Most people think of building wealth as increasing their net worth. Someone’s net worth is their financial assets minus their financial liabilities. This and other methods can be used to gauge your financial progress. However, that still misses the human capital half the picture.
As described in the preceding post, building holistic wealth encompasses the sum of both our human and financial capital in the context of our broader society and economy.
Many will agree that without your health, you have nothing. While as unpredictable as financial markets, our health also must be part of our plan. Our time left on Earth and capacity for effort are limited. They also shrink with each passing moment – so we need to spend this capital wisely.
Building Wealth Across Our Lifecycle
How we exchange between our human and financial capital will change over our lifespans. When we start out, we usually have plenty of human capital and very little financial capital. The unfortunate reality is that as we age, there will be a decline in our human capital. We must build sufficient financial capital to buy other people’s human capital to help us as our human capital wanes.
That is the basic premise retirement planning – building financial capital now to draw upon in the future to maintain our lifestyle when we have less human capital left.
To build that financial capital, we need to spend less than we earn. Simple. However, the difficult part is that we don’t really know the time scale of when our career or life may end. You don’t want to sacrifice too much for a future that doesn’t come – YOLO and FOMO. We need to balance working and spending now with our probable future need. Fortunately, this is made easier by investing early to take advantage of compounding returns.
Using our newfound holistic wealth perspective, let’s broaden this traditional view of financial planning to inform our investing and holistic wealth building. The same principles apply to different permutations of both our human and financial capital.
Invest Financial Capital To Make More Financial Capital
This is most readily thought of as investing in physical or financial assets that grow (like stocks and bonds). Using your money to make more money, as shown on the far right of the above schematic. That involves risking your money in the investment. That risk could be low, like buying government bonds, and associated with a lower expected return. Or it could be riskier, with a higher expected return, such as equity investments. Getting that balance of risk and reward by mixing these different types of investments is called asset allocation.
Invest Early To Build Financial Capital.
Timeframe is key to successful investing. Early investment of financial capital results in an outsized result. This is because compounding returns increase exponentially. That really takes off with longer timeframes. Let’s say you focus your efforts to invest $15K/yr instead of $10K/yr for five years and then stop making contributions. That extra sacrifice for a short time period makes a difference of $175K after 35 years of compounding at 6%/yr.
That extra $25K early on makes a seven-fold difference down the road. The good news is that “early on” is also when you have more human capital. You could increase your early investing by spending some of that human capital.
Using Human Capital To Build Financial Capital
Enjoy being young. It doesn’t need to be expensive.
You can spend human capital by giving up some comforts through spending less for a few years. “Living like a resident” isn’t too bad. A resident salary is in the 75th to 95th percentile compared to age-matched Canadians. You don’t need to go the route of extreme frugality, but you also don’t need to follow harmful physician scripts.
You are primed to work hard while young.
On the other side of the ledger, coming out of residency, you are already accustomed to hard work. You could pick up a physician side hustle. That extra work early on, when your human capital is highest, can help you to be able to work less sooner and in a more sustained way. This can be more challenging for some than others because other biological imperatives, like kids, may enter the mix while you are young. However, you can do your best to flex up when you are able.
You could also invest some human capital to build a passive income stream.
Outside of passive income from investing financial assets, truly passive income streams usually mean building a business or inventing/creating something. Done well, that front-loaded time/effort yields disproportionately more income with little time/effort later. Writing a popular book would be a good example. Writing a niche blog that requires frequent detailed new/updated posts (like this one!) definitely is not.
Again, the impact of spending this human capital early to invest and let compounding work for you is bigger than if done later in life. It is also harder to do later if you have less human capital to draw upon. Your human capital also affects how aggressively you should invest and the expected return.
Human & Financial Capital Impact Investment Asset Allocation
Choosing an optimal asset allocation means taking on enough investment risk to get good returns, balanced with enough stability to avoid making behavioral mistakes. That usually means a mix of stocks (for return) and bonds (for stability). However, including your human capital as an asset in your decision making is also important.
