Key Considerations for Buying or Selling a Healthcare Practice
Taxes, Timing and Employee Benefits
The beginning of a new year is a time when many practitioners consider whether an ownership change is in the future for their practices. Buying or selling a healthcare practice involves preparation and a lot of moving parts.
This year, that includes consideration of how the COVID-19 pandemic may impact a healthcare practice. The pandemic has not slowed down the sale of practices in many healthcare professions, including dentistry and physical therapy. In some cases, the pandemic appears to be accelerating the business exit of older physicians and dentists who want to continue working for a couple more years, but without the challenges of ownership.
Moreover, historically low interest rates, which are expected to remain low for at least the next year, are helping move the sales of many practices forward.
For both buyers and sellers, the key issues in a practice sale are tax considerations, timing of the transaction, employee benefits and insurance credentialing. While these considerations are important both for buyers and sellers, the specifics differ depending on which side of the transaction you are on. Following are recommendations for both buyers and sellers regarding these critical areas of concern.
On the Buyer’s Side
The structure of a deal usually is driven by tax considerations, and on the buyer’s side an asset purchase generally is more advantageous than a stock purchase. Buying the assets of a practice enables the buyer to get the tax benefit of depreciation, either bonus depreciation or Section 179 depreciation, all in the current year.
Another advantage of an asset sale is that the buyer doesn’t legally assume any liabilities of the prior owner. If the practice were to be sued over something that happened before the sale, the new owner would have limited liability.
If you are planning to buy the real estate owned by a practice, a separate Limited Liability Corporation (LLC) should be created for the real estate ownership, which provides legal protection in the case of a lawsuit.
Timing of the Transaction
If you buy a practice before the end of the year and allocate the purchase price to equipment, but you have no income in the current year, you may lose significant value in terms of deductions that could be taken against income. It could be beneficial to wait until there is a full year of operations before taking certain deductions. Alternatively, if you are buying a practice late in the year, you can make the sale effective on January 1 of the following year.
Buyers must be sensitive to the needs of employees who will come along with the purchase of a practice. What kinds of benefits have they been receiving? What kinds of workplace protocols, payroll dates and salaries are they accustomed to? Chances are the employees — if they know the sale is in progress — are concerned about what it may mean for them, and whether they may lose benefits.
As the buyer, make sure you coordinate with third-party payroll providers and benefit providers to ensure there are no interruptions in pay or benefits.
When it is time to merge vendors for payroll and benefits, explore the options. Review your existing benefit providers as well as those of the practice you are buying. You may be surprised to find there are savings or other advantages to work with the vendors that are currently serving the practice.
Workplace retirement plans, such as 401(k) plans, present special issues during a transaction. Typically, a seller would terminate their plan and the buyer would create a new one and roll in the balances of all participants. But the balances can affect the pricing structure for the transaction since benefit providers often discount their fees for plans with higher balances. During the due diligence phase, talk with benefit providers and find out if the balances involved in the deal will qualify for lower fees.
Credentialing for Insurance
In Kansas, healthcare providers must be individually credentialed by each insurance company through which they intend to bill. Some insurance companies require re-credentialing if an entity has a new Employer Identification Number (EIN), and credentialing can take 60 to 90 days. Some insurers only require a letter informing them of the new EIN, but others go through an approval process. Consequently, a newly acquired practice can operate for several weeks or months with no income from insurance claims.
To get past the credentialing process, many buyers obtain working capital loans, while others ensure they have cash to cover expenses during that period.
On the Seller’s Side
For the seller, the tax consequences of the transaction can be more immediate. One of the first considerations is whether equipment owned by the practice has been fully depreciated. If so, any amount of the purchase price that is allocated to equipment will be taxed at ordinary income rates. So, the allocation used for the deal structure is important.
If you have been buying new equipment and not using accelerated depreciation, you may be in good shape as far as the allocation is concerned. However, if you took advantage of accelerated depreciation, again, the portion of the sale price that is allocated to equipment will be subject to taxation as ordinary income.
Any part of the purchase price that is not allocated to equipment, receivables and inventory may be allocated to client lists or goodwill, which are treated as capital gains and taxed at the lower capital gains rate. So, a seller naturally wants more of the purchase price allocated to goodwill and client lists, whereas the buyer benefits by having more allocated to equipment and inventory.
Allocation is a critical piece of the deal structure and one area where buyer and seller may butt heads. The tax consequences for both buyer and seller are significant, considering ordinary income tax rates are as high as 37%, real estate tax rates are around 25%, and client lists and goodwill — at the capital gains rates — are taxed at 15% to 20%.
This is where having a good accountant and a good lawyer involved in the negotiations is important to make sure the allocation isn’t going to bite you at tax time.
Timing of the Transaction
For a seller, an end-of-year closing date for a practice sale can have a detrimental impact at tax time. A sale that closes in December results in taxes on the sale being due just a few months later on April 15. But pushing the closing date out to January gives the seller about 16 months to prepare for any tax bite, as the taxes won’t be due until the following calendar year.
While buyers need to ensure there is no interruption in benefits for the employees of the practice, the seller must make sure that policies are terminated at the proper time. Communicating with the buyer is essential to ensure that there are no lapses in insurance coverage for employees. Final payroll dates and filing of tax withholding amounts also must be determined.
Continued Employment of the Seller
A final consideration for the seller may be whether to remain with the practice as an employee for a year or more. This can be a beneficial arrangement for healthcare providers who want to continue working without the challenges of ownership. Moreover, the buyer may benefit from having a top practitioner remain with the practice to provide continuity of care and reassurance to long-term patients.
If the seller wants to remain with the practice, this is something to negotiate as part of the sale.
If you are considering buying or selling a healthcare practice in the near future, contact your Adams Brown advisor to discuss your options.