Common Tax Problems in Running a Physician Practice
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Transcript of Common Tax Problems in Running a Physician Practice
#AICPA_HEALTH
Common Tax Problems inRunning a Physician Practice
AICPA Healthcare ConferenceNovember 14, 2013
Presented by Greg B. Gates, CPA, JDPrincipal PYA GatesMoore
Atlanta, GA
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Greg holds a BS in Business Administration from Colorado State University and a Juris Doctorate from the Marshall-Wythe School of Law, College of William and Mary. Prior to co-founding GatesMoore in 1982, Greg worked as a tax specialist with a Big 4 accounting firm and was Vice President of a national practice management consulting firm. As a Certified Public Accountant, he specializes in tax law and in the area of physician "buy-ins," compensation arrangements, practice mergers, practice valuations, strategic planning, and retirement plan design and compliance. Greg is a frequent speaker for various medical societies. He is a member of the Georgia Bar Association, the Georgia Society of Certified Public Accountants, and the American Institute of CPAs. Greg served as an adjunct faculty member of The Kennesaw State University Physician’s MBA program while teaching a course in medical practice valuation. Greg was named by Atlanta Magazine (for the sixth consecutive year) as one of Atlanta's 2013 FIVE STAR Wealth Managers, in the category of Taxation.
GatesMoore merged with Pershing, Yoakley & Associates on January 1, 2012.
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Income Tax Trivia
1. In what year was the first U.S. income tax imposed?
2. What was the tax rate?3. Which constitutional amendment allows
Congress to levy an income tax?4. What was the due date of individual
income tax returns?5. Who was the only U.S. President that
visited “the” IRS office building while in office?
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Common Tax Problems
Educating Physicians about “Phantom Income”
Reasonable Compensation/Justification for Dividend Payments
S Corporation Conversions
Automobiles
Owner-Occupied Lease Arrangements
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Year End Tax Projection
“Common Scenario”
CashTaxable Income
Projected at Year End $100,000$200,000
Payment of Bonuses <100,000><100,000>
Cash Balance $ 0
Taxable Income$100,000
Doctor’s Question: “How can this happen?”
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Explanation
Three Types of Expenses
Operating Expenses
Timing Differences
Permanent Differences• 50% of meals & entertainment• Officers life insurance premiums• Treasury stock purchases• Federal income taxes paid (C Corporation)• Etc.
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Operating Expenses
Cash Tax
Collections $10,000
$10,000
Operating Expenses(e.g. office rent, staff
salaries, supplies, etc.) (10,000)
(10,000)
Cash Balance $ 0
Taxable Income
$ 0
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Timing Differences (pay cash for fixed assets)
Tax
Cash Tax Years 2-5
Collections $50,000 $50,000 $ -
Equipment Purchase/Depreciation* (50,000)
(10,000) (40,000)
Cash Balance/Taxable Income $ -
$40,000 $(40,000)
*Computed on a straight line basis without regard to Section 179 for illustration
Tax Timing Differences (borrow for operating expenses) Cash
Tax Years 2-5
Loan Proceeds/Collections $90,000
$ - $90,000
Pay Expenses/Loan Payoff
(90,000) (90,000) -
Cash Balance/Taxable Income $ -
$(90,000) $90,000
(assumes a 5 year loan with equal principal payments)
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Permanent Differences
Cash Tax Permanent Differences*
Collections $10,000 $10,000
Meals & Entertainment (50%) (10,000) (5,000)
Cash Balance/Taxable Income $ 0
$ 5,000
*Permanent differences include such expenses as penalties, 50% of meals and entertainment, officers life insurance, federal income taxes, gifts in excess of $25 per donee, club dues, Treasury Stock, etc.
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C Corporations
Deferred Income Tax Liability
Illustration
Net income at October 31$ 900,000
Cash & other Current Assets<1,030,000>
Net Book Value of Fixed Assets < 160,000>
Liabilities 340,000
Current Year “M-1’s” 20,000
NOL Carryforward 0
Deferred Income$ 70,000
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Taxable Income to Reflect
Eliminate Deferred Income$107,692
Proof:
Taxable Income$107,692
Federal Income Tax Rate 35%
Tax$ 37,692
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Solution
Just pay the tax!
“Three Year” Plan
Annual Payment Thereafter
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Agreements
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Shareholder Agreements
Practice Valuation formula should include deferred income tax liability* as an “offset to value”
Buy In
Be aware of a deferred income tax liability* if a doctor is buying into a practice
*Or Deferred income in a flow through entity
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S Corporations
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S Corporation
Doctors “Remuneration” Paid by• Salary• Dividends
Issue of “Reasonable Compensation”
Justification of Dividends
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“Chicken or the Egg”
Does the IRS concern itself with the amount of dividends if they deem compensation to be reasonable?
OR
If you can justify the dividends paid, does the level of compensation matter?
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Involve clients in the discussion of reasonable compensation:
e.g.• Neurosurgery Group• Cardiology Group
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Distribution V. Wages/Salary
IRS REQUIREMENT:
“Distributions and other payments by an S corporation
to a corporate officer must be treated as wages to the
extent the amounts are reasonable compensation for
services rendered to the corporation.”
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IRS Guidelines
IRS Definition of Reasonable Compensation:
“Reasonable compensation is the value that would
ordinarily be paid for like services by like enterprises
under like circumstances.”
