Categories
Physician Finances

Paying For Your Child’s College Education

Raising a kid is expensive. And it all culminates with the cost of a college education. One of the most gratifying things about being a parent is seeing your child be successful and one of the best ways to ensure that success is a strong education. Thus, one of the most important gifts we can give our children is a college education. But that education is expensive and gets even more expensive every year.

Summary Points:

  • College costs rise faster than inflation.
  • To pay for a child’s college education, it is important to start saving as early as possible.
  • Saving options include (1) uniform gifts to minors accounts, (2) Coverdell education savings accounts, (3) Taxable brokerage accounts, (4) Roth IRAs, (5) 529 plans, and (6) loans.
  • The best option depends on the parents’ unique individual financial situation and the likelihood that at least one child will attend college.

The U.S. Bureau of Labor Statistics reports that for the 40 years between 1980 and 2020, the consumer price index rose by an average rate of 3.54% every year. The College Board tracks trends in college pricing and notes that the average annual increase in tuition and fees at four-year public institutions between 1980 and 2020 was 3.4% above inflation. For private nonprofit four-year institutions, the average annual increase over the same period was 2.6% above inflation. Taken together, these statistics indicate that the cost of college education has increased 7% per year for public colleges and 6% per year for private colleges over the past 40 years. The good news is that for the past year, college costs have risen less than the rate of inflation: between February 2023 and February 2024, college tuition and fees increased by 1.3% whereas the consumer price index increased by 3.2%. However, it is not clear whether this lower increase in the cost of college is sustainable – given the reductions in state government support for public higher education and the declining enrollment in U.S. colleges, it is more likely that college education inflation will return to its historic annual rates of 6-7% in future years.

The cost of college 18 years from now

The cost to attend college includes tuition, fees, books, room, and board. The price of tuition varies considerably, depending on whether a student attends an in-state public university or a private university. As an example, I have children that attended the University of Notre Dame (private), the Ohio State University (in-state public), and the University of Dayton (private). For this analysis, let’s assume an average annual inflation rate of 5% for the total cost of college with the assumption that tuition and fees will increase about 6-7% per year but room and board will be closer to the consumer price index average of 3% per year. For a freshman entering this year, the Ohio State University currently costs $27,241 for the first year and $108,964 for four years. The University of Dayton currently costs $63,240 for the first year and $252,960 for four years. The University of Notre Dame currently costs $80,071 for the first year and $320,284 for four years. But with an annual increase of 5%, in 18 years, those costs will rise to $282,566 (Ohio State), $655,978 (Dayton), and $830,562 (Notre Dame). If I was starting my family today, it would cost me more than $2.4 million to put my four kids through college.

You can’t count on financial aid

The most recent data from the U.S. Department of Education’s National Center for Education Statistics showed that 72% of undergraduate students receive some form of financial aid. 55% received federal aid, 23% received state aid, and 28% received institutional aid. The most common type of aid received were grants and scholarships (64%) followed by student loans that the students took out themselves (36%), work-study (5%), federal direct plus loans that parents took out (4%), and veterans education benefits (2%). The average total annual financial aid package was $14,100.

Because much of financial aid is based on income, children of physicians (and other well-compensated professionals) are usually only eligible for athletic or academic scholarships. As a result, if you are a physician, attorney, dentist, or business executive, your dependent children will not be eligible for most forms of financial aid because your income is too high. Because a college education is projected to be so expensive, you need to start saving for your child’s education starting on the day that child is born.

A colleague of mine in academic medicine had not given a lot of thought about saving for college until his children were in high school. When the first tuition bills came due, he did not have enough saved up and so he took out a second mortgage on his house to pay for his kid’s college education. He ended up postponing his retirement by several years in order to pay back the money he had to borrow. The lesson is that you cannot start saving for college too early but you can start too late.

Six ways to save for a child’s college education

There are several different ways to save for college and each has advantages and disadvantages. In my opinion, 529 college savings plans are the best way to go for most people but I will review other options as well.

(1) Uniform Gifts to Minors.

This program was created in 1956 by the Uniform Gifts to Minors Act. A very similar program in some states is the Uniform Transfers to Minors. It allows parents to give their children financial assets. The parent (or some other designated adult) is appointed as the custodian and controls those assets until the child reaches the age of majority. The age of majority varies by state but in most states is between 18 and 21-years-old. The money in the account can be used for any purpose. Additionally, these gifts are irrevocable, meaning that the parent cannot take the money back to use for some purpose other than support of the child. Any unearned income from the investments can be reported on the parent’s federal income tax returns as “kiddie tax” meaning that the first $1,250 of unearned income is not taxed, the next $1,250 is taxed at the child’s income tax rate, and anything over $2,500 is taxed at the parent’s income tax rate. There is no limit to the amount that a parent can put into a uniform gifts to minors account but contributions greater than $18,000 per year are subject to federal gift tax laws.

The biggest disadvantage of uniform gifts to minors (or the similar uniform transfers to minors) is that because the account is the property of the child, that child can use the money for whatever he or she wants after reaching the age of majority. If the age of majority is 18-years old in your state, then when the child turns 18, that child can use the money to buy a Corvette instead of using it for college and there is not a thing you can do about it. This happened to a friend of mine who regularly saved for his son’s college education by contributing to a uniform gifts to minors account. His son ended up getting a scholarship and then when he turned 21 (the age of majority in his state), he had $75,000 in spending money that he used to travel around the world. The father would have liked to use that money to pay off the mortgage on the family home but there was nothing that he could do about it.

The main advantage of the uniform gifts to minors accounts is that they can be used for anything for the child and not just the child’s education. Because the first $1,250 of annual unearned income (interest, dividends, and capital gains) are not taxed, this can be a great way to save up for expenses such as summer camp, skiing lessons, or a car for the child before that child reaches the age of majority for your state. But as a way to save for college, there are better options.

(2) Coverdell education savings accounts.

These are accounts that can be opened for a child under age 18 to pay for educational expenses. The money in the account grows tax-free and withdrawals are not taxed as long as they are used for educational purposes. Unlike the uniform gifts to minors accounts, any residual funds that the child does not use for his or her education can be transferred to another family member’s account. They are limited to parents with incomes of less than $220,000 (married filing jointly). The maximum contribution is only $2,000 per child per year. Because of the parental income limit, these accounts are generally not an option for most physicians or other well-compensated professionals.

(3) Taxable brokerage accounts.

If you (the parent) want to have the greatest flexibility for how the money you are saving can be used, then open a brokerage account in your name and contribute to it regularly with the intention of using the money in that account to pay for your child’s education. The account is in your name (just like any other investment account you have) so if your child does not need the money for a college education, then you can use it for your own purposes since it is your money.

The disadvantage of a taxable brokerage account is the taxes. You will pay capital gains tax when you sell the investments and you will pay regular income tax on annual unearned income (interest and non-qualified dividends) from the investments. Money used to pay for the child’s college education can also be subject to the gift tax limits which is $18,000 per child per year in 2024. There are ways around that limit, however. Money that you as a parent spend for tuition is not included in the gift tax limit as long as you pay the college directly from your own accounts (and not give the money to the child for him or her to write a tuition check from his or her account). Also, the gift tax limit is $18,000 per parent so if you are married, you and your spouse can each give the child $18,000 each year ($36,000 total) to cover their non-tuition living expenses.

(4) Roth IRAs.

Most people are familiar with using a Roth IRA to save for their own retirement. You take money that you have already paid income tax on and put it into a Roth account and then when you are retired, you can take money out of the Roth account tax-free. If you take money out of the Roth IRA before age 59 1/2, then you have to pay a penalty to the IRS. However, you can take money out of your Roth IRA before age 59 1/2 if you use it for educational expenses for yourself, your spouse, your children, or your grandchildren. The IRS will likely look at those early withdrawals so it is important to maintain careful records documenting your child’s enrollment in college and receipts for tuition, fees, books, and room and board. The nice thing about this college savings strategy is that any money that you don’t use for the child’s education can just remain in the Roth account for you to use in your own retirement.

There are some notable restrictions to Roth IRAs, however. You can only contribute directly to a Roth if your income is less than $240,000 (married filing jointly) and you can only directly contribute a maximum of $7,000 per year ($8,000 if you are over age 50). You can get around the income limit by doing a “backdoor Roth IRA”, meaning that you contribute first to a traditional IRA and then immediately convert the money in that traditional IRA into a Roth IRA. The maximum contribution to a traditional IRA is also $7,000 per year. Another noteworthy feature of Roth IRAs is that the penalty for early withdrawal before age 59 1/2 only applies to earnings from the money in the Roth IRA and not on the initial contributions. In other words, you can always take out an amount equal to the amount that you originally contributed to the Roth IRA anytime, for any purpose, without penalty. Note, however, that if you take more money than your initial contributions out of your Roth IRA to pay for your child’s college expenses, you will have to pay regular income tax on the amount of earnings withdrawals – you just don’t have to pay the additional 10% penalty. Withdrawals of earnings from a Roth IRA are also subject to the 5-year rule: the first contributions to the Roth IRA must have been at least 5 years prior to the earnings withdrawal to avoid a penalty (even if the withdrawals are used for educational expenses).

Because Roth IRA earnings are taxed when withdrawn before age 59 1/2 (even for educational purposes), the best way to use a Roth IRA for your child’s college education is to limit the amount of withdrawals to the amount that you initially contributed to the Roth account. As an example, say you put $8,000 into a Roth IRA this year when your child is born and 18 years from now, that Roth IRA is worth $32,000 ($8,000 initial contribution plus $24,000 earnings from interest, dividends, and capital gains). You can take $8,000 out of your Roth IRA for your child’s college expenses without penalty and without paying tax on it, leaving you with $24,000 in the Roth IRA that you can keep there to eventually withdraw tax-free in your retirement. If you were to take the full $32,000 our of your Roth IRA for your child’s college expenses, you would have to pay regular income tax on $24,000 (the earnings portion), but you would not have to pay the additional 10% penalty since it is for a qualified education expense.

(5) 529 plans.

These are accounts that are in the child’s name but that the parent controls. The investment grows tax-free and when withdrawals are used for educational expenses, the withdrawals are not taxed. Each state has its own 529 plan with its own investment options. Also, each state has different tax rules regarding 529 contributions. For example, here in Ohio, we can deduct the first $4,000 of contributions to each child’s Ohio 529 account, each year from our Ohio state income taxes. In 14 states, contributions are not tax-deductible from state income taxes. It is important to familiarize yourself with the tax rules unique to your particular state of residence.

Because the parent controls withdrawals and because those withdrawals can only be used for educational expenses, there is no risk that a child can take the money out to buy a Corvette on their 18th birthday. In addition, if there is money left over after one child finishes college, you can roll the residual funds over into another child’s 529 account. Or roll those funds into a 529 account for a grandchild. Or if you want to go back to school to get a Master’s degree, roll the funds into a 529 account for yourself. Living in Ohio, the tax advantages and the flexibility of the 529 plans make them unbeatable as a tool to save for college.

However, like any investment, you have to critically study exactly what it is you are investing in. Because each state’s 529 plan has different investment options, some states offer investments into mutual funds that charge relatively high expenses or that underperform compared to other mutual funds. As an example, when I first started contributing to 529 plans, Ohio only offered a group of managed mutual funds with high expense ratios and that had fairly low rates of return. Instead of contributing to Ohio’s 529 plan, I opened an account in Iowa’s 529 plan because they offered low-cost Vanguard index mutual funds. At the time, I had never even stepped foot in the state of Iowa. Once Ohio’s 529 plan changed to low-cost index funds, I transferred the money from Iowa’s 529 plan into Ohio’s 529 plan in order to reap the benefits of the tax deduction on contributions on my Ohio state income tax return.

The only disadvantage to 529 plans is that if you withdraw the money for something other than educational expenses, you get penalized. These penalties include paying federal and state income tax on the earnings withdrawals, a 10% federal penalty, and state-specific penalties. Nevertheless, even if you don’t use all of the money in your child’s 529 plan for their education and you don’t have any other family members with 529 plans to roll the residual funds into, you can still take the withdrawals and pay the penalties. This at least leaves you with something, unlike the uniform gifts to minors accounts where all of the withdrawals go to your child to spend anyway they want. Also, there are some exemptions to the 10% penalty, for example, if your child attends a U.S. military academy, gets a tax-free scholarship, or dies.

(6) Loans.

This is the least desirable option to pay for college. These can take the form of a government student loan taken out by the parents (such as federal direct plus loans), a loan taken out from a commercial lending company such as a bank, or re-financing the mortgage on a house. The interest that you will pay on these loans is expensive, especially now with mortgage interest rates are in the 6-7% per year range. A significant problem with student loans taken out by the parents is that those parents are generally in their 40’s our 50’s and the payments on these loans represent money that the parents could have been investing for their retirement. As a result, the parents will either have to retire at an older age than they had planned or have to live on a smaller annual income in retirement than they had planned.

Education loans taken out by the child are a bit different. Attending college is an educational investment in one’s career, allowing that person to have a broader range of job opportunities and allowing that person to have a higher income from those jobs than if they did not attend college. Thus, the loan is paid off by the child’s future working income rather than the parent’s future retirement income. Furthermore, if the child takes out federal direct student loans and then after college gets a job in a government organization or a non-profit company, then the principal on the loan can be forgiven after 10 years of working through the federal Public Service Loan Forgiveness program. Therefore, loans taken out by the child are not as bad of an option as education loans taken out by the parents for that child. Whether or not to the child should resort to taking out education loans depends on the parent’s financial ability to save for the child’s college education over 18 or 20 years and how much the parents prioritize education.

So, how much do you need to save?

If we go with the assumption that college education expenses continue to increase at 5% per year, then you should plan on your child’s college education account having at least enough to cover 4 years at a state-supported public college in 18 years for a child born today. Using the Ohio State University as an example, this means that you will need to have $282,000 in that child’s account in 18 years. There are several ways to get to this amount. The key is to take advantage of compound interest, meaning that the earlier you start, the easier it is to end up with $282,000 in the account. Ideally, you should put in an initial contribution at birth and then contribute a smaller amount every month for the next 18 years. Here are three options, assuming an 8% average annual rate of return on the account’s investments:

  1. Initial contribution of $20,000 plus $417 per month for 18 years.
  2. Initial contribution of $10,000 plus $500 per month for 18 years.
  3. Initial contribution of $0 plus $583 per month for 18 years.

If your goal is to send your child to a private college such as the University of Notre Dame, then plan on saving even more. You will need to have an initial contribution of $25,000 plus $1,500 per month for 18 years!

