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Building Your Investment Waterfall as a Physician

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Most people know that the way to reach financial freedom as a physician is to invest a good chunk of your income. But where should you put your investments? I recommend thinking about them as buckets. In general, you will fill the first bucket/investment account with money until it reaches the maximum amount. After this, your savings and investments above this amount will spill into the next bucket/investment account on your priority list. This can be considered an “investment waterfall,” with each bucket spilling into the next. 

Below, I review the main types of accounts you should be investing in as a busy physician. Bear in mind that each has special features, advantages, and disadvantages.

1) Taxable investment account

This is the account that most people think of when they imagine investing money in the stock market. This account does not carry any special considerations from the government or IRS. Anyone can open one of these accounts online with a brokerage like Vanguard or Fidelity.


  • You can remove the money from the account at any time without a penalty.
  • Additionally, there is no limit to the amount of money that you can invest in a taxable account. 


  • Generally speaking, the money that you put into this taxable investment account has already been taxed via income taxes (post-tax money). And the government will tax any money made in the account when you take it out via capital gains taxes. These taxes can be either lower rate long term capital gains taxes or higher rate short term capital gains taxes, depending on if you keep the money in the account for more or less than one year. 

In general, you will want to contribute the maximum to your tax advantaged accounts (below) before contributing to your taxable account. This minimizes your tax burden — a big goal for high income earners like physicians.

2) 401(k) investment accounts

This account is probably the most common retirement investment account, especially for employees. Additionally, self-employed individuals can open a solo 401(k).

In a 401(k), the money you put in each year is pre-tax money. It then grows in the account and the government taxes it when you withdraw the money in the future. This is advantageous because your effective tax rate during your peak earning years is likely to be higher than it will be in retirement when you take the money out.


  • Commonly, employers offer a “match” in which they will contribute a certain amount if you contribute to the 401(k) to a certain level. If you are self-employed with a solo 401(k), don’t worry. You can contribute as both the employer and employee.


  • The price for this tax advantage is that you cannot withdraw the funds prior to age 59.5 without paying a 10% penalty. 
  • The types of investments that are available in a 401(k) (or 403(b) and 457(b)) are limited to those offered by the brokerage that your employer hired to sponsor the plan. Though rare, it is therefore possible that your 401(k) would not offer low cost, diversified index funds to invest in. In these cases, you will need to weigh the benefits of the tax advantages in the 401(k) versus the benefits of investing with lower fees using index funds without tax advantages in a taxable account.

3) Traditional IRAs (Individual Retirement Account)

This is an investment account available to any individual generating income of any kind. You can open it with any brokerage just by going online. 


  • You can contribute up to $6000 yearly (as of 2022) to a Traditional IRA. Money put into this account is pre-tax. Again, the money grows and the government taxes it upon withdrawal (when your effective tax rate is likely lower). You can withdraw the money without a 10% penalty beginning at age 70.5. 


  • The initial tax deduction upon contributing money phased out for individuals making more than $75,000 or married couples making more than $125,000 in 2022. Physicians will be above this income limit and therefore, their contributions will see taxation twice — once at contribution and once at withdrawal. Thus, this type of investment account would offer no advantage compared to a regular taxable account. In fact, the IRA would be worse because there is an age minimum for penalty-free withdrawal as well as a yearly contribution limit.

4) Roth IRAs

With a Roth IRA, the government taxes your money at the time of contribution. 


  • The money in your account grows tax-free and is NOT taxed upon withdrawal. The contribution limit in 2022 was $6000 and the general rule for age of withdrawal without penalty is 59.5. 


  • There is an income limit to be allowed to contribute to a Roth IRA and receive these tax advantages. The income limit in 2022 was $139,000 for individuals and $206,000 for married couples. Most attending physicians will again be above these limits. However, this is a great investment account for resident physicians who will be below the income limit. Residents can thus contribute directly to a Roth IRA when they are in the lowest tax bracket that they will ever be in. Then their contributions can grow and be withdrawn tax free in the future. That’s why this is one of my 11 steps for residents that will make them more than $1 million!

5) Health Savings Account (HSA)

An HSA is an account available only to members of high-deductible insurance plans. 


  • With an HSA, you can contribute tax free money for health care expenses. While in the account, it grows tax free and is withdrawn tax free, making it triple tax free.
  • The extra nice trick with an HSA is that you don’t need to withdraw money to pay for health care expenses right when they are due. You can save the receipt for a health expense in the current year and withdraw the money from your HSA years later tax free using your saved receipt after it has had years to benefit from compound interest growth. 


  • The money can only go toward designated health care expenses.

6) Pensions

While not as common as they were in the past, pensions are a type of defined-benefit plan. You contribute a certain, fixed annual amount to the pension. Your employer invests the collective contributions as they see fit with a promise to pay you a fixed amount of income during your retirement. 


  • You receive a fixed amount of income once you retire. 


  • The amount you receive is subject to your employer, who may not invest their pensions wisely. This can result in lost money and evaporating pension payments for retirees. 

As I mentioned above, the goal is to organize these accounts or buckets into an investment waterfall based on your unique financial situation as a physician, resident, or retiree. To develop your own investment waterfall, determine what tax advantaged accounts are available to you. Then, start with the most advantaged account and fill it with your savings. Once that bucket is full, spill into the next most advantaged account. And on and on!

Ultimately, this waterfall then becomes an integral part of your written financial plan. In fact, simply by deterring your investment waterfall, you have already completed a big and very important portion of your plan. Congratulations!

What other investment accounts have you utilized? Share your experiences in the comments!

Jordan Frey, MD is a plastic surgeon in Buffalo, NY at Erie County Medical Center and the University of Buffalo. His clinical focus is on breast reconstruction and complex microsurgery. He is also the founder of The Prudent Plastic Surgeon, one of the fastest growing finance blogs. There, he shares his journey to financial well-being with a goal of helping all physicians reach financial freedom, practicing on their own terms.

Image by Nuthawut Somsuk / GettyImages

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