Early in your career, you have plenty of human capital.
Although not risk-free, it is likely that you have many years of earning money before you need to access your financial capital. Your human capital acts as part of your “bond allocation”. It gives you more risk capacity (the ability to recover from an investment loss). To make ensure that this part of your asset allocation is low-risk (as intended), be sure to get the appropriate amount of own-occupation disability insurance.
How bond-like is your human capital?
If your job is cyclical and vulnerable to economic downturns, then it may not be as stable and “bond-like”. That may mean that you can take less risk with your invested assets. Conversely, someone with a more stable job has more risk capacity. While strong human capital is reassuring, risk tolerance is still about emotion and behaviour. So, it is only one factor in determining the asset allocation to invest with. However, there is evidence that it does play a role in actual investor behaviour.
As you age, your ability to work like a beast (and the years left to do so) shrinks.
The time horizon before needing to access your financial capital to make up for your waning human capital shrinks. You may need to add more bonds to make up for this. This gradual shift to decrease financial capital risk is sometimes referred to as the “glide path”. There are even target-date funds that emulate the concept. The shifting asset allocation of the Vanguard U.S. Target Date Fund is shown below as an example. Bonds are shades of blue and equity is red/orange.
Many rules of thumb are bantered around for optimizing this relationship. However, it is important to remember that while you may have the capacity to recover from a financial down-draft – you also need the investing intestinal fortitude. Our objective risk capacity and our emotional risk tolerance are not the same things.
Investing Human Capital To Build or Preserve Human Capital
The preceding discussion about investing your human capital to build financial capital is pretty standard basic personal finance. However, financial wealth is only part of our wealth equation. We also need to invest our human capital to preserve or grow more human capital if we want to be truly wealthy. See the far left of the schematic below. It is missing from most personal finance teaching but is crucial.
Investing is your human capital is analagous to investing in financial capital.
The risk and return relationship still applies.
It means putting in the time, effort, and emotional risk required to build and sustain relationships. Getting enough broccoli and exercise. Recharging your emotional battery and sense of purpose with some form of spirituality. Developing and sharpening your mind with new skills. It takes some deliberate effort to reclaim some leisure time in a busy life.
An early start still makes for outsized returns.
Some happiness research suggests that our relationships are probably the strongest predictors of happiness over our lifespans. It is harder to suddenly start building a relationship with your kids when they are teenagers or adults than when they are young and think you are fun and cool. Well, my kids never thought I was cool. I am fun though.
If you envision a retirement filled with hanging out with your spouse and/or friends, then you need to nurture those relationships in advance.
Developing a satisfying level of expertise and skill in new hobbies requires time and effort. The process of doing that is also punctuated by small victories and pleasures. Why not start that now?
The effects of diet and exercise accrue over a span of years or decades. Plus, entrenched habits become progressively more difficult to change. Don’t wait until your first myocardial infarction.
Feed The Economy That You Want To Thrive
As discussed in the preceding post, we build our personal capital in the context of our economy and society.
Growing our economy benefits us by fostering innovation and productivity.
It occurs naturally when we exchange money for services and products. If we are all uber-frugal and rarely spend money, then there wouldn’t be much impetus for providers to put in the effort. The economy would grind to a halt. That promotion of spending may seem like the antithesis of personal finance dogma, but it isn’t.
The key: spend money on areas that you value and not on what you don’t.
That both makes the best use of our limited money and also contributes in a small way to the broader market. Collectively, it shapes which fruit will ripen and which will wither on the vine.
For example, our family spends considerable money on athletic activities, travel, and our home. We spend relatively little on clothing. We spend nothing on cigarettes.
In a small fractional way, we are encouraging the part of our economy that provides great travel experiences or athletic development. Conversely, we are not supporting the growth of the tobacco industry. As individual consumers, our impact is likely small. However, it doesn’t really cost us much to make good choices and it does make us feel good. Plus, all larger-scale impacts start with individual actions.