My recommendations

There is no single best solution for every parent. The more likely that a child will attend and complete college, the more important it is that the parents start saving early for that child’s college education. If one parent graduated from college, then the chances of a child going to college increases. If both parents attended college, then those chances increase even more. The more children you have, the more likely it is that at least once of them will attend college.

High chance at least one child will go to college. In this situation, the 529 plans just cannot be beat, especially if you live in a state like Ohio that overs a large tax deduction from state income taxes on annual 529 contributions. If the oldest child does not go to college (or gets a full scholarship to college), you can roll the money from that 529 account into another child’s 529 account. In the worst-case scenario and none of your children go to college you can withdraw the funds from their 529 plans for your own use – you will have to pay income tax and a 10% penalty on the earnings (but not the amount of your original contributions). Thus, you will still have made money off of the investments in the 529 plan, just not as much as if you had put the money directly into a taxable brokerage account in your own name. We had 529 plans for each of our four children and when each one graduated from college, we rolled the residual balance in their 529 account into the other children’s 529 accounts. Now that we have grandchildren (all out of state), we have opened accounts for each of them in Ohio’s 529 plan.

Low chance that your only child will go to college. If you only have one child and you are uncertain whether that child will attend college, you may want to put money in a Roth IRA instead of a 529 plan. Then, if a child does end up attending college or vocational school, you can withdraw the amount of your original Roth IRA contributions without penalty to pay for their education. You will still have all of the earnings that you made off of those contributions remaining in the Roth IRA for you to use in your retirement. If your child does not end up attending college, then just leave the money in the Roth IRA for you to take out tax-free in retirement. If both you and your spouse contribute the maximum to a Roth IRA (currently $7,000 per year per person), then in 18 years, there will be a total of $252,000 of contributions in your Roth IRAs, nearly enough to pay for 4 years of public university education 18 years from now. However, you should only use this strategy if you have additional other ways of saving for retirement, such as a 401(k), 403(b), 457, SEP IRA, etc. Otherwise, the total amount that you have saved for retirement will fall short.

Low chance that your multiple children will attend college. If you have more than one child and you are not sure if any of them are going to attend college but want to be prepared in the event that two or more do eventually go to college, then you can start with the Roth IRA plan as in the previous paragraph. By maximizing Roth IRA contributions for both you and your spouse, there should be enough in the Roth IRA contributions to cover one child’s college education without having to tap into the Roth IRA earnings. Then open a taxable brokerage account in your own name that you earmark to tentatively use for a second child’s education. You will have to pay annual income tax on interest income and non-qualified dividend income and you will have to pay capital gains tax when you sell the investment (for most people, the capital gains tax rate is lower than their effective income tax rate). However, these taxes will be less than the income tax and 10% penalty that you would have to pay if you had put the money in a 529 plan and then withdrawn the 529 earnings should your children not attended college.

The child is not going to college but will have other monetary needs after high school. Maybe your child’s dream is to open a pet daycare center and will need seed money to start their business. Maybe your child wants to be an Uber driver and will need money to buy a car. Maybe your child is a sculptor and will want to travel abroad for for artistic inspiration. In these situations, a 529 plan is not a great idea because you cannot take the money out of the account without penalty since it will not be used for bonafide educational expenses. Uniform gifts to minors savings may be a better option since this allows the child to use that money to launch his or her career.

The most important thing you can give your child

I’m one of those people who thinks that his life is great but that the lives of the next generation are going to be even better. But more than any other time in human history, that depends on education. The most important gift a parent can give to a child is education and I prioritize education much more than gifts of things like clothes, cars, or exotic vacations. For me, Ohio’s 529 plan was clearly the best choice to save for my children’s education. For you, another option might be preferable. But whatever you decide to do, start saving early and save at least a little bit every month. There will come a time in your life when watching your children succeed in life is more important to you than your own successes.

March 19, 2024

Categories
Physician Finances

Your Inflation Rate Is Not My Inflation Rate

Inflation is the increase in the cost of goods and services over time. A little inflation is a good thing and indicates adequate consumer demand and a healthy, growing economy. But too high of an inflation rate can be a sign of an unhealthy economy. The biggest danger of inflation is when the inflation rate is higher than the simultaneous increase in wages – in this case, a person’s net purchasing power decreases, meaning that the person is unable to afford as many goods and services as in they could in the past.

To understand inflation, you first have to be able to measure it. In the U.S., the most commonly used measurement of inflation in the consumer price index (CPI), which is reported monthly by the U.S. Bureau of Labor Statistics. When most people talk about the CPI, they are talking about the “Consumer price index for all urban consumers: US city average, all expenditures“. There are some caveats about this measure, however. It only includes people living in urban and metropolitan areas. Although this accounts for a little over 90% of the U.S. population, it does not include rural residents, farming families, and members of the military – the inflation rate for these latter groups could be higher or lower than the inflation rate for urban residents. The CPI is reported in three ways: (1) as an index compared to the benchmark of prices during the period of 1982-1984, (2) as the percent change in CPI over the past 1-month and (3) as the percent change in the CPI over the past 12-months. The benchmark of prices in 1982-1984 is defined as an index of 100 and as prices go up, that index goes up. The index in February 2023 was 300.840 and the index in February 2024 was 310.326.

The percent change in CPI is also reported as “unadjusted”, and “seasonally-adjusted”. This is important because the price of some goods and services normally varies by season. For example, the price of fruit and vegetables normally goes down in the summer when these foods are freshly harvested whereas the price of gasoline normally goes up in the summer when vacation travel increases. The seasonally-adjusted CPI is generally preferred over the unadjusted CPI when looking at the 1-month change in CPI. The 12-month CPI does not require seasonal adjustment since it encompasses all four seasons of the past year.

In addition, there can be significant geographical differences in inflation depending on where in the United States a person lives. For example, for the 12-months between February 2023 and February 2024, the CPI increased by 3.2% for the U.S. in total. But the CPI increase in specific regions varied: northeast 2.4%, south 3.7%, west 3.2%, and midwest 2.8%. Even more specifically, the 12-month CPI increase for Cincinnati was only 1.1%, Milwaukee 1.8%, San Francisco 2.4%, Miami 4.9%, and Dallas a whopping 5.3%.

The CPI can be subdivided into different categories of goods and services and there can be tremendous variation in the 12-month change in prices of these categories. The graph below shows the 12-month CPI change for selected goods and services and ranges from automobile insurance that increased 20.6% to health insurance that decreased 19.7%. The average CPI for all goods and services was 3.2% (red bar below).

In February 2024, the 12-month increase in average hourly wages was 4.3% (green bar above). This means that the overall inflation rate (3.2%) is lower than the increase in wages, indicating that the average worker can buy more stuff with their earnings than they could a year ago. For any category of goods and services with a percent change in CPI less than the percent change in wages of 4.3%, the average worker can buy more of those goods and services. For any category with a percent change greater than 4.3%, the average worker could buy less of it. Therefore, even though the CPI for food cooked at home rose by 2.2% in February 2024, the average worker could buy more food at the grocery store with his or her paycheck whereas that worker could buy fewer restaurant meals, which increased by 4.5%. Inflation is often said to be hardest on retirees with fixed incomes. But this can be misleading because fixed incomes are not always really fixed. For example, in 2023, Social Security checks increased by 8.7% in order to keep up with increases in the cost of living.

Your personal inflation rate

How inflation affects you personally depends on how much your income increases each year relative to the increase in the CPI. It also depends on the increases in the CPI of individual things that you spend your money on and where in the U.S. you live.

For me personally, I live in the midwest where the CPI increased less than for the U.S. in general. I also do not spend much on goods and services that have had a large increase in price: my house is paid off so housing costs are negligible, I rarely eat in restaurants, and I don’t smoke cigarettes. What I do spend money on are goods and services that have decreased in price: I heat my house with natural gas, I recently booked airline tickets for 3 trips, I rented a car for one of those trips, and I just bought a new computer to replace my 10-year old laptop. So, my personal inflation rate is quite low and overall, I am paying less for the goods and services that I buy than I did a year ago. The bottom line is that my personal economy is currently not just good, it is outstanding! On the other hand, a smoker who lives in Texas, eats at restaurants a lot, and rents an apartment is facing a relatively poor personal economy (public service announcement: if you are a smoker, you can make your personal economy a lot better this year by quitting).

The aggregated CPI is very useful from a macroeconomic standpoint for government policy makers looking at the country as a whole. But it is less useful for individuals whose spending patterns and geographic location can vary considerably compared to the average. Making an annual household budget every year and then incorporating data from the Bureau of Labor Statistics CPI reports into that budget is a great way to ensure that your personal inflation rate does not unexpectedly bite into your checking account mid-year

The cycles of life

Our lives go through a series of cycles. We start in our education years, followed by our early working years, our child-raising years, our wealth-accumulation years, and finally our retirement years. Inflation affects us differently at each of these stages. It also affects us by the expenditure choices that we make during each of these stages. The way to make your personal economy beat inflation is to make those expenditure choices wisely: when the CPI for eating at restaurants goes up, cook your meals at home. When the CPI for airline travel goes down, book a vacation. Much of our personal inflation rate is ultimately under our own control.

March 13, 2024

Categories
Hospital Finances Medical Economics Physician Finances

Beware Of Health Care Sharing Ministries

Health care sharing ministries are an alternative to regular health insurance but they are a poor substitute for most patients and an annoyance (at best) for most hospitals and physicians. The basic idea is that people of similar religious beliefs pool their money in order to help each other pay for their medical bills. The concept arose from Amish and Mennonite communities that do not normally participate in programs like health insurance.

As an example, a number of years ago, I was the attending physician in our medical intensive care unit when a young Amish man was transferred from a rural hospital with a cardiac sarcoma, a rare malignant tumor of the heart muscle that is usually incurable and fatal. He lived on a mechanical ventilator for a couple of weeks before dying and in the process, generated a huge medical bill. Like most Ohio Amish at the time, he did not have health insurance. A few months after his death, an older Amish man walked into the MICU carrying a bundle of cash and handed it to the unit clerk. Their community had taken up collections to pay for his hospital charges. This was their normal practice to pay for medical bills.

About 30 years ago, this concept expanded to other Christian communities in the United States and became known as health care sharing ministries (HCSMs). When the Affordable Care Act was passed in 2010, it was estimated that about 100,000 Americans participated in HCSMs but that number has grown to now more than 1.7 million Americans. Participants are attracted by the like-minded religious beliefs of other members and by the lower monthly costs compared to regular health insurance.

Any time the word “ministries” is included as an attributive noun, it implies that the other noun that it is describing is virtuous, righteous, and morally principled; however, all too often, HCSMs are anything but. Instead, HCSMs can limit patient access to healthcare, burden patients with unexpected healthcare costs, and leave physicians unpaid.

What is a health care sharing ministry?

There are currently 107 HCSMs certified by the U.S. Department of Health and Human Services. HCSMs are registered as 501(c)(3) non-profit charity organizations. Rather than paying monthly health insurance premiums, participants pay monthly membership fees. These fees are usually less expensive than health insurance premiums. Membership is limited to people who share a common religious faith and often must attest to regular attendance at a specific church. Because they are not considered to be regular health insurance companies, HCSMs are not regulated by state insurance commissioners in most states. When participants incur medical bills, they then submit those bills to the HCSM for payment.

There are a number of coverage restrictions. HCSMs can decide what conditions they will and will not cover and frequently do not cover healthcare expenses for conditions that they find morally objectionable, such as abortions, out-of-wedlock maternity expenses, contraception, sexually-transmitted diseases, obesity-related conditions, or smoking-related diseases. HCSMs are also not required to cover pre-existing conditions or cap out-of-pocket costs.

The problem with health care sharing ministries

On the surface, HCSMs sound like a fabulous idea – it is like getting health insurance without having to pay for all of the bureaucratic overhead costs. Furthermore, it eliminates having to pay for other members’ healthcare costs that are incurred by “immoral” behavior. But there is a dark side of HCSMs that can be financially ruinous to patients. Here are some of the specific problems with HCSMs:

  1. They do not have to cover pre-existing conditions. Most HCSMs will have definitions of pre-existing conditions such as any disease that you have had to be treated for anytime in the past 3-5 years. As a result, participants tend to be young, otherwise healthy individuals whereas older people who are more likely to have diabetes, hypertension, or high cholesterol can be denied. Some HCSMs will cover the care of certain pre-existing conditions (such as hypertension) but those participants are charged a higher monthly fee.
  2. Many conditions are not covered. Each HCSM can decide what conditions will and will not be covered. Some of the common uncovered conditions include those that result from tobacco use, drug abuse, alcohol use, obesity, or “non-Biblical lifestyles”. Most HCSMs do not cover mental health expenses. Durable medical equipment is often not covered. Most HCSMs will have a limit on the number of months any new medical condition will be covered – for example, only covering the first 3 months of prescription medications for newly diagnosed diabetes.
  3. Maternity care is often limited. Pregnancy is considered a pre-existing condition by most HCSMs and so they will not pay maternity expenses for the first 10 months of a participant’s membership. In addition, maternity costs are often only covered for married women. Abortions are generally not covered, with no exception for rape.
  4. Preventive care is generally not covered. This can include regular physical exams, check-ups, health screenings, cancer screenings, well-child visits, and vaccinations.
  5. Provider network restrictions. Some HCSMs will only cover expenses from in-network physicians and hospitals. These are usually very limited in number, making it difficult for participants to find a participating doctor. This is especially true if the participant requires hospitalization and may not have a choice in their ER physician, surgeon, hospitalist, anesthesiologist, radiologist, or pathologist. Other HCSMs will allow participants to see any physician and then the HCSM will attempt to negotiate fees with the physician or hospital after the fact.
  6. Participants get charged “standard charges”. Every hospital and every physician group has publicized standard charges for every service and procedure. The thing is that the only people who have to pay standard charges are those who are uninsured – patients with health insurance always pay less. The reason is that every health insurance company will negotiate contracts with every hospital and every physician group and those contracts will include an agreement for the maximum amount that the insurance company will pay for every service and procedure. If the hospital’s “standard charge” is less than the insurance company’s contractual limit, then the patient and the insurance company only has to pay the standard charge. However if the standard charge is higher than the contractual limit, then the patient and the insurance company only have to pay the amount of the contractual limit. Because of this, every hospital and every physician group in the country sets their “standard charge” higher than the most that they can get from their highest-paying insurance company contract. To put this in perspective, most hospitals and physician groups set their standard charges at several times higher than the maximum amount that Medicare will pay. In other words, no one with health insurance pays the sticker price – only the uninsured pay the sticker price. HCSM participants are considered to be uninsured so they have to pay the standard charge amounts. The result is that HCSM members get charged a lot more for any given service or procedure than people with health insurance are charged.
  7. No guarantee of payment. The HCSMs are not legally obligated to pay for medical bills. In months when the member fees are less than the members’ health expenses, the members may only receive a prorated amount of the funds to cover their healthcare bill. As a result, the members never know up front how much of their medical bill will be covered by the HCSM and how much they will be responsible for themselves.
  8. The maximum coverage amount is usually capped. Most HCSMs will have a maximum amount that will be paid for any given participant’s healthcare costs – for example, a $50,000 per year and $1,000,000 lifetime limit. Any healthcare costs above these limits are the responsibility of the individual participant. When being billed “standard charges” by the hospital and the physicians, few patients can get through an ICU admission for less than $50,000.

