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Ballooning interest rates, falling house prices and likely global recession will impact dentists: Strategy for the times
By Graham Middleton
The signs have multiplied that we will be unable to avoid a substantial economic slowdown, probably classified as a recession. Already the bulk of the housing market is in significant decline. As this accelerates, more builders and developers will fail or suffer big losses. Evidence suggests that not only does China have substantial economic problems, but that its rulers are content to see its housing bubble decline at a massive cost to millions of citizens. Because of the losses to Chinese local governments who have relied heavily on income from land sales to property developers, spending on Chinese infrastructure is in rapid decline. This spells a substantial reduction in demand for Australian iron ore both in quantity and price. Iron ore sales, along with coal and gas, are critical pillars providing massive revenue to federal and state governments through royalties, company tax, the tax paid by contractors and the PAYG tax paid by employees. Hopefully, Australian coal and gas exports will remain at record prices boosted by the flow-on demands created by the Russia/Ukraine war, but an overall slowing of the Australian economy is occurring and the impact will be sustained. Dentists with CBD practices badly affected by lock downs have already suffered; those in the suburbs less so. As homeowners on low interest limited term loans progressively face conversion to loans at much higher rates, their spending power on other goods and services will be severely affected. Those whose homes are paid for or who have substantially paid down loans are in a much better position. Rising interest rates to counter still rising inflation will eventually see a hopefully small increase in unemployment.
Four key building blocks
Concentrate on the key building blocks for long term practice and financial success. The four key building blocks of dental financial development are: 1. Your home; 2. Your dental practice; 3. For most dentists, your practice premises (some smaller country centres excepted); and 4. Your family superannuation fund, usually with dentist and spouse the only members.
Dealing with patient impact
The first lesson is to keep your nerve. If you have a dental practice that has been profitable in the past, it is necessary to run the practice in such a way as the existing patient base is maintained. Dentists are in the relationship business to an even greater extent than medical GPs. The patient base is the unique asset which must be retained and from which most new patients are referred. Be empathetic toward patients who are suffering because of slow downs in their business or having to struggle with much higher mortgage payments by offering them affordable alternatives. Many will return for advanced treatment when the economy turns in their favour. Practices in well-established suburbs with older average residents will have many patients who have long owned houses and who have little or no mortgages. They are the premium practices to buy.
Attending to your own finances - Things financial advisers may not tell you
As variable home loan interest rates have increased from about 2 percent to about 5 percent—and are at risk of increasing further—the benefit of a higher income earner reducing their mortgage has jumped. At a home loan rate of 5 percent and a marginal tax rate of 47 percent (including Medicare levy) it is necessary to earn 9.43 percent on a safe pre-tax investment to achieve the same net post tax benefit as reducing a home loan. At a home loan rate of 6 percent and the same tax rate it is necessary to earn 11.32 percent!
By contrast, those dentists able to repay their home loans while maintaining interest tax deductible loans on practice premises, who have marginal tax rates of 47 percent including Medicare levy, are effectively only paying 3.18 percent after tax on a loan at 6 percent interest!
Dentists with good equity in their homes are able to secure finance on practice and premises by using their home as security because the bank regulator— APRA—gives special weighting to home loans when setting banks capital adequacy ratios. Banks with a large proportion of home loans on their balance sheet are able to lend a great deal more and will be prepared to be more generous lenders when a home is part of the lending package.
Keeping superannuation fees cost effective - Beware of multi-level hidden charges
Now that a period of high stock market returns is a couple of years in the past, it is time to take stock of your super fund to ensure that a high proportion of actual income is not being eaten up in fees. In a period of economic slow-down, market returns are likely to be low. It is easy to fall into one of the hidden high fee traps.
Beware of structures which bury significant fees inside a fund over and beyond those declared such as an adviser/fund administrator packaging a number of managed funds, which have high internal management expense ratios, as recommended investments within a fund or within an individually managed superannuation account or similar structure.
Paying too much for a lazy adviser!
Beware of changes which cost more including buried fees—the underlying purpose of these are to make an adviser’s job easier while preserving maximum income by their organisation. If advised of a change to investments from individually selected investments toward a wrap account or a process which significantly lessens the contact with your adviser in favour of some periodical computer- generated investment change recommendation, it is likely that your adviser is setting out to gain a continuing substantial fee with significantly less personal involvement. Very quickly the adviser is likely to become distant from having an intimate knowledge of your overall finances. In this event, be prepared to look elsewhere or demand a significant reduction in fees.
Prior to about 2020, the majority of advisers were wedded to managed funds because they were dependent on trail fees or arrangements whereby the managed funds collected their fees on their behalf. Most did not have a deep knowledge of the share market except for a small number of stocks taken from their organisation’s “approved list” and to the extent that they included some shares in a client’s fund, the process was dumbed down for them. The proportion of advisers who had developed a deeper knowledge of the share market was small and those advisers tended to avoid managed funds. Following regulatory change, the ease with which advisers could continue to earn trail fees on managed fund investments was removed but the years in which they had been wedded to managed funds meant that a great many were unable to cope in a new environment. Bank and AMP restructuring saw a vast number of financial planners displaced, some because they could not pass the required exam.
