There is a lot of narrative out there for physicians who have 10-99 income sources, the so-called contractor status, and how this type of income fits into their overall scenario. Maybe you are doing some moonlighting, through a Locums company or directly contracting with a hospital as a non-employee; maybe you are being paid as a medical consultant on a project; maybe you are practicing telemedicine. There are several options out there which will qualify you as a contractor, and there are benefits – from the flexibility in hours to favorable tax treatments – that can work for you as you work for yourself.
But how does the narrative on taxes apply to you? Here are some points to consider, and while nothing here should supplant your consulting with your own advisory team, it can be valuable to have a few things in mind going into that discussion. But first:
Have an Advisory Team! Consult with them before making any tax – based decisions. With all your medical training, it is unlikely you received any training on how money works. If you have any income streams other than a W2, you should be speaking to qualified professionals concerning how to make your cash flow system as efficient as possible. Maybe you won’t use all the advice – when you tell patients to improve their diet, you know sometimes that will fall on deaf ears – but it can’t hurt to add perspective other than your own from people who study fiscal health like you do physical health.
Different Strokes for different… States. State tax laws can vary widely, for example the laws about incorporating – from specifics about which entity type to use, and the extent to which the incorporation creates liability protection for you personally – are also different from one state to the next. That said, there are some general tax considerations that come into play, and they are mostly designed to create advantages for the 10-99 contractor. Some states have no state income tax altogether, so the federal income tax might be the extent of what you owe.
No upfront taxes on earnings. Unlike W2 income, no withholdings (taxes) are taken out when the gross pay is distributed to you; so, SAVE! Allocate at least 20-25% (into a separate bank account if it’s better that you can’t see it!) that is earmarked for taxes, so that April 15th doesn’t catch you off guard. We have heard quite a few stories from physicians who were never told about this tax consequence – and we had to deliver the news – not a good surprise! Your 10-99 issuer will likely not explain this; nor is it their responsibility. Budget accordingly, and:
Take deductions on business expenses. Your gross pay isn’t taxed in advance, but the final figure you are taxed on isn’t calculated until after you take any applicable tax deductions. Some of those are, but are not limited to: business travel, via planes or car; meals; home office expenses (which can include a portion of utilities); business equipment including phone and laptop; interest paid on business lines of credit; and qualified retirement accounts (which are by nature tax deferred vehicles). If you open a brick and mortar private practice, or are a partner in a group, there are many more deductions (commercial mortgage interest, depreciation on equipment, etc), but for this purpose we are sticking to those basics that you will encounter doing any of the above work as a sole contractor. Know how to account for these deductions properly, and use them; they create efficiency, and the IRS isn’t going to volunteer the info!
Taxed now vs. later? A quick note on qualified retirement plans. While any contributions come off the taxable amount for that same tax year, someday upon distribution of those funds, they will be fully taxable at ordinary income rates. This is often not explained well (or at all) by some advisors! Another thing to consider: while maximizing deductions is a good strategy, it is important to consider the long term tax ramifications of these retirement accounts. If you are invested in passive income streams, like real estate or equity in businesses, your income tax bracket in retirement may not lower (as conventional wisdom suggests that it always does); and in that case, you may want to balance these accounts with other asset classes that get the taxes out of the way in the short term and have lower (or zero) tax consequences in the long run. Deferring income taxes on money going into qualified plans can be a short term play for increased cash flow, but may not be the best longer term play for savings. It all depends on what you want your future to look like and what income sources you’ll have in retirement, once the active paychecks stop.
Think about short, medium term, and longer goals. The interplay of taxes on a long term balance sheet must be factored into any well rounded plan. These are complex considerations, but you will not regret the education and consideration about planning for your future. Really draw out what you want, and your vision will help make the plan take shape. Make sure your advisory team is discussing all the options for you, not just the ones that defer the maximum amount of taxable income for the future. If you are entrepreneurial, you may want to keep some cash assets available to you to invest in businesses, real estate or other equity types that require capital; in that case, funds locked up in qualified retirement accounts may not be an efficient place to draw from – if you are allowed to do it at all. Having a balance of tax deferred vehicles and different types of accounts that can keep money more readily available may be a better system to allow more diversification and liquidity.
You might be thinking that this topic is more mentally taxing than anything else! But, so were your USMLEs! In this case, the only board you go in front of is an advisory team of your own choosing, and your long term goals are what to study and prepare for. Not the easiest discipline to have, but the kind you’ll never regret creating.