HCSMs are bad for doctors and hospitals

One of the most basic metrics in healthcare finance is the number of days in accounts receivable (AR). This is how many days it takes to get paid after a bill is sent out and generally ranges between between 30 – 70 days. If your average days in AR is greater than 50 days, it is a sign of problems in your revenue cycle department. As the treasurer of our Department of Internal Medicine, I would monitor our days in AR every month. For insured Americans, the hospital (or doctor) first sends the bill to the insurance company (or Medicare) and then bills the patient for the amount of their co-pay or deductible. Medicare and insurance companies are generally pretty quick in getting those bills paid. But with HCSMs, the patient gets billed and not the HCSM. The patient then submits their bill to the HCSM to have the their bill “shared” with the other HCSM participants. This process can take months and as a result, days in AR can skyrocket.

The patient is responsible for the doctor bill or hospital bill and will be charged the amount of the “standard charges”. This is often tens of thousands of dollars that most people do not have sitting in their checking accounts. HCSMs will often advise their members to request that the bill get written off as charity care or to set up a payment plan with the doctor or hospital rather than pay the full amount of the bill. That way, the member does not have to pay the full amount of the standard charges all at once and can spread out payments until the HCSM determines whether it will cover the bill and if so, how much of the bill it will cover. If the patient does not initially pay their medical bill on time with out-of-pocket funds, then the hospital or physician group typically sends that bill out to a collection agency which takes a percentage out of whatever money it collects on that bill, reducing the amount that the doctor or hospital ultimately gets paid. If the patient sets up a monthly payment plan, then the hospital or physician group’s cash flow suffers since payment may be spread out over a year or longer. In addition, the hospital or physician group has to pay someone to send out the monthly payment plan bills to the patient and monitor whether or not the patient actually pays those bills – this adds additional overhead expenses in the revenue cycle department.

For catastrophic illnesses, the HCSM will have a limit on the amount that it will cover, for example, $50,000.Once that limit is exceeded, the patient becomes responsible for everything over that amount. This can often be considerably more than patients have in savings with the result that they have to sell some of their assets in order to pay their medical bills. This can result in very late payment to the hospital or physician group and can result in legal fees incurred by the hospital or physician group. As an example, I had a patient who was a healthy farmer in his 40’s that decided to go without health insurance. He unexpectedly developed pancreatitis complicated by respiratory failure and was in the ICU for several weeks. If he had health insurance, the negotiated charges would have been about $300,000 and he would have had out-of-pocket co-pay expenses of a few thousand dollars. But since he was uninsured, we legally had to bill him the hospital’s standard charges which totaled more $1 million. He eventually had to sell the farm that had been in his family for generations in order to pay his medical bills and it took the hospital 2 years to finally get paid.

Many HCSMs will negotiate fees on behalf of their members, but only after the member submits their medical bills. This can result in a lot of frustrating haggling between the HCSM and the hospital or doctor. It would be like trying to run a restaurant and having the customers trying to negotiate a lower price for their meal after they have finished eating. Any business prefers to negotiate the price of a service before they provide the service rather than several months after they provide that service; doctors and hospitals are no different.

HCSM lessons from Ohio, Missouri, and Colorado

Liberty Healthshares is an HCSM based out of Ohio. It served 70,000 Christian faith families between 2014 and 2020. It had an annual budget of $56 million and employed 470 workers. Members sued Liberty alleging failure to pay for medical bills and that Liberty funneled money to the company’s founders. The State Attorney General additionally reached a settlement agreement with Liberty agreeing to pay thousands of dollars in fines. Last year, ProPublica reported that the family that founded Liberty used tens of millions of dollars of members’ monthly fees to buy the family a marijuana farm, $20 million in real estate, and a private airline company. Since it was an HCSM, it was not subject to the regulatory oversight required of traditional insurance companies and as a result, it got away with misuse of funds for years.

Medical Cost Savings was an HCSM based out of Missouri. Last year, its founder pleaded guilty in federal court to an $8 million wire fraud conspiracy that cheated hundreds of members. Medical Cost Savings paid only 3.1% of healthcare claims and in some years paid none of its claims at all. The founder and his co-conspirators pocketed more than $5 million.

Colorado is unique among states in that it requires financial reporting by HCSMs operating in the state. In the most recent annual report by the Colorado Department of Regulatory Agencies, Colorado HCSMs collected $78 million in annual membership fees in 2022 and paid out $66 million to cover members’ medical bills. However, in that same year, members submitted $180 million in healthcare bills to these HCSMs. In other words, the HCSMs only paid 37% of submitted medical bills. In Colorado, HCSMs used advertising, social media, and “producers” (independent brokers) to recruit new participants. Four of the 16 HCSMs operating in Colorado reported the amount they paid these producers, totaling $1.8 million. HCSMs also reported marketing themselves to employers to offer to their employees. Some HCSMs required members to first request charity care and financial support from local governments and consumer support organizations in paying the member’s health care bills before the HCSM would consider paying those bills.

Caveat emptor

Let the buyer beware is nowhere more pertinent than health care sharing ministries. Operating outside of the insurance regulatory environment, they can pretty much cover whatever healthcare costs they choose to cover and are particularly susceptible to fraud and abuse of funds. Although most HCSMs are legitimate non-profit organizations run by well-meaning members of religious faiths, some are run by scammers who prey on the devout by appealing to their faith-based values.

So, are HCSMs appropriate for anyone? The only people who should even consider using an HCSM instead of health insurance are those who are young, have no medical conditions, take no medications, are not obese, do not have sex outside of marriage, are non-smokers, non-drinkers, and are willing to pay for their preventative healthcare out-of-pocket. Even then, if you are hospitalized for a serious injury, diagnosed with a chronic disease like cancer, or hospitalized with an unexpected serious infection then it could still cost you hundreds of thousands of dollars and result in financial ruin. Using an HCSM is better than being totally uninsured, but not by much.

For hospitals and physicians, taking care of patients who use HCSMs causes an additional overhead expense and often results in no payment at all. In the best of circumstances, the HCSM results in a delayed payment for services rendered that puts an added burden on the revenue cycle staff. As a doctor, I’ll take a patient with regular medical insurance over a patient with an HCSM any day. Even Medicaid beats an HCSM.

January 13, 2024

Categories
Physician Finances

Your Parents Were Wrong – A House Is Not Your Best Investment

With every monthly rent payment, you think to yourself: “Why am I just throwing my money away when I could be building equity if I buy a house?” Indeed, home ownership is often considered a core part of the American dream. On the surface, it does seem like it is financially wiser to buy a home rather than rent. After all, house values rise with time and when you eventually sell your house, you get all of that appreciated value back as an investment return. Plus, you’ll get back a lot of the monthly mortgage payments you made before selling the house and you get to write off interest and property taxes from your income tax. Well… not so fast. Buying a house as a primary residence is usually not a good idea from purely an investment standpoint. When we bought our first house in 1988, the conventional wisdom was that you have to own a house for 3 years in order to break-even on the sale of your house. But that number was probably incorrect in 1988 and it is definitely incorrect in 2023.

This year, the median price of an existing home in the United States is currently $416,100. There is tremendous geographic variation, however – the median price in Ohio is $219,903 whereas the median price in California is $750,080. The average size of a house in both states is 1,630 sq ft and 2 bedrooms. Newly build homes are generally more expensive and larger. Houses lose value in some years and gain value in others but on average, homes appreciate at 3-4% per year. The average cost to rent a 2 bedroom house in Ohio is $1,250/month and in California is $2,795.

So, let’s use Columbus, Ohio as an example. We’ll use the following assumptions based on the current Columbus median costs and tax rates:

  • Purchase cost of a 3-bedroom house of $285,000
  • Rental cost of a 3-bedroom house of $1,745 per month.
  • Rental inflation rate 2.5% per year
  • Appreciated value of the house at 3% per year
  • Real estate sales commission of 6%
  • Property tax of 2% of appraised value per year
  • Down payment of 20% ($57,000)
  • Mortgage interest rate of 7% on a 30-year loan
  • Homeowner’s insurance rate 0.4% of appraised value per year
  • Closing costs of 1.5% when buying
  • Closing costs of 0.75% when selling
  • Standard federal income tax deduction (married filing jointly) of $27,700
  • Average home repair and upkeep costs of 2% of appraised value per year
  • Cost to prepare house for sale of 1%
  • Average annual return of mixed stock/bond mutual fund of 7%

There are many costs that most homebuyers do not consider when purchasing a house. Yard maintenance, landscaping, and home repairs. Homeowners insurance. Property tax. Realtor’s commission when selling. Closing costs when buying. Closing costs when selling. The cost of staging and preparing the house to be sold. All of these hidden costs add up, often unseen at the time of purchasing a house – and they significantly erode the return on the investment of the value of the house. Furthermore, as the appraised value of the house increases each year, so does the amount of property tax, homeowner’s insurance, upkeep/repair costs, realtor’s commission, and closing costs.  In addition, there is another hidden cost – the lost income had the amount of the down payment been invested in stocks or bonds instead of used to purchase a house.

The difference between buying and renting

Using the numbers for Columbus, Ohio above, let’s look at what happens when you buy your own home and then sell after different numbers of years versus renting for the same number of years. We will include all of the various costs associated with the initial purchase, annual homeowner expenses, and sale of the house after that number of years, minus the equity in the home at the time of sale. For rent, we will compare the total amount of rent paid over those years minus the investment income had the amount of the house down payment been invested in stocks and bonds.

Year 1. Selling the house after only one year of ownership is very costly with a net expense of $43,859 compared to a net rental expense of $17,474. By doing the math, this means that you would spend $26,115 more to buy a house rather than rent a similar house.

Year 3. Selling the house after 3 years results in a net expense of $77,448 compared to a net rental expense of $53,199. This means that you would spend $24,249 more to buy a house rather than rent a similar house.

Year 5. Selling the house after 5 years results in a net expense of $110,394 compared to a net rental expense of $89,908. This means that you would spend $20,487 more to buy a house rather than rent a similar house.

Year 10. Selling the house after 10 years results in a net expense of $187,525 compared to a net rental expense of $185,411. This means that you would spend $2,115 more to buy a house rather than rent a similar house.

Year 11. We finally break even. Selling the house after 11 years results in a net expense of $201,832 compared to a net rental expense of $205,040. This means that you would spend $3,208 less to buy a house rather than rent a similar house. In other words, it requires owning a house for 11 years before it is more financially advantageous to buy versus rent the house.

But you might ask “What about those tax write-offs?” The changes to the federal tax code in 2016 included a significant increase in the standard deduction. In 2023, if you file single, the standard deduction is $13,850 and if you are married and file jointly, the standard deduction is $27,700. You can only take a tax deduction on your mortgage interest and your property tax if you itemize your deductions and you can only itemize if your deductions total greater than the standard deduction amount. On a $285,000 house, the mortgage interest plus the property tax would be $20,616 in the first year, falling substantially below the standard deduction amount of $27,700. Itemizing deductions is only advantageous if you have a lot of other deductions (such as charitable deductions) or if you buy a more expensive house (with higher annual mortgage interest and higher property taxes). The bottom line is that most people cannot deduct their mortgage interest and property tax on a $285,000 house.

These calculations are based on today’s economy. If and when mortgage interest rates fall, it may take fewer than 11 years to break-even on owning a home versus renting. Also, if Congress changes the tax code and reduces the standard deduction it may take fewer than 11 years. If you live in a state where the average housing costs are more expensive (such as California or Hawaii), then it may take fewer than 11 years for home ownership to be financially advantageous compared to renting.

The value of home ownership can be more than just money

There are plenty of reasons to buy a house other than financial. Maybe you want to re-do the landscaping or put in a basketball pole by the driveway. Maybe you want to paint the walls a different color or replace the kitchen counters. Maybe the neighborhood you want to move into has a lot of houses for sale but few houses for rent. Maybe you worry that your landlord will terminate your lease after a year or two in order to sell the house that you have been renting. Maybe owning your own home is just psychologically important to you.

But buying a house has risks. In 2007, the housing market crashed and home prices plummeted. It took years for home prices to recover to their pre-2007 prices. Many people who sold their homes during these years lost a lot of money. No one can predict what the housing market will be in the future and it is possible that if we have another crash in the housing market 10 years from now, it could take even longer than 11 years for buying a house to be financially more advisable than renting. There is also the risk of unexpected major expenses such as a new roof, new furnace, repairing damage from a broken water pipe, etc. These expenses can be tens of thousands of dollars that if you rent, your landlord has to cover but if you own the home, you’ll be stuck with the bill.

Your “forever home” won’t be

In past generations, many people bought a house and then lived in it for their entire life. When you are in your 20’s or 30’s, it is easy to think that the house you are buying will be the one you will stay in forever. But life happens and things change. Maybe you have a kid or have more kids. Maybe you or your spouse get a new job in another city. Maybe your income goes up and you want something nicer.

The average American expects to live in the home that they buy for 15 years. However, reality is very different – the mean duration of home ownership in the U.S. is only 8 years. For first-time home owners, the duration of ownership is even shorter at 3-5 years. The duration of home ownership increased after 2010, largely due to the housing market crash that resulted in people holding onto their homes rather than selling them for less than they bought them for. Prior to 2010, the median duration of home ownership was only 5-6 years. The bottom line is that most people do not live in their home for as long as they think they will.

So, should I buy or should I rent?

Based on the current interest rates and tax laws, you are financially better off renting if you stay in an average sized house in Ohio for less than 11 years. This is especially true for residents or fellows who do not know where they will be practicing in 3-5 years, when they finish their training. For people who anticipate living in a house for less than 11 years, the decision to buy a house should be because of the non-financial reasons of home ownership but with the realization that that those reasons come at a monetary cost. Each person should decide for himself/herself whether home ownership for less than 11 years is worth it.

