Are You Leaving Money on the Table? Part I

Most physicians strive to achieve two goals in their practice — to “do good,” by being a quality practitioner and helping patients; and to “do well” in terms of financial rewards.

Unfortunately, as to the second goal, many physicians in private practice do not operate their practices with optimal after-tax efficiency. In fact, we often see doctors leaving tens of thousands of dollars “on the table” each year — which can equate to nearly $1 million of lost wealth over a career. The good news is that many of you reading this can likely improve your post-tax bottom line in a number of ways.

Time is of the essence

There is truly no better time than now to focus on post-tax efficiency. As you know, when President Obama signed the Taxpayer Relief Act of 2012 in early January, taxes increased on high-income taxpayers like most of you — in some cases, dramatically. While the details of the “fiscal cliff” deal are a topic for another article, the important takeaways are:

1. Many physicians face a 50%-plus marginal income tax regime when all of the new tax increases are accounted for. Depending on the city/state where you live, tax rates are now between 45% and 55%, no less. Income tax planning is more important now than at any time in the last 30 years.

2. These higher rates will apply to more income, with the reinstatement of the itemized deduction limitations and the personal exemption phase-out.

3. Total taxes on long-term capital gains and dividends can now reach 23% to 33% when the new federal, Obamacare, state and local taxes are assessed.

Common causes of dollars “left on the table”

While the causes of “dollars left on the table” in a medical practice can range from billing errors to unproductive employees, our expertise and focus is corporate structure, tax reduction and benefit planning.

For this series, we will focus on three strategies for recapturing some of the funds left on the table:

1. Using the ideal corporate structure

2. Maximizing tax-deductible benefits for the physician-owner(s)

3. Utilizing a captive insurance arrangement

The most important thing you can do is keep an open mind. Just because you have operated your practice a certain way for five, 10 or 20 years, you don’t have to keep doing the same thing. Changing just a few areas of your practice could recover $10,000 to $100,000 of “lost dollars” annually.

1. Using the ideal corporate structure

Choosing the form and structure of one’s medical practice is an important decision that can have a direct impact on your financial efficiency and the state and federal taxes you will owe every April 15. Yet from our experiences in examining over 1,000 medical practices of our clients, most physicians get it wrong.

Here are a few ideas to consider when thinking about your present corporate structure:

A. Avoid using a partnership, proprietorship or “disregarded entity”

These entities are asset protection nightmares and can be tax traps for physicians.

Nonetheless, we have seen very successful doctors operating their practices as such. The good news is that doctors who run their practices as a partnership, proprietorship, or disregarded entity have a tremendous opportunity to find “dollars on the table” through lower taxes — especially on the 3.8% Medicare tax on income. This can be a $10,000 to $30,000 annual recovery.

B. Don’t treat an S corporation like a C corporation

We estimate that 60% to 70% of all medical practices are S corporations. Unfortunately, many physicians do not take advantage of their S corporation status and use inefficient compensation structures that completely erase the tax benefits of having the S in the first place.

If your practice is an S corporation, you should maximize your Medicare tax savings through your compensation system in a reasonable way. This can be a $10,000 to $30,000 annual recovery for practices not properly structured.

C. Implement a C corporation

Once upon a time, C corporations were the most popular entity for U.S. medical practices. Today, fewer than 15% of medical practices operate as C corporations. Why? We believe it is because most physicians, bookkeepers and accountants focus on avoiding the corporate and individual “double tax” problem.

While this is crucial to the proper use of a C corporation, it is only one of a number of important considerations a physician must make when choosing the proper entity. A common mistake is to overlook the tax-deductible benefit plans that are only available to C corporations. If you have not recently examined the potential tax benefits you would receive by converting your practice to a C corporation, we recommend that you do so. Utilizing benefit plans that only a C corporation can offer can create a $10,000 to $30,000 annual improvement.

D. Use multiple entities

Very few medical practices use more than one entity for the operation of the practice... and, if they do, it is simply to own the practice real estate. While this tactic is also wise from an asset-protection perspective, its tax benefits are typically non-existent.

Successful practices can often benefit from a superior practice structure that includes both an “S” and a “C” corporation. This can create both tax reduction and asset protection advantages. If you have not explored the benefits of using both an “S” and “C” corporation to get the best of both worlds in planning, now is the time to do so. Utilizing a two-entity structure properly can create a $10,000-40,000 annual improvement.

Coming up

This article just covered one of the three strategies that practices can use to recapture money left on the table. In the next article, we’ll look at maximizing tax-deductible benefits for the doctors in the practice and utilizing captive insurance arrangements.

David B. Mandell, JD, MBA, is an attorney and author of five national books for doctors, including For Doctors Only: A Guide to Working Less & Building More, as well a number of state books. He is a principal of the financial consulting firm OJM Group, which works collaboratively with physicians and their CPAs nationwide. Carole C. Foos, CPA, works as a tax consultant for OJM Group. They can be reached at (877) 656-4362 or mandell@ojmgroup.com. You can also call for a free (plus $10 S&H) hardcopy For Doctors Only: A Guide to Working Less & Building More. If you would like a shorter free E-book download of our “highlights” version, you can download it here.

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This article contains general information that is not suitable for everyone. The information contained herein should not be construed as personalized legal or tax advice. There is no guarantee that the views and opinions expressed in this article will be appropriate for your particular circumstances. Tax law changes frequently, accordingly information presented herein is subject to change without notice. You should seek professional tax and legal advice before implementing any strategy discussed herein.