Introduction:
Dr. Smith has been practicing as a solo practitioner in New York for many years – although he currently has a very successful practice, due to personal circumstances, Dr. Smith is ready to retire. As retirement approaches for Dr. Smith, what are his options with respect to his dental practice? Dr. Smith has essentially 2 options: he can either sell his practice or just close shop[1]. Although Dr. Smith would ideally like to sell his practice, the unfortunate reality is that it takes time to find a buyer or transition the practice to an existing employee . In the event, Dr. Smith becomes ill and can no longer work, then his practice will not be worth as much to a potential buyer since the potential buyer does not know Dr. Smith’s patients and there will likely be attrition with respect to patients of the practice. Unfortunately, many physicians and dentists find themselves in a similar situation; however, this can be avoided by planning.
Succession Planning – Overview:
In sum, the best way for a physician or a dentist to maximize the purchase price for his/her practice is to have a physician or a dentist who is already associated with the practice purchase the practice. Since the physician or dentist associated with the practice is familiar with the specialty, patients and location, the practice will ultimately be most valuable to that individual. As such, in the event you are currently a solo practitioner, the best advice is to hire a physician or a dentist who will ultimately buy-in as an owner of the practice, and who will then buy your interest in the practice when you are ready to retire. Although this process is certainly doable, it takes time and therefore physicians and dentists must start planning at least 5 years in advance.
In addition to hiring the appropriate physician or dentist, it is imperative that the owner of the practice take proactive steps to get a higher purchase price. Essentially the most important assets of a practice are the space (lease), equipment, employees and patients. As such, the owner needs to make sure that they secure a fair lease which is long term and has the ability to be assigned. This also applies to equipment, as well as an EMR system. Furthermore, with respect to patients, the owner should continue to treat their patients until they are ready to retire. When a physician or a dentist “winds down”, they decreases their patient base, which may ultimately decrease the value of the practice.
The Buy/Sell Agreement:
In the event the physician or dentist employee is a good fit with the practice, you may consider offering the physician or a dentist an opportunity to become a shareholder/partner/member (depending on the type of entity) of the practice. Prior to offering the physician or a dentist employee this opportunity, you must consider what the physician or a dentist ’s buy-in will be, which is based upon the value of the practice. It is recommended that you speak with a certified healthcare accountant or appraiser with respect to such valuation. As noted above, in the event your practice is lucrative and has a high valuation, the physician or a dentist employee may be more willing to pay top dollar in order to have an ownership interest in the practice. In the event the practice is not financially sound and is not valuable, a physician or a dentist employee will not want to pay a high amount for ownership. If the physician or dentist employee accepts the offer for an ownership interest in the practice, you need to make sure that you enter into an agreement with the physician or a dentist (i.e. a Partnership Agreement, Shareholders’ Agreement or Operating Agreement depending on what type of entity the physician or dentist renders services through) which outlines the terms of your relationship as owners of the practice, including but not limited to, what the buy-out would be in the event one of the physician or dentist or the original owner retires, withdraws, becomes disabled or dies. You may be able structure the arrangement whereby the buy-out for retirement may be significant and higher than if the practice was sold to a physician or dentist not associated with the practice. Furthermore, you would have the option to structure the arrangement whereby you would have the ability to work part-time upon retirement if you so desire.
Seling to Private Equity Group:
Private equity firms raise money from investors and pool that money together to buy privately owned businesses. The private equity firms’ goal is to increase the value of the business beyond the purchase price by generating greater earnings and then sell the business to a third party for a multiple of the original purchase price, while returning a portion of the profits to the investors. Private equity firms often look for a three to five times return on investment over a three to five-year period. With respect to healthcare transactions, many private equity firms attempt to either combine multiple practices in the same specialty or create a large multispecialty practice to control a region, compete for contracts and drive rates.
In addition to a higher purchase price, healthcare providers often reap tax benefits as the sale of assets results in capital gains tax rates which are lower than ordinary income taxes. Additionally, healthcare providers are often given equity in the purchaser’s management company as part of the purchase price, which allows healthcare providers to participate in the growth of the business and partake in the profits when the entity is sold to a third party. While there can certainly be a benefit to having an equity interest, there are often limitations with respect to when and how the equity can be converted to actual cash.
In addition to an equity interest, healthcare providers are also generally offered an employment agreement with the professional practice in order to continue to render professional services. Although the initial purchase price for the assets may be high, the employment compensation offered is generally significantly less than what the provider was making beforehand. Therefore, the healthcare provider is often just receiving funds upfront with a potential tax benefit, in addition to the potential to profit when the entity is further sold to a third party. Providers need to carefully study the numbers in order to make sure the deal works for them in the long term.
Providers also need to be cognizant of the employment terms. For instance, employment is often not guaranteed and can be terminated pursuant to the terms of the employment agreement at any time. Healthcare providers also need to be mindful of the type of malpractice insurance to be maintained, as well as potential restrictive covenants.