December 6, 2023

Categories
Medical Economics Physician Finances

Impact of the 2024 Medicare Physician Fee Schedule

The final 2024 Medicare Physician Fee Schedule was published yesterday in the Federal Register. The fee schedule will impact different specialties differently and as usual, there were some winners and some losers but mostly losers – all physicians will see a reduction in their total Medicare reimbursement. The entire fee schedule is a 1,230 page document. Here are some of the key take-aways.

Summary Points:

  • The conversion factor will drop by 3.4% to $32.74 per RVU
  • Primary care physicians will get a supplement to outpatient E/M codes by using CPT code G2211
  • Telemedicine did not get cut
  • Different specialties will see different changes to their Medicare payments ranging from +3% to -4%
  • Caregiver training will now be covered by Medicare
  • There is better clarification of whether a physician or advance practice provider should submit a bill for split/shared encounters
  • Medicare will provide a $38.55 supplement for 4 different vaccines when given in a patient’s home

 

Overall lower reimbursement

The single most important item that affects how much physicians get paid is the annual conversion factor. This is the amount that Medicare pays physicians per RVU. In brief, each service or procedure performed by a physician is assigned a number of RVUs (Relative Value Units) that correspond with the complexity and amount of time it takes to perform that serve or procedure. There are 3 subcomponents of the RVU: a work RVU (physician effort), an expense RVU (overhead expense to perform that service or procedure), and a malpractice RVU (cost of malpractice insurance to perform that service or procedure). For example, a level 4 outpatient visit for a new patient is worth a total RVU of 5.44 (2.60 work RVU + 2.61 expense RVU + 0.23 malpractice RVU).

Every year, Medicare adjusts the conversion factor. Because Medicare is mandated to be budget-neutral, in most years Medicare reduces the conversion factor since there is not enough money to increase physician reimbursement while expanding Medicare coverage for new areas of spending. For 2024, Medicare will again lower the conversion factor, this time to $32.74, which is a decrease from 2023’s conversion factor of $33.89, 2022’s conversion factor of $34.61 and 2021’s conversion factor of $34.89. Thus, over the past 3 years, Medicare is has reduced physicians’ pay by 6.2%. During that same time, inflation has risen by 17.62%. To put these numbers in perspective, in 2021, an RVU could buy 9.8 gallons of milk but in 2024, an RVU will only buy 7.8 gallons of milk. This means that the purchasing power of 1 RVU has fallen by 20% since January 2021.

Given this rather enormous drop in the purchasing power of an RVU over the past 3 years, private practice physicians have few options to prevent lower income: spend fewer minutes with each patient or work more hours. Hospital-employed physicians require greater subsidy per physician from the hospital in order to overcome both inflation and the reduction in income generated by Medicare payments to the physicians.

Primary care got a boost

Primary care physicians have to do a lot of work behind the scenes to coordinate care among various specialists, fill out patient paperwork, negotiate with insurance companies for prior authorizations, answer phone calls, and respond to EMR patient portal questions. This additional work has not been compensated in the past. New for 2024 is an add-on CPT code, G2211, that accounts for this extra work performed by primary care practitioners after the patient leaves the office. It can be added onto most primary care office visit CPT codes, thus increasing Medicare payment for primary care services. Medicare estimates that it will eventually be used for 54% of all outpatient office visits that are billed using E/M codes. G2211 will be worth 0.33 RVUs (about $10.91).

Telemedicine did not get cut

The COVID pandemic resulted in Medicare loosening restrictions on telemedicine by allowing most outpatient E/M services to be paid when performed using telemedicine. Prior to the pandemic, telemedicine could only be performed in limited situations, such as when the patient lived in an isolated remote region of the country. During the pandemic, patients and physicians all throughout the country found that telemedicine was convenient, efficient, and in many situations just as effective as in-person office visits. In short, Americans liked telemedicine. As the pandemic has been winding down, there was fear that Medicare would revert to previous telemedicine restrictions, making telemedicine inaccessible to most patients and physicians. For 2024, Medicare has decided to extend the telemedicine waivers and will continue to pay for telemedicine through the end of 2024.

To bill for a telemedicine encounter, there must be both an audio and a video connection between the patient and the physician. This has been problematic for patients who lack high-bandwidth internet connections or lack video cameras on their computers or cell phones. In these situations, the encounter is generally converted to an audio-only telehealth encounter – essentially a phone call. In the past, Medicare would not pay for these phone calls but during the pandemic, Medicare did pay for phone calls when they were done as a telehealth encounter that substituted for an in-person office visit. For 2024, Medicare will continue to pay for audio-only telehealth encounters.

Prior to the COVID pandemic, telemedicine was difficult to perform in teaching settings since the resident and physician needed to be in the same physical location. For 2024, Medicare will permit the resident and the attending physician to be connected by video conferencing during a telemedicine encounter, thus permitting them to be in different locations.

Medicare had originally proposed that if a physician performed a telemedicine encounter from their home (rather than the office), that their home address would need to be registered on Medicare enrollment and billing forms. Presumably this would also apply to telemedicine encounters performed by a physician located in a hotel room, AirBNB, or family member’s home. An implication of this was that all of these various addresses would then need to also be approved by malpractice insurance companies as “medical practice locations”. This would place an enormous burden on physicians and practice administrators by adding a huge volume of paperwork to be completed anytime a physician performed a telemedicine encounter from any location other than their regular medical office. The good news is that Medicare decided to NOT make this requirement for 2024. Instead, when a physician performs a telemedicine encounter from their home, they can use their regular office as the site of service for billing purposes.

Changes in reimbursement for specialists

Every year, Medicare tinkers with the amount that it pays for any given service or procedure. 2024 is no exception and as a result, the RVUs for some services and procedures went up and for others, went down. Because of the budgetary net neutrality requirement, an increase in RVUs for one service must be accompanied by an equivalent decrease in RVUs for another service. The result of this is that some specialties will see an increase in their total annual Medicare allowable charges and other specialties will see a decrease in their allowable charges. Medicare estimates the impact of the 2024 Physician Fee Schedule on various specialties on page 79,468 of the Federal Register. The table below shows these estimates for selected physician specialties.

This table lists the charges by specialty, not the actual reimbursement. The change in charges ranges from +3% (endocrinology and family practice) to -4% (interventional radiology). When added all together, the charges have to total zero due to net neutrality requirements. The effect of the reduction in the conversion factor is on top of any changes to charges. Because the conversion factor will fall by 3.4% ($33.89 to $32.74), all specialities will actually see a drop in reimbursement. To see the actual estimated effect on Medicare reimbursement for any specialty, subtract 3.4% from the percentages in the table above.

New CPT codes

The American Medical Association creates CPT codes and then Medicare decides which codes will be reimbursed and the amount of RVUs assigned to each new CPT code. For 2024, the AMA announced that there will be 230 new CPT codes, 49 deleted CPT codes, and 70 revised CPT codes. This brings the total number of CPT codes to 11,163. It can take a while for a newly created CPT code to work its way through the RVU assignment process. The best resource to determine whether a CPT code is currently reimbursed by Medicare is the Medicare Physician Fee Schedule Look-Up Tool on the Medicare website. By entering a CPT, you can find out what the RVUs are for that CPT code and also the dollar amount that it reimburses. The 2024 data has not yet been entered into this on-line look-up tool but should be available in January 2024.

Although commercial health insurance companies tend to pay for the same CPT codes as Medicare, on occasion, a particular insurance company may reimburse for a CPT code that Medicare does not reimburse for. This adds a layer of complexity to the revenue cycle office of any medical practice. By billing for these CPT codes, the revenue cycle department accepts that there will be denials from those insurance carriers that do not reimburse for a particular CPT code. However, no one wants to leave money on the table from the insurance carriers that do cover that CPT code.

Caregiver training services now covered

New for 2024, Medicare will pay for providers to train caregivers (often family members). Although these codes will likely primarily be used by physical, occupational, and speech therapists, other providers (including physicians) can also bill for these services. These CPT codes should be used to support patients with certain diseases or illnesses (e.g., dementia) in carrying out a treatment plan. This can cover a broad range of skills, from assisting with activities of daily living to more complex tasks such as transfers, mobility, communication, and safety practices. These codes should be used when only the caregiver is present and the patient is not present.

  • CPT 97550 – first 30 minutes of caregiver training. It is valued at 1.00 work RVUs.
  • CPT 97551 – each additional 15 minutes of caregiver training. It is valued at 0.54 work RUVs.
  • CPT 97552 – group caregiver training. It is valued at 0.23 work RVUs.

Spit/shared evaluation and management services

Under Medicare, a service can be billed by only one practitioner, and if non-physician practitioners (for example, nurse practitioners) bill for a service, they receive only 85% of the physician rate. Frequently, a nurse practitioner will do an initial assessment and then the physician will follow the NP later to confirm the assessment and finalize management recommendations. In the past, it has been controversial about whether the bill for the service should go out under the NP or the physician in these situations when the clinical service is considered “split/shared”. In past years, Medicare has stated that it should be whichever of the two providers were responsible for the “substantive portion” of the visit but did not provide a good definition of substantive portion. For 2024, Medicare has defined “substantive portion” of a split or shared service to mean more than half of the total time spent by the physician and the non-physician practitioner. This should eliminate much of the administrative confusion.

The implication is that when physicians bill for split/shared visits, they should document that they performed the substantive portion in their progress note in case of a billing audit by Medicare carriers. Medicare carriers sometimes differ in their documentation requirements so physicians (or their billing staff) should check with their specific Medicare carrier to learn what chart documentation is sufficient. Most likely, it will be something along the lines of: “I personally performed more than 50% of the total time required for this split/shared visit in conjunction with the advance practice provider“. In other words, just one more lengthly phrase to clutter up progress notes in patient medical records.

Vaccinations given in a patient’s home

As a pulmonologist, I have personally given many influenza vaccinations to patients on mechanical ventilators during home visits. I have also given many flu shots to patients during home hospice visits. Those vaccinations were reimbursed at the same rate as if they were given in a physician office. In 2021, Medicare approved paying providers $35.50 extra to give COVID vaccinations in a patient’s home, over and above the usual charge for the vaccinations. This was done to encourage widespread use of the COVID vaccines, particularly in vulnerable patients who were confined to their home due to chronic disease.

For 2024, Medicare will continue to pay the supplemental reimbursement for COVID vaccinations given in a patient’s home and will also expand the list of vaccines that are eligible for this supplement to include pneumococcal pneumonia, influenza, and hepatitis B vaccines. This supplemental payment for 2024 will be $38.55 and will be added to the usual Medicare Part B payment of $32.57 for influenza, pneumococcal, and hepatitis B vaccinations and $43.43 for COVID vaccinations.

It will be harder to maintain a private practice

Over the past decade, it has become increasingly difficult for physicians to fund their salary from billing for professional services alone. Because such a large percentage of physician revenue comes from Medicare, the changes to the Medicare Physician Fee Schedule have played an out-sized role in the inability of physicians to rely on their billings alone. Currently, 33.4% of physician professional billing revenue in the United States comes from Medicare. Medicaid accounts for an additional 8.5%, private health insurance accounts for 38.4%, and out-of-pocket payments account for 7.6%. The remaining 12.2% is from other federal health programs such as the Department of Veterans Affairs, the Department of Defense, the Indian Health Service, and CHIP. The changes that Medicare makes to the annual Physician Fee Schedule are generally also made by other payers, especially Medicaid and the other federal health programs.

When adjusted for inflation, over the past 22 years there has been a 26% decline in Medicare payments to physicians During those same 22 years, there has been a 47% increase in medical practice expense. This reduction in physician income from professional billing coupled with this increase in overhead office expense has led to most physicians now being hospital-employed rather than in a private practice. As hospital-employees, physicians can receive monetary subsidies from the hospital in order to maintain salaries that cannot be supported by professional revenue alone.

Due to inflation during 2022 and 2023, we have seen many unions win contracts with double-digit wage increases for union workers whereas Medicare is reducing payment to physicians for clinical services. This further reduction in physician payments by Medicare in 2024 is likely to push even more physicians out of private practice and into hospital-employed models as private practice becomes increasingly unsustainable.

November 17, 2023

Categories
Hospital Finances Physician Finances

How Should Physicians Negotiate With The Hospital?

A reader recently emailed me to ask how his hospitalist group should negotiate with the hospital to get paid to do extra shifts. It turns out that this is a great question and one that applies to any physician group that provides shift-work care: emergency medicine physicians, anesthesiologists, intensivists, etc.

There are many situations where physicians could be asked to work extra shifts: unexpected inpatient census surges, resignation or retirement of other physicians, maternity or paternity leave, jury duty, illness or injury, FMLA leave, etc. In a private group practice, the physician partners generally just distribute the extra work among each other and pay themselves accordingly. However, for hospital-employed physicians, there is usually a physician contract dictating the expected number of shifts each physician will work each month.

The COVID pandemic put a new wrinkle in work expectations for hospital-employed physicians. Hospitals faced loss of income from cancelation of lucrative elective surgical procedures and diagnostic tests. The hospitals had no money to pay for extra shifts. In addition, most hospitalists, intensivists, and ER physicians felt a moral obligation to work extra shifts to cover the surge in COVID admissions, even if it meant little or no extra pay. But the COVID pandemic is now receding and physicians need to recalibrate expectations for compensation for extra shifts worked. Each hospital is a little different and there are several variables that will affect your best course of action.

This post is directed toward hospitalists who are asked to work extra shifts but could equally apply to any other physician specialty that is employed on a shift-work basis. In preparing to approach the hospital administration about getting paid for extra shifts, there are a number of considerations that you need to think about.

Are there multiple hospitalist groups? If so, the hospital could play the groups against each other so it would be important to have a unified approach to the compensation issue around extra shifts.

Are you hospital-employed or employed by an independent group that then contracts with the hospital? This is essentially who writes your paycheck. If you work for a separate, independent group, then the best approach is to have the group’s CEO, manager, or attorney deal with the hospital executive director or hospital CEO. If you are hospital-employed, then it is usually up to the lead physician to do the negotiation.

When in the calendar year are the contracts up for renewal? If it is January 1st, then insist on including extra compensation for extra shifts as part of the written contract. If it is later in the year, then you’ll have to decide whether to negotiate an addendum to your current contracts or whether to wait until the next contract cycle.

When does the hospital do its budget for the next fiscal year? Most academic hospitals use July 1st to correspond with the academic year and the University’s annual budget but private hospitals may have their budget cycle beginning on January 1st or some other time of the year. It is much easier for hospital administrative leaders to include a line item on the budget for anticipated overtime expenses. If you try to negotiate after the hospital budget is completed, then the administrative leaders would need to use money in their discretionary/emergency funds to pay for it and the hospital leadership will usually be less open to doing this since they get requests from all directions for that money on an almost daily basis

What do the competing hospitals do? Find out what other regional hospitals offer their hospitalists for doing extra shifts. This information often has the greatest impact on how receptive the hospital administration is to paying for extra shifts. Hospital administrators love benchmarks so find compensation benchmarks wherever you can.

