When transitioning from a part-time or full-time employee to a per diem as a healthcare professional, there are a few factors to consider so that you can minimize your tax burden and maximize your profits. In this post I want to focus on that first year when you transition and how to plan for it.
2017 was just such a year for me and looking back, I could have done a few things differently to minimize taxes and maximize my income.
1. Health Insurance
The kind of healthcare professional who reads this blog is comfortable taking charge of their finances and their life. This person is more likely to want to optimize their health insurance plan as opposed to have the government tell her/him how much coverage they should have. Why pay top dollar for a bloated plan when you can manage your own health care and safeguard against catastrophes?
With previous catastrophe plans, a relatively healthy healthcare professional could pay a low ongoing monthly premium and set money aside to cover any unexpected expenses. They would utilize their HSA account to make health spending more tax efficient.
The individual healthcare mandate will disappear by 2019. So for 2018, you will still be required to have health insurance. After that time you should be able to purchase health insurance at a lower monthly cost – or you can choose not to carry insurance at all, which is inadvisable.
Before Your Leave Your Job
It goes without say that you should never consider COBRA (Consolidated Omnibus Budget Reconciliation Act) due to its insanely high cost, unless you absolutely cannot be without health insurance due to expensive and necessary medical care. Or if you need health insurance but don’t qualify to purchase health insurance outside of the eligibility window of open enrollment.
Before you leave your job, you can ask if your employer might negotiate coverage for you for a few extra months. If you leave on good terms it’s likely for them to do so.
2. Retirement contributions
Your first year as a per diem you will no longer have anyone contributing to a retirement plan on your behalf. If you are a per diem clinician, you are completely on your own when it comes to retirement savings.
As an independent contractor your options are a SEP IRA, solo 401k, and/or traditional IRA. There are other options as well but I’ll focus on these 3 since they are the most common and likely options.
This is that little dinky $5,500 IRA that you can set tax-deferred money into as a per diem as long as you aren’t covered by an employer retirement account.
There is a Roth option as well but not something that would benefit most healthcare professionals.
This $5,500 is fully deductible regardless of your income as long as you aren’t covered by an employer sponsored retirement account.
Your first year as a per diem might be financially tight so you may not want to contribute most of your earnings towards a retirement account. You’ll see below that with a solo 401k you can contribute a lot towards your retirement account. But a SEP IRA has other benefits.
A SEP IRA is really easy to open online and even easier to fund. You are limited to 20% of your net earnings which is the main drawback.
Individual (solo) 401k
This is a great option if you have a decent income because you get to contribute as both the employee as well as employer. It’s just an accounting formality but it means that you can contribute the usual $18,000 as the employee and an additional 20% as the employer.
This sum is calculated off of your net profits after accounting for self-employment taxes. There are some great online calculators to help you figure out your exact contribution limits.
Opening an individual 401k (aka solo 401k) is much easier than you think but still more complicated than a SEP or traditional IRA. You will need an EIN which you can apply for on the IRS website for free and you can contact a company such as Vanguard to have you open a solo 401k right over the phone without having to fill out a paper application.
3. Estimated taxes
If you ever did any moonlighting as a resident then you know a little about paying estimated taxes. Some physicians who become partners in their medical group will also know about estimated taxes which is paid 4x a year.
Your first year as a per diem you will get your gross earnings deposited into your checking account and no taxes will be withheld. However, you are still responsible for paying estimated taxes throughout the year otherwise you’d have to pay some small penalties.
How Much To Set Aside
By the end of the year, after you’ve deducted a lot of your expenses and hopefully maxed out your retirement contributions, you’ll be responsible for the following taxes:
If you are going to be earning somewhere in the $100k gross then set aside 30% of each paycheck into a separate checking account.
Every 4 months you’ll cut out a check to the IRS and to your state’s tax board. I would send 20% to your federal and 10% to your state if you live in a state with high income taxes.
Don’t worry too much about this. Even if you don’t set anything aside, the fines for late payment aren’t severe and as you keep doing this per diem thing you’ll get better at determining your estimated taxes.
Switching In The middle of the Year
It’s better from a bookkeeping perspective to switch to a per diem position in a new calendar year. But there is nothing wrong with switching mid-year.
If you do so then one thing you’ll notice is that your W2 income as an employee was taxed at a slightly higher rate because your employer calculates your estimated taxes based on you working a whole 12 months.
Traditional IRA. If you have any retirement contributions for the year then you won’t be able to contribute to a tax-deductible traditional IRA if your income is above a certain amount. You can still contribute the $5,500, but it will be with after-tax dollars.
401k’s. If you had a 401k with your employer and you contributed $10k then remember that you can only contribute another $8k for the year. Your max 401k contributions across all 401k’s have to be $18k. But your total retirement contributions for 2017 can be $54,000.