Spending less than we make also allows us to invest. Investing your money in productive companies not only helps your personal financial capital grow, but it also promotes growth in the areas of the economy that you invest in.
We could take that a step further and invest in “socially conscious” funds. However, we haven’t at this point. White Coat Investor has a nice summary of the pros/cons of the Environmental, Social, Governance investment philosophy.
Build Our Social Wealth. You Are Part of Us.
We build social wealth directly and indirectly.
We can build social wealth both indirectly through our government, and directly through our personal relationships. Building the economy around us, as described above, helps to build the wealth of our society. Both via the jobs created and the taxes collected from successful businesses. Governments use those taxes to provide social programs and national security.
Governments also procure funding via our personal income taxes when we sell our time and through consumption taxes when we buy back time/effort from others.
In trying to build the society around us, should we then pay more tax?
The answer to that depends on whether you feel that your capital is put to best use via the government or more directly. Government programs have the advantage of scale. However, with that complexity, there can also be a loss of efficiency to bureaucracy if unchecked. Political decisions about capital allocation are influenced by political advancement and not just optimal resource utilization. There are aspects to improving our lives that governments do well and others that they don’t.
Grow social wealth through good financial stewardship.
You can probably guess by the time spent on this blog focused on tax planning that I don’t feel that paying more tax is the best use of my capital. That is not because I am greedy and want to stunt the growth of our society.
It is because my wife and I already pay a large tax bill and feel that further deployment of our capital to build society is best done more directly. We are blessed with the ability to make a large income – but that also means that we are responsible to steward that money to see that it does the maximal good.
Giving must be part of your financial plan as a good financial steward.
It may seem contradictory to those trying to earn and aggressively save towards the goal of financial independence, but it is important to give along the way. It is one of the essential financial skills and requires knowledge and practice to do well. That means giving human and financial capital regularly and deliberately to maximize the impact. We will examine the skill of giving in detail in the Earning, Spending, Giving section of the basic financial curriculum. Done well, it can build our human, financial, and social capital synergistically.
Balancing Personal Capital to Build Holistic Wealth
Our personal capital is finite. We only get one life to maximize the return on our investment of personal capital to build our holistic wealth. That is complicated by the fact that our lifespan is uncertain, and we must balance competing interests along the way. Still there are some principles and tools that we can use to be good financial stewards.
Be deliberate.
There are many competing interests for your personal capital. Career, kids, family, self-care, community. The balance will different for everyone. However, have a broad perspective as you buy, sell, and grow your personal capital helps to do so deliberately.
Start early.
As you move through life, take stock and adjust course accordingly to find and restore balance. If you steward your capital well and grow it, you will be wealthier if you also better the world in which you live at the same time.
Be efficient.
Since our time is fixed, optimally building wealth requires us to use our time efficiently. The common currency of exchange between our time and capital is money. So, our Time-Money Exchange Rate (TiMER) is key to our efficiency and making better choices about spending time or money. Yes, I made that up because it sounds catchy. There are also many ways that we can use our time synergistically.
Keep learning & improving.
You are one the right path by reading this post. Stick with me. We are going to flesh out all of the above principles and apply them throughout this website. It helps me learn and improve with every post I write and every comment you make.
Love the TIMER acronym.
It is a shame but for the majority of people we spend all our time trying to get the money and when we have the money we have no time left to use it.
One of the downfalls of being laser focused on money is also the fact that we often neglect our bodies doing so. This has 2 detrimental effects for our “golden years.” If we are unhealthy we can’t enjoy them as much and if we are really unhealthy we shorten our lifespan also reducing these years.
Thanks Xrayvsn. Totally agree – focusing on the tool rather than the project is a recipe for disaster. Thinking more broadly of the goals makes it easier to balance them.
-LD
Hi Loonie Doc,
Really enjoy the information you provide in your posts. I was wondering if you could post an article discussing how to make a plan to withdraw funds from a professional corporation as tax efficiently as possible when you retire. Also, can you answer the question of what happens to the funds of a medical professional corporation if the sole registered director/shareholder passes away and there is a large balance remaining in thepc?