How willing/able are you to walk away. This depends on the size of your geographic region – if there are a lot of local hospitals and hospitalists are in high demand, then you have greater negotiation power, particularly if those other hospitals are offering richer contracts. See if other regional hospitals have posted job descriptions for open hospitalist positions that includes payment for extra shifts – presenting the hospital administration with these kind of documents can be pretty persuasive.

Can you re-structure your shifts to make doing extra shifts more palatable? Options could include having some of the day shift hospitalists leave when they get their work done, rather than waiting until a defined shift change-over time (such as 6:00 or 7:00 PM). To do this, you have to have 1 or more hospitalists stay until check out time to cover admissions, inpatient calls, etc. This can have the impact of then having short and long daytime shifts and you can use the hours saved during the short shifts to apply to extra shifts. This is entirely dependent on the preferences of the hospitalists – for many years, we had 2 hospitalist groups – one group wanted to stick with a set 12-hour shift model and get payment for extra shifts required for census surges. The other group wanted to allow some of the hospitalists to leave once their work was done in the afternoon, allowing those hospitalists to get home in time for their kids getting off school and daycare; these hospitalists worked more shifts per month but the average shift was shorter. Also, if you have 2 or more hospitalists covering night shifts, is it possible to convert one (or more) of them into a shorter swing shift – in most hospitals, the majority of the nighttime ER admissions come between 6 PM and midnight so it may be possible to use hours saved by shortening the shifts to use toward extra shifts.

Do you need to get paid to do extra shifts or do you need another hospitalist? If you are dealing with one of your hospitalists being out for 6 months on FMLA, it may make more sense to bring in a locum tenens for 6 months rather than spread the work out among the rest of the hospitalists. If the hospital census is growing, maybe you would be better off hiring a part-time hospitalist. One of our hospitalist groups had several “1099 physicians” who were on our regular medical staff but were independent contractors who the group could ask to do shifts here and there when needed and were then paid per shift worked, rather than a fixed annual salary (thus getting an IRS 1099 form rather than a W-2 form at the end of the year). The hospital administration is likely used to using “traveler nurses” to supplement the nursing staff so the concept of 1099 physicians will not be foreign to them.

How does the hospital deal with extra shifts for other physicians, nurses, and pharmacists? If these hospital-employed professionals get paid for doing extra shifts during patient census surges, then use this as a bargaining point to have a similar arrangement for the hospitalists. Also, how does the hospital deal with other hospital-employed physicians who do shift work (for example, anesthesiologists and ER doctors)? The hospital will likely want to have consistency so if they are already paying ER physicians who do extra shifts, then you can use this to justify your request.

Be sure you know what you are asking for. How much are you asking to get paid for working extra shifts? For example, if the original expectation is that the hospitalists work 15 twelve-hour shifts each month with a compensation of $325,000 per year, that works out to $1,800 per shift.  So, will you ask for $1,800 per extra shift worked or ask for time and a half at $2,700 per extra shift worked? Will you want more per shift for undesirable shifts such as night shifts and holidays?

When possible, make extra shift voluntary. Some physicians value money more than time and others value time more than money. Mandating extra shifts can be viewed as punitive whereas monetarily incentivizing extra shifts can be viewed as an employment perk by physicians looking to increase their income by internally moonlighting. At our hospital, we had some hospitalists who were happy to get paid to work several extra shifts per month and some physicians who did not want to work extra shifts, no matter how much extra they would get paid.

How does the hospital manage physician professional income? Know how much money your group brings in from professional billing  – few (if any) hospitalists can cover their salary by professional billing alone and so most (or all) require supplemental monetary support from the hospital. Know how much your hospitalists bring in per day shift and per night shift, particularly if the hospital is doing the billing for your doctors and the professional revenue is being routed through the hospital’s finance department. These data will dictate how much you will ask the hospital to pay for extra shifts. If extra shifts are required due to an unexpected inpatient census surge, then there will be additional revenue from physician billing during those shifts and this will offset the amount that the hospital would be asked to compensate physicians who work those shifts. On the other hand, if the extra shifts are due to a hospitalist being out on maternity leave, then the anticipated revenue from physician professional billing would already have been budgeted for and the hospital would need to provide more for physicians who work the extra shifts.

Meet with the right people. This requires you to know who in your hospital administration has the authority to make the decision. This is usually a hospital chief operating officer but could be the hospital CEO. Many physicians think that they need to approach the chief financial officer but the CFO usually just passes those requests to someone else, like the CEO. The titles vary from hospital to hospital so schedule a meeting with the person who can actually respond to your request.

Data, data, data. Go into this meeting armed with data about how many extra shifts are being done per month or per year, how many hours your hospitalists are working, etc. It is useful to have a benchmark for this, such as the annual MGMA physician compensation report that lists the average hours per week hospitalists work.

Beware of becoming a clock-puncher. Physicians have historically been considered professionals when it comes to employment models. That means that their workday ended when they got their work done, rather than at some specified hour of the day. On the other hand, hourly workers clock in and clock out, getting paid for the number of hours that they work per day. Physicians who work shifts fall into a gray zone between these. The danger of too rigidly demanding payment for extra hours worked is that you run the risk of ceding autonomy to the hospital administration. The hospital CEO does not punch in and out of a time clock at work and if the CEO considers you to be employed in a professional model, then the two of you can be on an equal footing in a negotiation. On the other hand, if the CEO considers you to be an hourly worker, then the CEO owns you.

Make the right kind of appeal. Making demands and threats to the hospital administration usually gets their defenses up and makes them resistant to monetary requests. It is better to appeal to their humanity and to preservation of hospital quality. For example, employee burnout is an existential treat to hospitals so consider opening your meeting with the hospital administrative director with something like “We’re really concerned about some of our hospitalists who are showing signs of physician burnout due to the extra shifts that they are required to do and we’re worried that it will affect their performance and affect patient quality of care. We need some help figuring out a way to address physician burnout.” If you’re lucky, the hospital administration will offer extra compensation and think that it was their idea (rather than yours).

Extra payment for shifts done to cover hospitalists who are out due to FMLA or sickness is tricky. If the hospital views the hospitalist group as an independent business entity, then they will view their deal is with the group to provide coverage for a specific number of shifts per month and it is up to the group to figure out how to cover those shifts when a hospitalist is out on maternity leave, illness, or injury. If that is the case, then the group needs to anticipate the average amount of FMLA and sick time per year and build that into the annual contract as a cost of doing business. If the hospitalists are hospital-employed, then you have more power to negotiate FMLA/sick time coverage since the hospital is the “business owner” of the hospitalists. Your hospital likely does not require its nurses to do extra uncompensated shifts when one of the nurses is out on FMLA and you can use that as a point in your favor when meeting with administrative leaders.

Most physicians are uncomfortable asking for additional compensation; we would rather ask for additional patient care resources, such as additional nurse practitioners, a new operating room, or a new MRI machine. Many physicians go through their entire career without ever asking someone for a raise. Consequently, negotiating with the hospital for compensation for extra shifts worked can feel foreign. The key to overcoming this is preparation and the considerations above will help you to be prepared.

November 6, 2023

Categories
Physician Finances Physician Retirement Planning

When Is The Best Time To Rebalance Your Investment Portfolio?

An essential element of investment portfolio health is periodic rebalancing. This means evaluating your current mix of stocks, bonds, cash, and real estate investments, then selling and buying these various components to ensure that the actual proportions are the same as your desired proportions. For example, let’s say you want a portfolio that is 60% stocks and 40% bonds. If the stock market falls and you find yourself with 55% stocks and 45% bonds then you sell some bonds and buy some stocks to rebalance to the 60/40 mix. But how often should you rebalance and is there a best time of the year to rebalance? By using a little strategy in deciding when to rebalance, you can increase your overall investment returns.

Components of a diversified investment portfolio

The simplest way to think of portfolio diversification is stocks and bonds. As a general rule, when a person’s investment horizon is long, that person should have a higher percentage of stocks compared to bonds in their portfolio. On the other hand, when a person’s investment horizon is short, that person should have a  higher percentage of bonds compared to stocks in their portfolio. Consequently, a 25-year old who is 40 years away from retirement should be primarily invested in stocks. A 65-year old who is ready to retire should have a higher percentage of bonds and a lower percentage of stocks in their investment portfolio.

In addition to one’s investment horizon, one’s willingness to take investment risk also affects the stock:bond ratio in a portfolio. For any given investment horizon, a higher risk portfolio will have a greater percentage of stocks than a lower risk portfolio. Because of this, a higher risk portfolio will have a greater chance of larger long-term returns but also has a greater chance of short-term losses. Investment anxiety is one way of determining investment risk. For example, if you lose sleep every time your 401(k) falls in value, then you should take a lower risk approach to investing. On the other hand, if the ups and downs of the stock market does not bother you, you can adopt a higher risk approach to investing. Life expectancy also affects investment portfolio risk. For example, a person in excellent health who anticipates living to an old age can afford to have a higher risk portfolio since their investment horizon is quite long, even at the age of retirement. Having a pension serves as a buffer in the event of short-term losses, therefore, a person with a sizable pension can afford to have a higher risk portfolio. If a person’s anticipated monthly income from their retirement portfolio is considerably higher than their monthly basic living expenses, then that person can afford to not take money out of retirement investments in years that the market has fallen and thus that person can also afford to have a higher risk investment portfolio.

By combining one’s investment horizon (i.e., age) with one’s willingness to accept investment risk, an individualized stock:bond ratio for their retirement portfolio can be created and might look something like this:

Merely looking at the ratio of stocks to bonds is an over-simplification of investment diversification. A better way to diversify is to subdivide stock and bond investments into U.S. versus foreign and to add a real estate component. This results in 6 categories of investment components:

  1. Cash
  2. U.S. stocks
  3. Foreign stocks
  4. U.S. bonds
  5. Foreign bonds
  6. Real estate

Cash is any account that you can readily access for discretionary or emergency spending. Most people should have a minimum of 3 months and preferably 6 months of living expenses held in cash. Cash accounts include checking, savings, and money market accounts. Some people put certificates of deposit in the cash category but this can be risky. A 12-month CD results in money being tied up for 12 months before you can access it. This is fine for money you are planning to use for a down payment on a house you plan to buy a year from now but is inaccessible if you lose your job and need to buy groceries next month.

Stocks can be divided into those from U.S. companies and those from foreign companies. The difference between them can be confusing. For example, some foreign companies are traded on the New York Stock Exchange and many U.S. companies have a global presence by generating revenue from sales of products in other countries. Most mutual funds will specify whether their component stocks are from U.S. companies or foreign companies. So, for example, an S&P 500 index fund consists of 500 U.S. companies whereas a European index fund will consist of only European companies. However, the terminology can be confusing because a “global”, “international”, or “all-world” index fund may or may not include U.S. companies so it is important to understand the make-up of any given mutual fund.

Bonds can be divided into U.S. versus foreign but can also be divided into government bonds versus corporate bonds. As a general rule, corporate bonds have greater risk but higher potential returns than government bonds. Municipal government bonds are often tax-free whereas returns on U.S. treasury bonds are subject to tax.

Real estate can be an investment property that you personally own but most investors do not buy individual properties. Instead, they purchase REITs (real estate investment trusts) that are sort of like mutual funds for real estate. The REIT will own multiple properties (typically office buildings, hotels, apartment buildings, and shopping centers). The investor then buys shares of that REIT, just like they would buy shares of a stock mutual fund consisting of stocks from multiple companies.

Because the U.S. economy has historically out-performed most other nations’ economies and because the U.S. economy (and government) has also been more stable than most other nations’ economies, it is prudent to have a higher percentage of one’s investments in U.S. companies than in foreign companies. A typical tactic for stocks in a portfolio would be to maintain a ratio of 60% U.S. stocks and 40% foreign stocks. A typical tactic for bonds in a portfolio would be to maintain a ratio of 70% U.S. bonds and 30% foreign bonds. When it comes to risk and potential returns, REITs tend to fall in-between stocks and bonds. Therefore, it would be prudent to maintain a small percentage of one’s investment portfolio in real estate, for example, 5% of the total portfolio.

All of this can be complicated, so many people just purchase an “all-in-one” mutual fund that combines U.S. and foreign stocks and bonds in ratios depending on one’s investment horizon. These will sometimes be labeled as “Target Retirement 2045” for a person anticipating retiring in about the year 2045, for example. The following is the breakdown of Vanguard’s all-in-one mutual funds:

These all-in-one funds are a good choice for the investor who lacks the time, knowledge, or confidence to manage their own investment portfolio. An advantage of these funds is that the investment company does all of the rebalancing in order to maintain the desired ratio of stocks:bonds and then adjusts that desired ratio each year as a person gets older and their investment horizon shortens. However, these funds do not take into account the individual investor’s willingness or ability to assume risk and simply rely on investment horizon. Furthermore, the all-in-one funds generally do not include any real estate holdings, such as an REIT.

How often should you rebalance?

The largest investors on the planet are pension funds that can have billions or even trillions of dollars of invested assets. Although there is a lot of variation, most of pension funds rebalance monthly or quarterly. But for the individual investor, this is probably too frequent. For most of us, rebalancing once or twice a year is sufficient. The danger of rebalancing too frequently is that you can over-respond to short-term fluctuations in the market, resulting in a lot of buying and selling of investments. This can in turn result in a lot of investment transaction fees and a lot of capital gains. Those capital gains get taxed at either short-term or long-term capital gains tax rates. Short-term capital gains are on those investments that you sell less than 12 months after you purchased them; these are taxed at your regular federal income tax rate. Long-term capital gains are on those investments that you held for more than 12 months before selling and are taxed based on annual income levels at either 0% (for very low income investors), 20% (for very high income investors), or 15% (for most of us). As a general rule, your long-term capital gains tax rate will be lower than your short-term capital gains tax rate. The effect of this is that by rebalancing your non-retirement investment portfolio too frequently, you end up paying more in income taxes.

The danger of rebalancing too infrequently is that your investment portfolio can become too conservative (resulting in diminished long-term returns) or too aggressive (resulting in an excessively high-risk portfolio). Therefore, the timing of investment portfolio rebalancing is the intersection of patience and prudence.

I recommend doing a comprehensive rebalancing once a year and then doing an investment check-up every 3 or 6 months. During the check-up, if you find that your portfolio has become unexpectedly and significantly out of balance, then go ahead and rebalance at that time. What constitutes “significantly” out of balance is open for debate but I recommend using a 5% rule: if the percentage of one category of investments is off by more than 5 percentage points from your desired percentage, then it is significantly out of balance.

