The proposed Medicare cuts in reimbursements for most physicians go from frustrating to downright scary. Many of our clients were annoyed by the cuts in the past few years, and the proposed reductions are just more of the same. Layer on top of this the proposed healthcare overhaul which at the time of press is still unclear (yet all rhetoric out of Washington seems to expect physicians to sacrifice yet again), and it starts to feel like the federal government is determined to make it difficult for you to prosper.
Though many of your colleagues are complaining and some have been threatening to leave the country, we want to offer more practical advice in this article. The good news is that there are strategies most of you can implement to combat the assault to your “top line” revenues. One type of strategy is to diversify or adjust the procedures you perform or the way to bill for your work—these are “top line” revenue tactics that, while effective, are not our area of expertise.
Our focus in working with physicians is not on the “top line”, but the financial “bottom line”—how the practice produces wealth for the doctor-owner. That is where we will focus this article—how to be more financially efficient and save tax-wise much of what may be lost reimbursement-wise. To keep this article manageable, we will focus on two strategies: Utilizing the ideal corporate structure and maximizing tax-deductible benefits for the doctors in the practice.
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 doesn’t mean you have to keep doing the same thing. Changing just a few areas of your practice could be the easiest $10,000 to $100,000 you ever see. Let’s explore a couple of simple things you can start doing today.
Use the ideal corporate structure
Choosing the form and structure of one’s medical practice is an important decision and one that can have a direct impact on your financial efficiency and the state and federal taxes you will owe every April 15. Yet, our estimation, in examining more than 1,000 medical practices of our clients, is that many doctors get it wrong. Here are a few ideas to consider when thinking about your present corporate structure:
Avoid using a partnership or proprietorship. These entities are asset protection nightmares and can be tax traps for physicians. The good news is that doctors who run their practices as a partnership or proprietorship have a tremendous opportunity to make up some of their reimbursement losses through lower taxes.
If you use an “S” corporation, don’t treat it like a “C” corporation. We estimate that 60 to 70 percent of medical practices are “S” corporations. (More practices should probably be “C” corporations but that must be determined on a case-by-case basis.) Unfortunately, many of you do not take advantage of your “S” corporation status and use inefficient compensation structures that erase the tax benefits of having the “S” in the first place. If your practice is an “S” corporation, you also have an opportunity to make up some of your reimbursement losses through lower taxes.
Implement a “C” corporation. Once upon a time, “C” corporations were the most popular entity for medical practices in the United States. Today, fewer than 15 percent of medical practices operate as “C” corporations—the rest being taxed as partnerships or proprietorships. Why so few “C” structures? We believe it is because most doctors, bookkeepers, and accountants focus on avoiding the corporate + individual “double tax” problem that a “C” represents. While this is crucial to the proper use of a “C” corporation, it is only one of a number of important considerations you 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. This alone could counter-act many of the proposed reimbursement cuts.
Get the best of both worlds—use multiple entities. Very few medical practices use more than one entity for the operation of the practice. Successful practices can often benefit from a superior practice structure that includes both an “S” and a “C” corporation. These benefits are both tax reduction and asset protection. 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.
Maximize tax-deductible benefits for physicians
If you are serious about combating the reimbursement cuts, efficient benefit planning must be a focus. Benefit planning can definitely help you reduce taxes, but that is not enough. Benefits plans that deliver a disproportionate amount of the benefits to employees compared to the physicians can be deductible to the practice but costly for you as owners. What is disproportionate depends on the profitability of the practice, among other things, but in general, these plans can be considered inefficient. To create an efficient benefit plan, you need to combine qualified retirement plans (QRPs), non-qualified plans, and “hybrid plans.”
Nearly 95 percent of our recent physician clients have some type of QRP in place. These include 401(k)s, profit-sharing plans, money purchase plans, defined-benefit plans, 403(b)s, SEP or simple IRAs, and other variations. This is positive since contributions to these plans are typically 100 percent tax deductible and the funds in these plans are afforded excellent asset protection. However, there are two problems with this approach: Many QRPs are outdated and QRPs are only one piece of the puzzle.
First, most physicians have not examined their QRPs in the last two years. The Pension Protection Act of 2006 improved the QRP options for many doctors. In other words, many of you may be using an “outdated” plan and forgoing further contributions and deductions allowed under the most recent rule changes. By maximizing your QRP under the new rules, you could increase your deductions significantly for 2010.
Second, the vast majority of you and your colleagues begin and end retirement planning for both your employees and yourselves with QRPs. Most have not analyzed—let alone implemented—any other type of benefit plan. Have you explored fringe benefit plans, non-qualified plans, or “hybrid plans” in the last two years? The unfortunate truth for many doctors is that you are unaware of plans that enjoy favorable short-term and long-term tax treatment. If you have not yet analyzed all the options for your practice, we highly encourage you to do so.
Making changes in a group practice
In the vast majority of group practices with more than three or four physicians, the practices suffer from what we will call “lowest common denominator” or “LCD” planning. This type of planning occurs when the practice will only implement the asset protection, tax-reduction, qualified, or non-qualified planning techniques that everyone can agree on. This is not surprising because physicians are busy, intelligent, and notoriously independent. There are often too many opinions and distractions for a group to agree unanimously on anything other than the simplest (and least beneficial) strategies.
To overcome LCD planning, even if you are not yet a partner, suggest that the physician-owners employ a two-pronged approach: Only suggest strategies that give choice to your partners (as the non-qualified and “hybrid” plans do), and bring in an expert to work with the practice’s CPA and attorney, not against them.
Experts in the fields of tax, benefits planning, and corporate law have credibility and expertise which will increase the probability that you’ll be able to convince your partners to “see the light.” These advisors can often explain the suggested structure from attorney-to-attorney or CPA-to-CPA so that the local advisors are on board, agreeable, and involved in the planning. Often, we are asked to play such a role, and whether you contact us or another advisor or firm that specializes in this type of planning, we strongly urge you to consider bringing in an expert to speak to your group to initiate productive discussions.
Nearly every one of you will see your reimbursements cut. Structuring your corporation appropriately and planning for efficiency and tax savings can minimize the pain.
David Mandell is an attorney and the author of five books for doctors as well as a principal of the financial consulting firm O’Dell Jarvis Mandell LLC, where Carole Foos works as a CPA and tax consultant. They can be contacted at (877) 656-4362 or through the website.
For a free (plus $9 shipping and handling) copy of For Doctors Only: A Guide to Working Less and Building More, please call (877) 656-4362.