Physician buy-in agreements: What you need to do when becoming a practice owner

For a physician, a partner buy-in agreement is an admission to the ownership and management of the practice, as well as a landmark in a medical career.

The agreement determines many of the most important aspects of a physician’s career, including compensation, ownership stake, management responsibilities and the terms under which he or she can leave the practice, through retirement or resignation.

Yet, the agreements don’t always get the scrutiny they deserve, according to healthcare attorneys who have represented practices and physicians in negotiations over the contracts.

“It’s a crucially important agreement that could be in place for 30 years or more and it should be approached that way,” says healthcare attorney Jeffrey Sansweet, of Wayne, Pennsylvania.

What buy-ins cover

Buy-in agreements are different than the employment contracts physicians sign when they join a practice as an associate. However, employment contracts often stipulate the time of service and other conditions necessary for an associate to be considered for, or automatically offered, a partnership.

Usually, the terms of the buy-in agreement are negotiated separately, after a physician has been with the practice for two to five years. That period allows the associate and partners to evaluate each other and the partners to learn the revenue-generating capacity of the associate. Of course, not all doctors want to become partners, with some preferring to remain employees.

Negotiations usually aren’t contentious, says Patrick Formato, a healthcare attorney in Lake Success, New York.

“By the time they get to the buy-in, the associates know what the situation is and what the buy-in is,” he says. “And if the practice really values the physician and they want to make it happen, they’re going to make it happen.”

There are exceptions, however. Sansweet says he has seen negotiations drag on for years: “It can get heated when you deal with ego, money and power.”

The amount of negotiating can depend on the practice and how frequently it adds partners.

A larger practice that regularly executes agreements probably will work from a template that it is unlikely to alter significantly, Sansweet says. However, a practice that has not added a partner in a long time or that has seen its circumstances change is usually more willing to start from scratch, he says.

Not surprisingly, the attorneys interviewed recommended physicians hire a healthcare attorney to negotiate on their behalf. “Don’t let the practice’s attorney tell you what to do,” Sansweet says, adding that having lawyers do the negotiating can avoid tension between associate physicians and the partners they hope to join.

Determining the value

Because aspiring partners are buying a share of the practice, determining the value of the practice is key to a fair agreement.

There are three common ways to calculate it, says Daniel Bernick, MBA, an attorney with The Health Care Group, a Pennsylvania firm that consults with medical practices on business issues.

The first is the market method, basing a practice value on recent sales of comparable practices nearby, similar to the way real estate agents price houses. The Health Care Group collects practice transactions through annual surveys, broken down by specialty, location and other practice characteristics.

The revenue method bases the value on practice profitability. It’s favored by accountants and often used in conjunction with the market method, Bernick says.

The third method is based on practice assets, such as equipment, real estate, valuable inventory and any affiliated businesses, and calculates what it would cost to build the practice from the ground up. Any debt owed by the practice is subtracted from the value.

The practice should open its books to an associate physician during negotiations, including any existing valuations, additional companies owned by the practice, leases, revenue, tax returns, balance sheets, debt and buy-out agreements for current partners etc., Sansweet says, adding, “It’s a red flag if they’re not willing to share everything.”

Practice valuations often include “goodwill,” the value of a practice over and above the value of its net tangible assets. Such items as patient lists, an ideal location, community reputation and other factors can be included in this.

While some question the validity of goodwill, Bernick says it rewards practice founders and early partners for the work they did and the income they deferred in establishing the practice.

Buy-ins generally are less expensive than they used to be, Formato says, explaining that as more practices are acquired by hospitals and healthcare systems, the remaining ones have fallen in value. Typically, when a practice is acquired, the employment and buy-in agreements are voided and replaced by employment agreements with the new owners, he says.

The buy-in payment can be structured in several ways. A lump sum payment is relatively uncommon. More typical is payment through years of deductions in the new partner’s salary or a mix of the two. For example, Bernick says, a $150,000 buy-in could be structured as $10,000 upfront, a $40,000 promissory note and five years of $20,000 reductions in salary. That protects the doctor’s income and allows much of the deferred payment to be made in pre-tax dollars, he says, adding that it’s a good idea for the associate to consult an accountant about the tax implications of any deal.

The importance of buy-outs

Buy-outs, the terms under which a partner leaves the practice through retirement, resignation, death, disability or other means, are part of most buy-in agreements and just as important, says Formato.

While these usually are negotiated as part of the buy-ins, many agreements include opportunities to renegotiate when a partner decides to leave or retire.

They usually include the amount of notice a partner must give the practice before leaving, which might be up to 180 days, Sansweet says.

And the new partner’s buyout isn’t the only one that matters.

To truly determine the value of the practice, aspiring partners should also examine the buy-out agreements of current partners, particularly if they are nearing retirement age. These agreements detail the terms of how the practice will buy back the ownership shares of departing partners and, depending on the cost, the financial impact can be severe.

Buy-outs can sometimes be renegotiated to reduce the cost to the practice, Formato says, adding that in some cases a practice will try to break the agreement in order to preserve its viability. Buy-outs guaranteed by the partners themselves can be harder to change while those guaranteed by the practice can be easier to break, he says.

Other terms to consider

While the buy-in and buy-out terms are most important, buy-in agreements cover other key subjects, as well.

One of these is power in the management of the practice. A new partner buying an equal share as three current partners should get an equal vote with the other three, Sansweet says. However, it is not unusual for larger practices to have tiered partnerships with senior members retaining more clout.

Buy-in agreements can spell out the new partner’s administrative responsibilities, work and on-call hours, vacation time and more. They also can provide job security by barring partners from expelling someone from their ranks without just cause.

Buy-outs also can include non-compete clauses that restrict a departing partner’s freedom to join another practice or establish a new one. However, Sansweet says, these are unenforceable in a growing number of states.