Take taxes into account

Investments can be grouped into three different categories: (1) regular investments, (2) tax-deferred retirement investments, and (3) Roth retirement investments. Regular investments are those that you purchase with your cash and you will pay capital gains taxes on them when you sell them. In addition, you will pay regular income tax on any interest or ordinary dividends that you earn from those investments each year.  You will pay capital gains tax on any qualified dividends you get from an investment each year. If you own a stock for less than 60 days before the dividend date, then those dividends are considered ordinary and if you own a stock for more than 60 days before the dividend date, then those dividends are considered qualified. Tax-deferred investments include the 401(k), 403(b), 457, and traditional IRA. You pay regular income tax on any withdrawals when you are retired. There is no additional annual tax on interest and dividends earned from those investments but you will pay regular income tax on money generated from interest and dividends when you withdraw that money in retirement. Roth retirement investments include Roth IRAs, Roth 401(k)s, Roth 403(b)s, and Roth 457s. For these investments, you pay regular income tax in the year that you originally earn the money and deposit it in the Roth account; that money then grows tax-free until you take withdrawals in retirement. There is no tax on interest, dividends, or withdrawals.

The investment horizon differs for each of these three categories of investments. In general, Roth accounts have the longest investment horizon because it is prudent to wait until you turn 72 years old to begin withdrawals from Roth accounts. This is because required minimum distributions from tax-deferred retirement accounts (such as a 401k) begin at age 72 so it is usually to one’s advantage to begin to spend down those tax-deferred retirement accounts prior to age 72. Roth accounts are not subject to required minimum distributions. Regular investments typically have the shortest investment horizon because these are often used for non-retirement purchases, such as a house, college education, etc. Because of these differing investment horizons, it is wise to have stocks comprise most or all of one’s Roth accounts, a mix of stocks and bonds in one’s tax-deferred retirement accounts, and a higher percentage of bonds and cash in one’s regular investments.

The differences in how these different investments are taxed has implications for portfolio rebalancing. Most people will have their highest annual taxable income during their middle or late working years (i.e., in their 40’s, 50’s, and 60’s). This equates to having a higher marginal income tax rate during those years. Because you will be taxed at your regular income tax rate for any short-term capital gains, you will end up paying more in income taxes if you rebalance using regular investments during those peak earning years. Instead, it may be wise to rebalance using investments in your tax-deferred retirement account during those working years when you have a high income.

The exception to this is when you can take advantage of tax-loss harvesting. For example, say you find that your stock:bond ratio is 65:35 but your desired ratio is 60% stock and 40% bonds. So, you decide to sell some of your stock investments and buy some more bond investments. If one of your stocks has lost money since you originally purchased it, you can sell it for a loss. Tax-loss harvesting works by off-setting up to $3,000 in taxable capital gains each year with those losses. If your losses from sales of securities are greater than your capital gains from the sale of other securities for the year, then you can also use tax-loss harvesting to reduce your annual taxable income by up to $3,000. As a result, you can reduce your federal income tax in two ways: you have less income subject to tax and because of that your marginal income tax rate falls. But remember that tax-loss harvesting only applies to regular investments and not to the sale of securities within tax-deferred retirements or Roth accounts.

Rebalancing checklist

Taking all of these various factors into consideration, late December is an ideal time for most people to do a comprehensive investment rebalancing. By then, you should have a good idea of what your annual taxable income will be for that year and you can determine whether tax-loss harvesting will be beneficial. Early July is a good time to do a 6-month investment check-up. The following are considerations to take into account when rebalancing:

  • What is the dividend calendar? Some funds pay dividends once a month but others pay dividends once a quarter or even less often. Many funds pay dividends in mid-December. Do not rebalance by selling an investment just before dividends are paid or you could lose out on those dividends.
  • How long have you held an investment? If you rebalance by selling an investment that you have held for less than 12 months, you could end up paying the higher short-term capital gains tax rather than the lower long-term capital gains tax.
  • Is your emergency fund sufficient? Every year, our basic living expenses increase due to inflation. But a new child adds considerably to those monthly expenses as does a new house with a larger mortgage or a new car loan. A marriage may increase or decrease the combined emergency fund needs of the two spouses, depending on individual circumstances. Reassess your current basic expenses to ensure that you have 3 to 6 months worth of those expenses held in cash.
  • Do you have new non-retirement expenses in the future? Maybe you are planning on buying a more expensive new house in a year or two. Or maybe a new car. Or maybe you need a knee replacement surgery. If you need money for these types of expenses in the next 2-3 years, then the money should be in a safe investment such as a certificate of deposit or a money market. If you anticipate needing money for an expense 3-5 years from now, then some of that money could also be in bonds (but not in stocks).
  • Have you lost money on some investment securities? If so, you may be able to take advantage of tax-loss harvesting.
  • Has your investment horizon changed? Did you change your mind about when you or your spouse plan to retire, either earlier or later?
  • Has your life expectancy changed? No one knows exactly how long they will live but in the past year, if you were diagnosed with cancer or developed congestive heart failure, then your life expectancy has likely decreased so you should adopt a lower risk investment strategy. On the other hand, if you successfully quit smoking, lost excess weight, and committed to a regular exercise program, then your life expectancy likely increased so you can adopt a higher risk investment strategy.
  • Did your pension status change? If you change jobs so that you are no longer eligible for a pension, then you should adopt a lower risk investment portfolio. On the other hand, if you just got a job at a Veterans Administration hospital and will now be eligible for a federal pension, then you can adopt a higher risk investment portfolio.
  • Did the total amount of your investments grow significantly? In retirement, the closer your annual income is to your annual basic living expenses, the less risk you can afford to take with your investments. This is because if the market falls, then you will have to deplete your retirement account faster than you anticipated in order to pay your living expenses. On the other hand, if your annual income in retirement is much higher than your basic living expenses, then you can reduce discretionary spending during years that the market falls and avoid depleting your retirement account. Consequently, if your retirement account has grown significantly in the past year, you may be able to adopt a higher risk investment portfolio. This is why the rich get richer – they can afford to.

Rebalancing is security

It is often said that money can’t buy you happiness. Although this is true, it can help you avoid unhappiness, which in not exactly the same thing. Annual or semi-annual investment portfolio rebalancing can increase your long-term investment returns. This can help to ensure that you have the money you need for a new home purchase, a wedding, or the life you dreamed about in retirement. But even more importantly, rebalancing forces you to critically evaluate your investment portfolio and this can give you confidence in your future and can give you a sense of control over your future. The real value of rebalancing is more than just the money.

June 16, 2023

Categories
Physician Finances

You Should Try To Pay More Taxes In 2023 And 2024 – Here’s Why

This month, public attention is focused on the banking crises, the Federal debt ceiling, and inflation. But people investing for the long-term should be thinking about taxes. Specifically, how paying more in taxes this year and next will save a lot more in taxes in the future.

We are currently living in an era of historically low federal income tax rates. The Tax Cuts and Jobs Act of 2017 had major effects on federal income taxes for nearly all Americans beginning in 2018. Specific provisions of the law included:

  • Across the board decreases in federal income tax rates
  • An increase in the standard deduction amount
  • Elimination of the personal exemption and reducing the advantages of itemizing deductions, including charitable deductions
  • Limiting deductions for state income taxes, local income taxes, and property taxes paid
  • Limiting the mortgage interest deduction
  • Reducing the number of Americans subject to the alternative minimum income tax

The law was time-limited and expires at the end of 2025. Unless it is renewed or replaced with new legislation, then the federal income tax system will revert to the pre-2018 tax system and this will have a significant impact on most Americans.

The Tax Cuts and Jobs Act of 2017 had the biggest impact on high income families. Taxpayers in the 95th to 99th income percentiles (those with income between about $308,000 and $733,000) received the biggest benefit with an average tax cut of about $11,200 or 3.4% of after-tax income. Although we all love tax cuts, they come with a societal cost and it is estimated that if the law is extended for an additional 10 years, the federal deficit will increase by $3.7 trillion between 2033 and 2042. It is impossible for anyone to predict at this time whether the the law will expire, be renewed, or be replaced. This will depend on the economy, the future federal budget, and which political party controls the legislature and presidency. But for now, there are some steps that you can take today to prevent an enormous surge in your federal income tax in 2026.

Do Roth IRA conversions in 2023, 2024, and 2025.

The best time to do a Roth IRA conversion is when your taxes are lower today than when they will be when you are in retirement. Because it is not possible to predict income tax rates that far in the future, your best bet is to have some money in Roth accounts (Roth IRA and/or Roth 401k) and some money in tax-deferred retirement accounts (401k, 403b, and/or 457). That way, you can selectively take money out of your Roth accounts when tax rates are high in retirement and selectively take money out of tax-deferred accounts when tax rates are lower in retirement. If the Tax Cuts and Job Act of 2017 does expire, then the next three years will be optimal for doing Roth conversions while federal income tax rates are lower. There are two ways to do a Roth conversion. Either convert money already in a traditional IRA (or other tax-deferred retirement account) into a Roth IRA or do a “back-door Roth IRA” by first contributing post-tax money from income this year into a traditional IRA and then immediately converting that money to a Roth IRA. Because any money converted into a Roth IRA is considered taxable income on the year of the conversion, you have to be careful how much you convert from an existing tax-deferred retirement account since the more you convert, the higher your total taxable income will be for that year. As your taxable income increases, so does your marginal income tax rate so you don’t want to convert too much or the increase in this year’s federal and state income taxes could offset the long-term benefit of the Roth conversion. A reasonable strategy is to do smaller Roth conversions in 2023, 2024, and 2025 to avoid an excessively high income tax rate during any one year.

Defer charitable contributions until 2026

The Tax Cuts and Jobs Act of 2017 resulted in charitable deductions no longer being tax deductible for most Americans. Each year, taxpayers can either take the standard deduction or itemize deductions, whichever value is higher. In 2022, the standard deduction was $12,950 for individual filers and $25,900 for joint filers. Most families have less than $25,900 in itemized deductions so most end up taking the standard deduction instead of itemizing. By giving to charity only on every other year or every third year, you can build up the amount of charitable deductions so that your total itemized deductions exceed the amount of the standard deduction. By doing this, you will have a larger total income tax deduction. If your annual contributions to charity are typically in the $10,000 – $15,000 range, then you would be best off deferring your planned 2023 contributions to charity until January 2024 and then making your planned 2025 contributions to charity early in December 2024. The result is that you would have little or no charitable contributions in 2023 and 2025 but a very large charitable contribution in 2024, thus pushing you over the standard deduction limit for 2024. Without congressional action, in 2026, the standard deduction will revert to the previous values which in 2018 were $6,350 for single filers and $12,700 for joint filers at which time, many Americans may find it more advantageous to itemize deductions each year rather than take the standard deduction. If the Tax Cuts and Jobs Act of 2017 does expire, then it may be more advantageous to defer 2025 (and potentially even 2023) charitable contributions until January 2026.

Pay your property taxes January 2026

The Tax Cuts and Jobs Act of 2017 put a cap on the amount of state, local, and property taxes that can be deducted from your federal income taxes. Prior to 2018, the amount that could be deducted was unlimited but after the law, the maximum amount of state, local, and property taxes that is deductible is $10,000. This amount is considered one of the itemized deductions so if your itemized deductions are less than $25,900 (filing jointly), then you must take the standard deduction and cannot deduct your state, local and property taxes. In most communities, property taxes are paid semiannually or annually in arrears. That means that you pay your 2022 property taxes in 2023, for example. The property tax bills are usually sent out in December and then you have until the end of January to pay that tax. If the Tax Cuts and Jobs Act of 2017 does end up expiring, then do not pay your property tax in December 2025 when you get your tax bill – instead wait until January 2026 when you will be able to apply your property taxes paid to your itemized deductions, thus reducing your 2026 taxable income when the marginal tax rates increase.

Pay your mortgage installment in January 2026

Mortgage interest is also considered to be an itemized deduction.  Most mortgage payments are due on the first of the month. If possible, make your monthly mortgage payment on January 1, 2026 rather than in late December 2025. This will add to your itemized deduction in 2026 when you will get a better tax benefit from itemized deductions. If you plan to cluster your 2023, 2024, and 2025 charitable deductions all in 2024 as described in the earlier section of this post, then use this same strategy for your December 2023 mortgage payment and then also pay your first mortgage payment in 2025 (due on the first of January 2025) a few days early in December 2024. This will maximize your itemized deductions in 2024 thus allowing you to have a higher amount of itemized deductions than the standard deduction in 2024.

Beware of the alternative minimum tax

Prior to the Tax Cuts and Jobs Act of 2026, the alternative minimum tax (AMT) was a shackle on many taxpayers – more than 50% of people with an income of greater than $200,000 per year had to pay AMT. When a person pays AMT, they no longer use the usual income tax brackets to determine their marginal income tax rate but instead use two brackets: 26% and 28%. This resulted in a much higher total income tax paid under the AMT than under the usual income tax schedule. The AMT was mysterious and had many different variables that together could push you into the AMT. Frequently, taxpayers would not know if they had to pay AMT or the lower usual tax amount until they actually sat down to fill out their federal 1040 form in the spring. For this reason, the AMT was uniformly hated by Americans who had to pay it. The Tax Cuts and Jobs Act of 2017 greatly reduced the number of taxpayers who were susceptible to AMT and this substantially reduced the federal income tax for those people who previously paid AMT. When the law expires in 2026, then if no new legislation is enacted, expect to see many more people paying AMT than pay it today.

The triggers that push you from the usual tax system into the AMT are complex and depend on many different variables. Some of the most important are total taxable income, exercising stock options, mortgage interest paid on a second home, high state income tax amounts, and high local income tax amounts. Fortunately, income tax preparation software (such as Turbotax) will do all of the calculations to determine whether you will be hit by AMT. For many years prior to 2018, I was subject to AMT and it added thousands of dollars to my annual tax bill.

Its not too early to start tax planning now

2026 seems like a long way off but for the long-term investor, particularly one investing for retirement, taking the right tax-related steps over the next two and a half years can save a great deal of money in the long-term. The most important steps are (1) to carefully analyze your financial position to determine if you should do Roth conversions and (2) to determine if you would be better off clustering two or three years of contributions to charity in a single year. In two years, we should have a reasonably good idea how economic and political forces will affect the expiration of the Tax Cuts and Jobs Act of 2017 and whether or not it will be replaced with some other tax legislation. Be watching to determine how that will affect the timing of your 2025 property tax and mortgage payments.

As responsible citizens, we should all pay the full amount of taxes that we owe. But, we should not fall prey to paying more than we legally have to.

