If you really want to understand the tax implications of your specific situation, work with a good tax attorney and a good dental CPA. If you partner with Dental Buyer Advocates, we’ve got the latter covered.
A Broad Overview of Tax Implications
Let’s look at some of the main areas of a practice acquisition that can impact your taxes. Remember, every situation is different, and this is not financial or legal advice.
- Usually, a purchase acquisition is treated as an asset sale, not an equity sale.
- Assets like equipment get stepped-up basis for depreciation. This stepped-up basis allows the buyer to claim higher depreciation deductions on these assets.
- Goodwill is amortizable over 15 years. You can deduct a portion of the value of the practice’s goodwill annually.
- There is some flexibility in asset allocation that you can negotiate with the seller. The specific asset allocation you arrive at may have a big impact on your tax liability.
- When the seller of a dental practice claims depreciation deductions on assets, some of that depreciation gets “recaptured” at the time of sale. This means the deductions are essentially paid back.
- Accounts receivable (A/R) tax treatment. If you’re acquiring accounts receivable in the acquisition, they can be taxed using the cash method or the accrual method. The accrual method gives you a first-year tax liability of the entire A/R, while the cash method allows you to defer paying taxes on A/R until the amounts are actually collected.
- Pass-through income: most practices are structured as S-corporations or LLCs rather than C-corporations. This means that income passes through to your personal tax return. It’s reported on your personal 1040 and taxed at individual income tax rates.
- Most practice owners are subject to self-employment taxes—15.3% of the practice’s net profit.
- If you’re structuring the deal as an earn-out, that has different tax implications from a regular “upfront” deal. Earnouts may result in higher taxes early on due to lower initial deductions, and then lower taxes later as deductions are claimed.
With the right structure and guidance, you can optimize for depreciation, amortization, and deductions. Consult a dental CPA during negotiations and due diligence to maximize tax benefits.
What is Asset Allocation?
The term “asset allocation” refers to the attribution of percentages of a practice’s purchase price to different components of the practice. Imagine that the total purchase price is a pie. Asset allocation is dividing up the pie: this much of the purchase price goes to equipment, that much to goodwill, etc.
Why it’s important: different “assets” within the business get different tax treatment. For example, assets like equipment can get a stepped-up tax basis, allowing the buyer to claim higher depreciation deduct.ions. Goodwill can be amortized over 15 years.
In short, you can save on taxes by how you slice the pie: attributing more value to assets with preferable tax treatment and less value to other assets.
Naturally, there’s a limit: you can’t stretch things too far with asset allocation. A good dental practice CPA will help you save a bundle by knowing exactly where that limit lies.
Listen to this podcast episode to understand the 5 things you need to purchase a dental practice.
How does the purchase of a dental practice get taxed?
The acquisition is treated as an asset purchase rather than an equity purchase from a tax standpoint. This allows certain assets like equipment to receive a stepped-up tax basis for claiming depreciation deductions.
What tax implications does goodwill have when buying a practice?
The amount allocated to goodwill can be amortized over 15 years, providing tax deductions for the buyer annually during that time.
Does the structure used to buy a practice matter for taxes?
Yes, an upfront purchase price versus an earnout with contingent payments can have different tax implications related to basis and when deductions can be taken.
Are accounts receivable taxed when acquiring a dental practice?
The receivables can be taxed upfront or on a cash basis as collected. Cash basis is typically preferable to defer taxes.
Do practice profits get taxed at the corporate rate?
No, most dental practices are structured as pass-through entities, so profits flow to the owner’s individual tax return.
Does the seller pay capital gains tax?
Yes, the seller will pay capital gains taxes on the sale amount at preferential rates in most cases. Some states also levy additional capital gains taxes.
Can existing Net Operating Losses offset taxes?
Yes, if the practice has existing NOLs these can be used to offset taxes on practice income after the purchase.
How are non-compete agreements treated?
The amount allocated to non-compete covenants can be amortized over 15 years, providing tax deductions.