Personal declaration
In passing, I passed the required exam to continue to be a financial adviser about a year before my retirement, albeit that I found much of the study guide unrelated to much of what I actually did for my clients.
Regardless as to how you are advised, a key safety precaution is to acquire a significant understanding of investments within your fund. If your adviser is recommending changes, their reasoning should be clearly understood. With respect to shares, it is critical that you get used to dialing up a share market index and examining annual and half yearly reports. Examine whether these reports give a clear picture of profitability and of business strategy over time. Do not simply follow sharebroker recommendations, which are noted for their quantity rather than their quality.
Those who understand financial markets realise that the top twenty or so shares on the Australian stock market by capitalisation represent a huge proportion of the total value of the market. Most serious investors have a large proportion of their fund invested in top 20 stocks. Those seeking to gain more international exposure will choose to own one of the world’s biggest exchange traded funds, either the Vanguard Standard and Poor’s top 500 fund, ASX code IVV owning the top 500 stocks listed on the New York Stock Exchange and Nasdaq or Blackstone’s US Total Markets fund, ASX code VTS. Many stocks in these funds are global in their operation, thus giving international exposure and, very importantly, have very low Management Expense Ratios (MERs) of about 0.12 percent which is vastly lower than an array of managed funds and some listed investment companies (LICs).
Measuring the capability of your financial adviser
Measure your financial adviser by asking questions to which you already know the answers. My personal experience forged over 33 years of advising dentists and other health professionals was that a foundation to advice was a thorough understanding of a client’s practice development, practice financial performance, debt structuring and other financial assets. That was fundamental to their overall development and invariably meetings or telephone conferences quickly passed from a recent review report of their super funds to other pressing issues of most interest to the client. Being able to advise on the wisdom or otherwise of extending practice premises to add additional surgery(s), or discuss the productivity and remuneration of assistant dentists is going to have a long-term impact—either increasing profit and practice value, or detrimental to it. A financial planner worthy of the title must understand their dental clients’ practice financial performance and the strategic decisions which accompany it; in most instances (except for older dentists who have acquired substantial investment/ superannuation assets), dentist’s practice related income dwarfs their non-practice income, so advisers without the ability to measure/benchmark practice performance and identify recommended improvements do not deserve to call themselves financial planners.
Beware accountants without substantial dental client experience
Accountants often have signs proclaiming that they provide business advice, but most simply do tax returns which indicate how much taxable profit a dentist had last year. The vast majority have no idea as to how their one or perhaps a few dental clients actually perform compared to their peer group and often endorse faulty strategies as a result. I have come across many dentists who have suffered long term detrimental impact from having received poor advice from their accountants during their initial years as practice owners. It is best to do considerable personal research including discussion with trusted dental colleagues and measure the competence of your accountant by asking questions to which you know the answers.
Holding cash and near cash
At times of deteriorating economic conditions, it is prudent to hold a proportion of funds in cash or near cash; I hold an array of bank hybrid securities issued by our largest four banks plus Macquarie Group in addition to cash. They are not guaranteed but are regarded as being very low risk. They pay a margin above the rate at which banks price their transactions with each other, the bank bills exchange rate. As this rate fluctuates with other interest rates and I am being
“Being able to advise on the wisdom or otherwise of extending practice premises or discuss the productivity and remuneration of assistant dentists is going to have a long-term impact. A financial planner worthy of the title must understand their dental clients’ practice financial performance and the strategic decisions which accompany it...”
paid a margin above, it is a conservative investment choice. I lower the risk by holding a number of hybrid securities of differing maturity dates issued by each of the major banks. Be aware that global stock markets will be early to predict an improvement in economies while markets for government bonds/treasury notes or what are known as gilts in the UK are early predictors of the direction and magnitude of interest rate increases (note when interest rates increase the value of these securities fall. I am making small investment shifts away from cash to shares. We will only know what the actual lowest share market point in the cycle was when we can look back after many further months.
General Advice Warning
The information contained in this article is unsolicited general information only, without regard to the reader’s individual financial objectives, financial situation or needs. The information contained on this article is general in nature and you should consider whether the information is appropriate to your needs, and where appropriate, seek professional advice from an accountant or financial adviser. It is not specific advice for any particular individual and is not intended to be relied upon by any person. Before making any decision about the information provided, you should consider the appropriateness of the information in this article, having regard to your objectives, financial situation and needs and consult your professional adviser. Any indicative information and assumptions used here are summarised, are not a product illustration or quote and also may change without notice to you, particularly if based on past performance. This notice must not be removed from this article.
About the Author
Graham Middleton disposed of his interest in Synstrat group on 30 June 2020 and won’t be starting another business; he spent the later 33 years of his working life advising health professionals on business and financial matters. Dentists were the most numerous of his clients. He is the author of the recently published Financial Success for Dentists. Dentists may obtain a copy by making a donation of minimum $60 to the Delany Foundation a registered charity which assists schools in Ghana, Kenya and Papua New Guinea then email Graham at graham. george.middleton@gmail.com. A copy will be sent to you. All proceeds go to the Delany Foundation for its good work. Graham has paid for the printing and mail costs personally.