May 5, 2023

Categories
Medical Education Physician Finances

Physician Income By Specialty: Does Length Of Residency Determine Compensation?

Physicians earn high incomes but those incomes come at a cost of investing between 7 and 12 years of education and training after undergraduate college. This post will examine the most recent physician compensation report and what it indicates about the relationship between income and the years of training required for each specialty.

Determining average physician incomes by specialty turns out to be a lot more difficult that it would seem. There are many physician compensation surveys and each of them reports compensation a bit differently with the result that it is difficult to accurately know how much the average specialist actually earns per year. Some of the most common surveys include:

  1. AAMC – American Association of Medical Colleges. This annual survey reports physician compensation from 153 U.S. medical schools and > 400 teaching hospitals that serve 124,000 physicians.
  2. MGMA – Medical Group Management Association. This annual reports surveys 3,400 U.S. medical practice administrators that serve 142,000 physicians and advanced practice providers. These group practices are largely mid-sized groups (typically 6 – 50 physicians).
  3. AGMA – American Group Medical Association. This survey represents 380 medical groups from large-sized groups (with > 100 physicians).
  4. Doximity. This survey is of self-reported total compensation from 31,000 full-time U.S. physicians.
  5. Medscape. This survey is of self-reported total compensation from 13,000 U.S. physicians.
  6. Various physician search firms and consultation firms. These are typically of small numbers of physicians and often limited to compensation reports of individual physicians that they have helped with job placement and physician groups that they have consulted with.

I tend to rely mostly on the AAMC and MGMA reports because they sample the largest number of physicians and have stricter methodology regarding what is (and is not) included in total compensation. For academic physicians, the AAMC survey is more comprehensive and generally reports higher incomes for academic physicians than the MGMA survey. For non-academic physicians, the MGMA report provides comprehensive data. For this post, I will use the 2022 MGMA physician compensation report. Total compensation is defined as salary and bonuses as well as physician contributions to retirement plans, health insurance, and life insurance. Notably, the reported compensation does not include employer contributions to retirement plans, health insurance, life insurance, or malpractice insurance.

This is particularly important when comparing academic from non-academic physician compensation since most academic jobs come with lucrative employer contributions. As an example, the Ohio State University contributes about $25,000 per year to their physician faculty member’s State Teacher’s Retirement Plan, life insurance, disability insurance, and health insurance. OSU also pays for medical malpractice insurance – the U.S. national average cost for a critical care physician’s malpractice premium is $20,215 per year. In other words, a typical OSU physician has a total of about $45,000 per year in fringe benefits as an academic physician that they would otherwise likely not have had if they were in a private medical practice. One of the reasons that the MGMA reports that academic physician compensation is much lower than private practice physician compensation is because these employer contributions provided by academic institutions are not included in the total compensation listed in the MGMA reports. If you were to factor in these employer contributions into total compensation, academic physicians’ compensation is closer to that of non-academic physicians.

The MGMA breaks reported compensation into mean, median, 25th percentile, and 75th percentile. For academic physicians, the MGMA additionally breaks down compensation by academic rank: instructor, assistant professor, associate professor, and professor. Other metrics of compensation and productivity are also included such as average total RVUs, average work RVUs, and total compensation per RVU for each specialty. Caution must be exercised when interpreting these data. For example, the mean compensation will include all non-academic physicians in a specialty, regardless of seniority. Physicians in their first years of practice after completion of training are less efficient, less productive, and less highly compensated than physicians in practice for 10, 20, or 30 years. Therefore, a newly-trained physician should not expect to earn the mean or median compensation for a specialty. Conversely, experienced physicians with many years of practice generally earn more than the mean or median. However, for simplicity purposes, this post will focus on the mean total compensation for various specialities for non-academic and academic physicians. The total compensations are summarized in the tables below:

Non-Academic Physician Compensation

This graph illustrates the mean total compensation for non-academic physicians reported by the MGMA in 2022, similar to the table above (to enlarge this graph, click on it to open it in a new window and then click on it again to enlarge). The most highly-compensated specialties were neurosurgery ($947,030), cardiovascular surgery ($829,072), cardiology electrophysiology ($747,947), orthopedic surgery ($715,399), and interventional cardiology ($702,019). At the low end of the compensation spectrum were pediatric specialties: pediatric hospitalist ($237,530), pediatric endocrinology ($239,072), general pediatrics ($252,575), and pediatric infectious disease ($256,364). In fact, of the 9 lowest compensated specialties, all but one (geriatrics) was a pediatric specialty.

Academic Physician Compensation

This graph illustrates the mean total compensation for academic physicians reported by the MGMA in 2022. The most highly-compensated specialties were cardiovascular surgery ($718,802), neurosurgery ($694,605), pediatric surgery ($588,934), thoracic surgery ($581,387), and plastic surgery ($525,215). At the other end of the compensation spectrum were again pediatric specialties: pediatric endocrinology ($184,479), general pediatrics ($189,178), pediatric infectious disease ($201,607), and pediatric hospitalist ($204,661).

In every specialty, academic physician total compensation was lower than non-academic physicians (academic pediatric-internal medicine compensation was not reported). The specialties with the greatest difference between non-academic and academic compensation were cardiology electrophysiology ($293,318), neurosurgery ($252,425), gastroenterology ($244,091), hematology/oncology ($237,720), and orthopedic surgery ($231,973). The large difference between academic and non-academic incomes explains why it has been so difficult for medical schools to keep gastroenterologists and oncologists since they can earn a quarter of a million dollars more per year in private practice. The lure of that much money is just too much for even the most noble of academic teachers and researchers. Specialties with the least difference between non-academic and academic compensation were pediatric hospitalist ($32,869), pediatric nephrology ($44,281), pediatric critical care ($47,283), and pediatric hematology/oncology ($53,152).

Compensation per work RVU

Physician work effort is often measured by the number of RVUs (relative value units) produced. Every physician service and procedure is assigned an RVU value by Medicare and then Medicare pays the physician based on the number of RVUs billed. Currently, Medicare pays $33.89 per RVU. Commercial insurance companies generally pay a higher amount per RVU and Medicaid pays a lower amount per RVU. The RVU is composed of three subunits, the work RVU (wRVU), practice expense RVU, and malpractice RVU. Of these subunits, the wRVU is most commonly used to measure physician productivity. Note that anesthesiology does not use RVUs and anesthesiologist productivity is instead measured by anesthesia units (1 unit = 15 minutes of time).

Physicians who earn a high dollar amount of compensation per wRVU generally require subsidization from hospitals.This is typically done either when the physician performs procedures that are highly lucrative for the hospitals (such as open heart surgery) or when the physician performs a lot of non-compensated work essential to the function of the hospital (such as hospitalists who take night-call). On the other hand, physicians earning a low dollar amount of compensation per wRVU have less (or no) hospital subsidization. These are usually outpatient specialties whose physicians are less often employed by a hospital.

Non-academic physicians with the highest compensation per wRVU are pediatric surgeons ($148/wRVU), pediatric hospitalists ($138/wRVU), pediatric infectious disease ($123/wRVU), neurosurgeons ($113/wRVU), and pediatric hematology/oncology ($112/wRVU). Those specialties with the lowest compensation per wRVU are pediatric/internal medicine ($54/wRVU), endocrinology ($59/wRVU), ophthalmology ($59/wRVU), family medicine ($62/wRVU), and general pediatrics ($62/wRVU).

For academic physicians, the specialties with the highest compensation per wRVU are pediatric hospitalist ($179/wRVU), pediatric surgery ($133/wRVU), internal medicine hospitalist ($123/wRVU), hematology/oncology ($117/wRVU), and infectious disease ($114/wRVU). The high compensation per wRVU for academic infectious disease physicians may reflect the impact of the COVID-19 pandemic when academic infectious disease specialists were called on to perform a great deal of administrative duties (subsidized by hospitals) in addition to their regular clinical duties. Academic physician specialties with the lowest compensation per wRVU are dermatology ($48/wRVU), neonatology ($50/wRVU), pathology ($51/wRVU), radiology ($55/wRVU), and interventional radiology ($55/wRVU). The MGMA survey did not report data for academic pediatric/internal medicine or for pediatric infectious disease.

Compensation per year of residency & fellowship training

Residency and fellowship can be viewed as an investment in a physician’s career. In theory, the longer the period of training, the greater the knowledge and skill of a physician in any given specialty. Residents and fellows do get paid but the average annual income is modest, starting at $61,000 for a first year resident (i.e., an intern) and that amount increases by about $2,500 for each additional year of residency and fellowship. During this time, residents and fellows are also required to start paying back student loans (payments averaging $4,000 per year during residency). As a consequence of residency and fellowship training years, most physicians finally enter the workforce when they are in their 30’s. The total duration of residency varies from the shortest at 3 years (internal medicine, pediatrics, and family medicine) to the longest at 7 years (neurosurgery, pediatric surgery, and interventional radiology). Fellowship training after residency further extends the total duration of training, for example, cardiology electrophysiology requires 8 years of training (3 years internal medicine residency, 3 years cardiology fellowship, and then 2 years cardiac electrophysiology fellowship). Longer residency/fellowship durations also equate to a shorter working career. The general internist with a 3-year residency will typically work 35 years before retiring at age 65 whereas the cardiology electrophysiologist will only work 30 years before retirement at age 65. Thus, the cardiology electrophysiologist sacrifices 5 of their lifetime income-earning years to do fellowship training after their internal medicine residency.

Do more years of residency/fellowship translate to higher incomes? One way to answer that question is to express physician compensation per number of years of training required for that specialty. In a completely free labor market, there would be a direct relationship between income and duration of training: every additional year of training for any given specialty would result in a predictable increase in annual income. In other words, the return on investment in terms of years of training should be constant across all specialties. This turns out to not be the case in reality.

For non-academic physicians, there is a wide variation in compensation per year of training. The specialties with the largest amount of total compensation per year of residency/fellowship are orthopedic surgery ($143,080 per training year), dermatology ($140,439 per training year), cardiovascular surgery ($138,179 per training year), neurosurgery ($135,290 per training year), and emergency medicine ($124,239 per training year). These specialties have a very high return on their investment of training time. At the low end are pediatric endocrinology ($39,845 per training year), pediatric infectious disease ($42,727 per training year), pediatric hematology/oncology ($43,808 per training year), pediatric nephrology ($44,756 per training year), and pediatric hospitalist ($47,506 per training year). These specialties have a low return on investment of training time.

The spread of total compensation per number of years of residency/fellowship training for academic physicians was similar. Specialities with a high compensation per year of training were cardiovascular surgery ($119,800 per training year), emergency medicine ($102,326 per training year), anesthesiology ($101,900 per training year), neurosurgery ($99,229 per training year), and thoracic surgery ($96,898 per training year). Once again, the least compensated per year of training for academic physicians were all pediatric specialties: pediatric endocrinology ($30,747 per training year), pediatric infectious disease ($33,601 per training year), pediatric hematology/oncology ($34,950 per training year), pediatric pulmonary ($35,946 per training year), and pediatric nephrology ($37,376 per training year). The MGMA survey did not report on pediatrics/internal medicine.

Several subspecialties were particularly noteworthy because their total compensation was less than their parent specialties. For example, pediatric hospitalists require 2 additional years of fellowship after completion of a pediatric residency and pediatric endocrinologists require 3 years of fellowship after pediatric residency. However, both non-academic pediatric hospitalists and non-academic pediatric endocrinologists make less money than non-academic general pediatricians who only completed the 3-year pediatric residency. Similarly, to specialize in geriatrics or endocrinology, a physician must first complete a 3-year internal medicine residency followed by a 1-year (geriatrics) or 2-year (endocrinology) fellowship. However, non-academic physicians specializing in geriatrics or endocrinology make less money than non-academic general internists who only completed the 3-year internal medicine residency.

In academic practices, there are even more specialities where subspecialty fellowship results in lower total compensation than the parent specialty. Academic pediatric endocrinologists make less than academic general pediatricians. Academic geriatric, rheumatology, endocrinology, and infectious disease specialists all make less than academic general internists. In these subspecialties, not only does the additional years of fellowship training not result in greater income, but the those physicians are actually financially penalized for their additional years of training by making less money than if they had just stopped after their pediatric or internal medicine residency.

It is noteworthy that there are more factors to consider than just years of training when comparing total compensation between different specialties. Some of the specialties with the highest compensation per year of training are also those with the most grueling on-call schedules, such as cardiovascular surgery, anesthesiology, emergency medicine, and neurosurgery. It is entirely appropriate that the neurosurgeon who has to take trauma call every 4th night for his/her entire life makes a high income. In addition, the cost of medical malpractice insurance premiums varies significantly. The average general internist pays $16,000 per year in malpractice premiums but the average neurosurgeon pays $92,000 per year for malpractice coverage. Once again, it is entirely appropriate that the neurosurgeon has a high income in order to cover the high overhead malpractice insurance expense inherent in that specialty.

What is the solution to these compensation disparities?

In a free labor market, a worker’s income is determined by the supply of workers and the demand for that worker’s services. So, on the surface, it would appear that there is a shortage of heart surgeons and neurosurgeons whereas there is a overabundance of general pediatricians and pediatric endocrinologists. However, American medicine is not a simple free market economy. Hospitals make the most money from procedures and surgeries: the financial margin on a surgery is much greater than the margin on a medical admission. That margin is highest for inpatient surgeries such as cardiovascular surgeries and neurosurgeries. Because of this, hospitals are incentivized to subsidize specialists who perform these high-margin procedures. Furthermore, many of these surgical subspecialists have much more rigorous on-call schedules – a neurosurgeon or interventional cardiologist is much more likely to be called into the hospital in the middle of the night to manage a patient with head trauma or with a myocardial infarction than an endocrinologist or rheumatologist whose practice is largely outpatient and limited to Mondays through Fridays during the daytime. Therefore, in order to provide 24-hour trauma or cardiac care, hospitals must pay these subspecialists substantial on-call pay.

A central problem with physician reimbursement is that it has not kept up with inflation and has, in fact, fallen over the past decades. In 1998, Medicare reimbursement per RVU was $36.69 and 25 years later, in 2023, the reimbursement per RVU had fallen to $33.89. By contrast, if the RVU reimbursement had merely kept up with inflation, then the $36.69 rate in 1998 should be $70.45 today! Physicians have made up for the reduced payments per RVU somewhat by spending less time with each patient in order to see more patients per day but that alone has been insufficient to maintain a constant income. The solution has frequently been for physicians to become employed by hospitals with the hospitals subsidizing their income. This has resulted in physician income becoming untethered from physician work productivity. The effect has been that physician income is increasingly determined by the value of the physician’s specialty to the hospital’s finances more than the physician’s actual patient care work effort.