Although it can certainly be a huge benefit to no longer have to deal with the administrative burdens of running a practice and making investments in technology platforms, providers need to understand that they will be losing autonomy and decision making and must be comfortable with the private equity leadership team and the culture of the private equity firm. Providers should do their due diligence with respect to looking at the private equity firm’s track record with similar practices.
New York Limitations
It is well-established that New York law includes a prohibition on the “corporate practice of medicine.” This prohibition reinforces the basic principle, reflected in New York law, that only persons licensed to provide medical services are permitted to engage in the practice of medicine.[i] Thus, a physician may practice medicine only in his/her individual capacity, or as a member of a solo or group practice (either in the form of a professional corporation (PC) or limited liability company (PLLC) where all members or shareholders are licensed physicians themselves). Limited exceptions to this rule apply only to hospitals, clinics, and certain other entities licensed under the New York Public Health Law. In any circumstance not prescribed by New York law, a physician is prohibited from being employed by a non-physician and partnering with a non-physician in a medical capacity. Note that while New York has a rote prohibition on the corporate practice of medicine, this does not hold true across all states. States such as Delaware, Hawaii and Montana, for instance, have no laws or other guidance barring physicians from being employed by non-physicians.[ii]
New York law also has a prohibition on fee-splitting whereby it is deemed to be professional misconduct to permit “any person to share in the fees for professional services, other than: a partner, employee, associate in a professional firm or corporation, professional subcontractor or consultant authorized to practice medicine, or a legally authorized trainee practicing under the supervision of a licensee. This prohibition shall include any arrangement or agreement whereby the amount received in payment for furnishing space, facilities, equipment or personnel services used by a licensee constitutes a percentage of, or is otherwise dependent upon, the income or receipts of the licensee from such practice, except as otherwise provided by law…”[iii]
Based upon these limitations, private equity is unable to invest directly in professional practices in New York State. However, private equity can invest in management companies that manage the non-professional aspects of healthcare practices. These management companies can own the non-professional assets of a healthcare practice, including for instance equipment, furniture, fixtures and supplies. Management companies can also hold the lease for the space, as well as employ the non-professional staff. The professional practice would have to be owned by a healthcare professional licensed to practice that profession in New York State. The private equity firm can designate a professional who would be the owner of a professional practice. A management arrangement would then be established between the management company and professional entity whereby the management company would be paid a fair market value flat fee for managing the entity.
Asset Planning:
Also, when planning for retirement, and in general, it is recommended that you have a will identifying how your assets will be distributed upon death. Furthermore, it is advisable that you have a living will which expresses your desires with regard to health care treatment if you become mentally incapable and/or physically incapable of expressing those desires, as well as health care proxy which allows you to designate a person to make health care decisions for you if you cannot make them for yourself.
Conclusion:
Retirement can be a very exciting and scary time for physicians or dentists as there are many decisions that need to be made. To that end, it is in the best interest of the physician or dentist to retain a team of professionals specializing in health care – attorneys and accountants– to help prepare them for the future. As noted above, this process takes time, and you must plan in order to capitalize on retirement.
Mathew J. Levy is a Shareholder/Director of the Firm and co-chairs the Firms corporate transaction and healthcare regulatory practice. Mr. Levy has extensive experience in, defending healthcare professionals in actions brought by State licensing authorities and Federal agencies. Mr. Levy has successfully defended numerous healthcare providers in actions involving the US Attorney’s Office investigations, Medicare Fraud Waste and Abuse investigations, Medicaid Fraud Control Unit investigations, OPMC, OPD, Medicare, Medicaid as well as commercial insurance audits. Mr. Levy has successfully structured and negotiated joint venture agreements, private equity transactions, venture capital transactions, stock purchase agreements, asset sale agreements, shareholders agreements, partnership agreements, employment contracts, managed care agreements and commercial leases. Mathew Levy can be reached at 516-926-3320 or [email protected].
Weiss Zarett Brofman Sonnenklar & Levy, P.C. is a Long Island law firm providing a wide array of legal services to the members of the health care industry, including corporate and transactional matters, civil and administrative litigation, healthcare regulatory issues, bankruptcy and creditors’ rights, and commercial real estate transactions.
This article contains general advice that is not designed to apply to the reader’s specific situation and does not constitute the formation of an attorney-client relationship.
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[1] In the event a physician or a dentist chooses to close his/her practice, New York State has many requirements that must be adhered to. For instance, the physician or a dentist must transfer his/her records to another physician or a dentist who will serve as the custodian of records. Furthermore, the physician or a dentist must notify his/her patients that he is closing the practice amongst other things to avoid being charged with abandonment.
[i] N.Y. Educ. Law § 6522, See People v. John H. Woodbury Dermatological Inst., 85 N.E. 697 (N.Y. 1908).
[ii] Corporate Practice of Medicine Doctrine: 50 State Summary
[iii] N.Y. Educ. Law § 6530(19)