Thanks.
Hi Eric,
Thanks for reading and those are both great questions/topics.
The drawdown strategy is something that will depend on a whole bunch of things. So, will be many posts. I have done some preliminary thinking about it. It will be different if retiring well before 65, if OAS/GIS is a factor, level of spending, and estate planning. Honestly, one of the places where a fee-only financial advisor (or your fee-based on if using one long-term) is really useful to come up with an individualized plan. They usually have software that models it.
When you stop practicing medicine, your MPC becomes a holding company basically. I believe a spouse can be a shareholder of that. What happens to that when you die depends on how you have done your estate planning (a good spot to use an estate planning lawyer – we did this recently). It is important to have your MPC structured properly in advance and a secondary “limited will” to address how the corp is handled. The other piece to know about in advance if using any whole life in the corp is to have it set up properly. Ours is a joint-last-to-die policy with the corp as a beneficiary. Anyway, there are great topics to write about and I will circle back to them at some point (with diagrams). I made lots of notes from my meetings with our estate planners/lawyers that seem to be “filed” somewhere deep on my desk.
-LD
LD,
Enjoyed this one, especially the inclusion of human capital as part of the garden we ought to be tending. Too easy to get caught up in the acronyms at the brokerage and overlook the relationships that contribute disproportionately to our sense of living well. I’ll take being a relationship baller over a financial baller (that came out sounding more perverse than intended) any day, as that contributes more to my sense of holistic net worth.
Being 11% through The Return of the King with my son (damn you, Kindle, and your excessively specific metrics!) I also appreciated the Gandalf quote.
Makes me want to believe it’s halflings like us that hold the fate of Physician Middle Earth on a chain around our necks.
Keep fighting the good fight,
CD
P.S. Grateful for the DAF shout out, and thanks for introducing me to Dr. FIREfly.
Thanks CD. I think that aspect of maintaining our human capital as part of our wealth is really skimmed past in the finance literature. It is the best investing we likely do, but I felt it required a specific label to keep it part of the equation in time/money decision making. Observing my son’s eating habits this summer, we have concluded that he is definitely a hobbit. Hopefully, he doesn’t get the hairy feet too..
-LD
Thanks LD for a great post.
I have recently been thinking about this in turns of academia/medical education/administration. I think that the “TiMER” mantra is readily ingrained in our culture now in both positive and negative ways.
One of the things that led me to choose a job in community practice vs. academia was seeing the frustration of my academic staff complaining about academic responsibilities as “free work”. One solution to this would be to financially compensate this. However, with the focus on TiMER I feel we forget how investing our time can be an Investment in Human Capital thus further aggravating our issues with burnout.
Thanks for the reminder that Holistic Wealth doesn’t only consist of Financial Wealth.
Thanks Kevin,
I have definitely thought about this in those roles a lot recently. I practice in an academic setting and have shifted what I do non-clinically multiple times (now focusing on this). We now have an AFP that at least counter-acts the “University Tax” so it is break even in terms of money. Sort of. I could make more in a large community setting, but I really love the people at the hospital that I work at. I actually struggled a bit during the pandemic because I worked mostly nights and did admin meetings during the day – so I rarely did teaching rounds or got to hang out with my usually co-workers for a couple of years. I had a human capital deficit and can experienced the link to burn-out.
When I look back at my career to date. The most exciting and rewarding thing that I did was work to bring together people and build things. In the beginning, that usually doesn’t pay anything. However, it eventually can somewhat. Nothing pays as well as clinical work. However, from a non-financial standpoint we really improved our quality of work-life by collaborating better. You can come out pretty well financially as a doctor in either a teaching or non-teaching setting. Same with building human capital. A good teaching hospital is really set up for that from an environmental perspective (although not financially so much). I would imagine that you can also make those opportunities in the community too. It is a matter of seeing opportunity, mindset, and being willing to take the risk of investing time. It is easier to do that when you have a solid financial position and realize the power that gives you.
-LD