It has been proposed that the solution would be to pay low-compensation subspecialists more. This would work in a pure free market economy but would not work in our current system of physician reimbursement. Physician services are categorized by CPT codes and then reimbursed by the number of RVUs associated with each of those CPT codes. Non-procedural specialties all use the same CPT codes for the evaluation and management services that they provide. Thus, the endocrinologist or geriatrician bills the exact same CPT codes as the general internist and gets reimbursed the exact same amount per RVU as the general internist. Because of this, the “cognitive” subspecialties of pediatrics and internal medicine (i.e., those without associated procedures) have no chance of generating more RVUs than the general pediatrician or internist. Indeed, the amount of time and effort to see a 10-year old with uncontrolled type 1 diabetes in the pediatric endocrinology office is considerably more than that required to see an otherwise healthy 10-year old with an ear infection in the general pediatrics office, even though the payment is the same for both patients. As a result, for many of these subspecialties, the reward for more years of training is a lower income. Because these pediatric and internal medicine subspecialties do not generate significant margins for hospitals, there is little incentive for hospitals to subsidize them.

It is notable that pediatric subspecialties dominate the low compensation specialties. One of the driving reasons for this is Medicare/Medicaid. Nearly every American over age 65 qualifies for Medicare so older adults are by and large all insured. Children are not eligible for Medicare but are instead covered by CHIP and Medicaid programs (or have no insurance at all!). In most states, Medicaid pays considerably less than Medicare (in Ohio, Medicaid payments for primary care services are only 57% of the Medicare amounts). Consequently, pediatricians of all subspecialties have an inherently worse payer mix than physicians who care for adults. Similarly, pediatric hospitals also have a worse payer mix than hospitals caring for adults.

So, how do we fix this? There are several tactics that can be considered:

  • Increase residency positions in some specialties. This will work only for those highly compensated specialties where there is truly an insufficient supply of physicians for current demands.
  • Re-align RVUs assigned to different procedures and services. The current RVU assignments have been affected by intense lobbying from subspecialty physician organizations and in many cases, the most RVUs have been given to the loudest lobbyists.
  • Increase physician reimbursement for Medicaid and CHIP patients. In an ideal world, a physician would get paid the same for a patient with Medicare, Medicaid, or CHIP. This would help correct the low compensation for pediatric specialties.
  • Increase the RVU conversion factor. The current conversion factor of $33.89 per RVU is too low for the vast majority of physicians to earn a living from professional billings alone with the result that most physicians require hospital subsidization. This has eroded free market effects on physician compensation.
  • Normalize the relation between years of training and income. It is entirely appropriate that the interventional cardiologist who trains for 7 years has a higher income than the general internist who trains for 3 years. But it makes absolutely no sense that the endocrinologist who trains for 5 years makes less than the internist who trains for 3 years.
  • Strategic expansion of advance practice provider utilization. We have to face the reality that income disparities in some specialties will eventually result in fewer physicians entering those specialties. Hospitals should start training nurse practitioners, physician assistants, and pharmacists to perform some of the work done by these specialists. For example, advance practice providers can often effectively replace most of the daily inpatient diabetes management currently done by endocrinologists.
  • Embrace AI. The heart surgeon will not do a coronary artery bypass surgery faster using artificial intelligence but AI may allow the general internist to more efficiently evaluate a patient with chest pain. Similarly, AI may speed up the time required for an infectious disease specialist to come up with a diagnosis based on a patient’s presenting history and lab findings. It can help the endocrinologist select the most effective diabetes treatment based on a patient’s co-morbidities. It can shorten note and order-writing time for patients performing E&M (evaluation and management) services. Artificial intelligence has the greatest potential to improve productivity of physicians in cognitive specialities, which are also the specialties that are the most under-compensated.

The forces that affect physician incomes are complex. But if we do not begin to take corrective action soon, we will find ourselves without endocrinologists, geriatricians, and pediatric endocrinologists in the near future. Because of the structure of American healthcare, we cannot rely on free market forces alone to solve this problem.

April 9, 2023

Categories
Physician Finances

Not All Money Markets Are Insured By The FDIC

The U.S. stock market and U.S. bond market are both down 18% since December 2021. Neither are showing any signs of recovery. On the other hand, money market accounts are doing quite well with rising annual yields. This has caused many people to invest new money into money market accounts. An advantage of these accounts is that they are covered by FDIC insurance, giving investors a sense that their money is secure. But investors need to research their money markets carefully because not all of them are actually insured by the FDIC.

What is a money market account?

A central tenet of any financial plan is to have an emergency fund that can cover at least 3 and preferably 6 months of household expenses. This emergency fund should be held in “cash”. From an investment standpoint, cash means an account that is secure, non-volatile, and immediately available. The three types of accounts that are considered as cash accounts are (1) checking, (2) savings, and (3) money markets. These are often called “transactional accounts“. Although some financial experts also consider certificates of deposit to be cash accounts, they are better considered to be low-risk investments because the money deposited in them cannot be accessed for a set number of months. Because of this, money in certificates of deposit cannot be used in an emergency. The Federal Reserve reported that as of 2019, the median amount of money Americans held in transactional accounts was $5,300 however the mean amount was much higher, $41,600. This discrepancy is due to a small number of Americans holding a very large amount of money in transactional accounts, resulting in the average being skewed.

Most financial experts recommend maintaining 1-2 months’ worth of expenses in a checking account and 2-4 months’ of expenses in savings or money market accounts. Money market accounts and savings accounts are very similar but there are several important differences. Money market accounts often come with check-writing and debit card options, unlike savings accounts. Money market accounts generally pay higher interest rates than savings accounts to depositors. However, money market accounts usually require a much larger initial deposit than savings accounts with the interest rate varying depending on the amount deposited and held in the money market account.

Checking accounts generally earn little to no interest; indeed, many banks charge a monthly fee to checking account owners. Savings accounts do earn interest but it is minuscule – currently, savings accounts at large national banks typically only earn 0.01% annual interest. For the past several years, money market accounts also had very low interest rates that were about the same as savings accounts but in the past 6 months, these interest rates have risen to 3 – 4% annualized.

When a person deposits money in a money market account, the bank then uses that money to invest, typically in short-term bonds and treasury bills. The bank makes its money off of the interest on those investments by making the interest it pays the depositor slightly lower than the interest rate on the bank’s investments. As an example, at last week’s auction by the U.S. Department of the Treasury, the annualized interest on treasury bills ranged from 4.22% on 4-week bills to 4.70% on 26-week bills. Last week, my bank was offering money market accounts with a 3.50% annualized yield. So, if the bank uses money market deposits to buy treasury bills, it can make a net profit of about 1%. Banks can also use money deposited into money market accounts to make bank loans, such as mortgages, car loans, and business loans. The interest the bank charges on these loans is even higher than treasury bill interest rates. Banks assume that there is a predictable amount of money being deposited and withdrawn by money market account owners and assumes that everyone does not decide to withdraw all of the money market funds all at once.

What does being FDIC-insured mean?

An advantage of transactional bank accounts is that they are insured by the Federal Deposit Insurance Corporation (FDIC). The FDIC is a United States government corporation created in 1933 in response to runs on banks that contributed to the Great Depression. Banks that are members of the FDIC pay the FDIC annual fees that are similar to insurance premiums. The FDIC then uses the proceeds of these fees to build up its reserves in order to insure the checking accounts, savings accounts, money market accounts, and certificates of deposit at member banks. Importantly, the FDIC is self-funded, meaning that it is not supported by public funds and does not depend on congressional appropriations.

Each individual’s total of all transactional accounts at a single bank is insured up to $250,000. That means that if you have a checking account, savings account, and money market account at an FDIC member bank, if the sum of all three accounts is less than 250,000, you are insured. Any amount over $250,000 deposited in an account is not insured and can be lost if the bank goes under. The FDIC’s reserves are currently $1.28 billion. In the event of massive bank failures, the FDIC also has a line of credit of an additional $100 billion from the U.S. Treasury Department. Because of this, FDIC-insured transactional accounts are considered the safest of all types of investments.

Money market funds are not FDIC-insured

Money market accounts are issued by banks. Money market funds are issued by investment companies. Although these two types of money markets are similar, there are important differences, the most important being that money market funds are mutual funds and are not insured by the FDIC. However, that does not necessarily mean that FDIC-uninsured money market funds are less safe than FDIC-insured money market accounts. As is often the case, the details are in the fine print.

When you deposit money in a bank’s money market account, the bank leverages that money to make loans and investments. The bank does not just keep that money in a vault somewhere. This creates a problem if there is a run on the bank by depositors because the bank does not have enough cash on hand to pay off all of the depositors at once. If this happens, the bank can become insolvent and go under, such as happened with Silicon Valley Bank recently. Unlike banks, investment companies do not make loans so all of the deposits in a money market fund are used for investments, typically in short-term U.S. government bonds and treasury bills. As an example, the Vanguard Cash Reserves Federal Money Market Fund has 99.5% of its funds held in cash or U.S. government securities (U.S. government bonds, treasury bills, and U.S. government securities repurchase agreements). The yield that a money market funds pays to its investors is directly related to the interest that the fund is getting from the government securities it buys. This week, Vanguard’s money market fund has an annualized yield of 4.55%. This is higher than the annualized yield of bank money market accounts but slightly lower than the current interest on 26-week treasury bills. Other money market funds offered by investment companies may be invested in municipal bonds, making the yield tax-exempt to depositors. High-risk money market funds may invest in corporate bonds or foreign currency certificates of deposit.

Money market funds also differ from money market accounts by check-writing and debit card privileges. These are not typically offered by investment companies to money market fund depositors. It also takes longer to withdraw money from a money market fund than a money market account. Generally, it takes 2-3 days (and up to 7 days) for money to transfer from a money market fund in an investment company into a checking account at your bank. However, most money market accounts held by your bank can transfer funds immediately into a checking account held in that bank.

When you invest money in an investment company’s money market fund, you are purchasing shares of that fund. The fund managers generally keep the price per share at $1.00. When the fund makes money, it pays you in dividends (not interest). So, when you make income off of the money invested in the money market fund, the price per share does not change but you end up with dividends. Usually, those dividends get reinvested in the money market fund resulting in you owning more shares of that money market fund. During the 2008 financial crises, the price per share of most money market funds dropped to $0.97, so investors lost 3% on their money market fund investments.

When depositing money in a bank’s money market, it is important to read the details carefully to be sure that the bank is offering an FDIC-insured money market account. As an example, Chase Bank does not offer a money market account through its regular banking services but it does offer a money market fund through its affiliated investment company, JP Morgan Asset Management. The current annualized yield on this money market fund is 4.47% but it is not FDIC-insured.

Caveat emptor

Nowhere does the phrase “Let the buyer beware” apply more importantly than investing. In this time of financial uncertainty with bank failures and the impending U.S. debt ceiling, it is essential that all investors be sure of the details of their investments. Money markets are currently highly attractive because they are generally safe and currently paying annualized yields that are better than can be had with stocks or bonds. Here are some of the considerations to take into account when considering a money market:

  1. Is your bank a member of the FDIC? If it is, then money market accounts offered by the bank are likely FDIC-insured. There are a few banks in the United States that are not insured by the FDIC so be sure that yours is an FDIC member bank. Credit unions are not insured by the FDIC but are insured by the equivalent National Credit Union Administration (NCUA).
  2. Is the money market offered by your bank insured by the FDIC? If your bank is an FDIC member and offers a money market account directly, then the money market is insured. But you do need to be careful because many banks will link their websites to their sister investment companies, often called “asset management” or “wealth management” companies with a similar name as the bank’s. These money market funds are generally not FDIC-insured.
  3. How much money are you putting in a money market? In general, you should avoid putting more than $250,000 in any single money market account. A common scenario is buying a new house. Let’s say you sell your current house for $500,000 and you are buying a new house for $500,000 but the closing date for purchase of your new house is two months after the closing date for sale of your old house. So you need to park $500,000 somewhere safe until you close on your new house. It is better to split the money into two $250,000 money markets – either into one owned by you and one owned by your spouse at a single bank or into two money market accounts in two different banks.
  4. Money market account versus money market fund. The deposits in an FDIC-insured money market account will be slightly safer than deposits in a non-insured money market fund. However the money market fund will probably pay a higher annualized yield than the money market account. You will need to weigh the risk versus reward associated with an account versus a fund.
  5. What is the money market fund invested in? If you do decide to deposit money into a money market fund, be sure that you read the details of how the fund manager uses those deposits. A money market fund that is totally invested in U.S. government securities is safer than a money market fund invested in municipal bonds. A money market fund that is invested in corporate bonds or foreign currency certificates of deposit is considerably riskier.
  6. How fast will you need to move the money? You can wire money from your bank’s money market account immediately but it can take up to a week to transfer money from your investment company’s money market fund into your checking account.
  7. Do you want to write checks on your money market? Although every bank and investment company has different rules, most banks will allow you to write a check or use a debit card to access cash in your money market account. Most investment companies do not offer check-writing or debit cards to withdraw cash from money market funds.
  8. Know your tax implications. Money market accounts will pay you interest, which is taxed at your regular income tax rate. Money market funds will pay you dividends, instead of interest. Dividends come in two types: ordinary dividends and qualified dividends. Qualified dividends are taxed at the dividend tax rate of either 0%, 15%, or 20%, depending on your taxable income. For most people, the dividend tax rate is lower than their regular income tax rate. Ordinary dividends, on the other hand, are taxed at your regular income tax rate, just like interest is taxed. Most money market funds will pay out ordinary dividends and not qualified dividends. Money market funds invested in municipal bonds are generally tax-exempt.
  9. When to consider treasury bills instead of a money market. Every week, the U.S. Treasury Department auctions federal securities. Treasury bonds mature in 20-30 years, treasury notes mature in 2-10 years, and treasury bills mature in less than 1 year. For some people, purchasing a treasury bill directly from the Treasury Department can be a good alternative to a money market. Treasury bills are similar to a certificate of deposit in that the money cannot be accessed until the bill matures. The advantage of a treasury bill is that it generally pays a higher rate of return than money market accounts at a bank. Just be aware that if the federal government reaches the debt ceiling without congressional action, you may not be able to get paid once a treasury bill reaches its mature date. Currently, treasury bills with mature dates of 4, 8, 13, 17, and 26-weeks are available for purchase. The most recent annualized rates range from 4.22% for 4-week bills to 4.70% for 26-week bills.

The good news is that both money market accounts and money market funds are generally safe and currently offering better annualized yields than other common investments. Just be sure you know what you are putting your money into before you hand over your cash.