it – often with debt, dependents and little in the form of assets.  As debt is paid down, dependents become independent and asset base grows, there will come the point you can self-insure.  Make sure you assess this carefully, and only cancel your policy when you’re sure you don’t need it. I imagine it will be a great feeling to get rid of those hefty premiums once and for all!

Income protection is a fairly complex topic, thanks for sticking with me through this mammoth guide!

At the end of the day most people will find they have to balance their needs with keeping insurance premiums reasonable.  I hope this guide gives you an idea where you can make compromises.

Did you get the TV Medical drama references or am I just showing my age?!  Go on…indulge me.  Who is your favourite TV Doc?

Now go ahead and work out your insurance needs, and get that policy sorted ASAP.