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IRS GuidelinesNotice of Acceptance as an S Corporation
We would also like to take this opportunity to inform you of your tax obligations related to the payment of compensation to shareholder-employees of S Corporations.
When a shareholder-employee of an S Corporation provides services to the S Corporation, reasonable compensation generally needs to be paid. This compensation is subject to employment taxes.
Tax practitioners and subchapter S shareholders need to be aware that Revenue Ruling 74-44 states that the Internal Revenue Service (IRS) will re-characterize small business corporation dividends paid to shareholders as salary when such dividends are paid to the shareholders in lieu of reasonable compensation for services.
This position has been supported in several recent court decisions.
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Services of Shareholder
9 Factors (Fact Sheet 2008-25, August 2008)
1. Training and experience
2. Duties and responsibilities
3. Time and effort devoted to the business
4. What comparable businesses pay for similar service (US Bureau of Labor Statistics)
5. The use of a formula to determine compensation
6. Payments to non-shareholder employees
7. Dividend history
8. Timing and manner of paying bonuses to key people
9. Compensation agreements
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Dividends are distributions of Practice profit from:
Return on Capital Investment
Profit from employment of non-shareholder physicians and mid-level providers
Profit from Ancillary Services(e.g. “nuclear” services, labs, x-ray, CT, MRI, etc.)
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Illustration of Cardiology Practice
Salary Dividends Total
Doctor A $587,000 $550,000 $1,137,000
B 372,000 550,000 922,000
C 374,000 550,000 924,000
D 490,000 550,000 1,040,000
E 351,000 550,000 901,000
Total $2,174,000 $2,750,000 $4,924,000
% 44% 56% 100%
Average $434,800 $550,000 $984,800
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“Reasonable Salaries”
Determination of “Technical Profits” = $2,925,000
Dividends 2,750,000
Sullivan Cotter and Associates, Inc.(rounded) Median 75th Percentile 90th Percentile
General Cardiology -National 300,000 375,000 523,000
Invasive-Interventional - Southeastern 433,000 540,000 ID*
Invasive-Noninterventional 397,000 628,000 703,000
Medical Group Management Assoc. (rounded)
General Cardiology 367,000 492,000 613,000
Invasive-Interventional 486,000 665,000 844,000
Invasive-Noninterventional 431,000 537,000 691,000
* ID = insufficient data
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Compensation Benchmarks:
Specialty and %
DOL MGMA AMGA Sullivan Cotter
Towers Watson
Internal Medicine:
25%
$137,310 178,146 192,866 170,700 157,800
OBGYN : 25% $165,830 247,815 259,020 220,000 250,000Pediatrician:
50%$154,650
216,112 222,827 191,535 170,000
Surgeon- General: 25%
Not reported (1)
$303,626 317,156 277,126 312,500
Department of Labor Bureau of Labor Statistics Versus Common Industry Benchmarks
• This wage is equal to or greater than $187,199 per year.
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Conclusions
How to support your Reasonable Compensation Figure
Develop a consistent year-to-year Reasonable Compensation
Determine your Reasonable Compensation figure using the IRS guidelines and the 9 factors handed down by the courts
Add to your Reasonable Compensation documentation, reasoning, and notes to your corporate minutes
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S Corporation Conversions
2013 Imposition Of Additional .9% Medicare FICA On Those “Earning” More Than $250,000
Illustrations of Built In Gains & Losses
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S Corporation Client Conversations
One group did not convert due to C Corporation disability insurance premiums
One group did not convert due to C Corporation long term care insurance premiums
But, both groups were very appreciative of the analysis!
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Fair Market Total Ist YearBasis Value BIG BIG
Cash 704,825 704,825 - -
Due From Affiliates 187,549 187,549 - - Due From OfficersFurniture, Fixtures & Equipment* 350,023 1,189,021 838,998 -
Accounts Receivables* - 748,948 748,948 748,948 Supplies - 32,086 32,086 32,086 Liabilities (14,811) (14,811) - - Estimated Built In Gains 1,227,586 2,847,618 1,620,032 781,034
Accounts Payable (to include accrured wages, if any) (100,000) (100,000)
Built In Gain (Or Built in Loss needed) $ 1,520,032 $ 681,034
Cash available with suspension of shareholder wages (Jan 1 - Mar 15, 2013) (980,127) (581,034)
Additional Bonus Needed (or "Cushion" in BIG Calculation) $ 539,905 $ 100,000
Round To: $ 540,000 $ 540,000 Gross Wage $ 540,000 $ 540,000 Taxes (at 40%)(Estimate) (216,000) (216,000)Loans Payable to Doctors OR (324,000)Net Checks $ 324,000 $ -
Board Resolution is needed to a) declare the built-in gains bonus, and b) to suspend shareholder wagesuntil the built-in gain bonus is paid.
S Corporation Conversions
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Automobiles
Holy Grail = Corporate Car
Typical Problems Purchase made in or lease executed in the doctor’s personal
name, yet the note or lease payment is paid through the practice
Documentation of Business Use % Definition/Understanding Business Use Failure to add personal use % to W-2 Disallowance of expenses on audit (Payback Provision)
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Solutions
As always, the solutions are education and communication
Assign the lease to the corporation (with lessor’s
consent)
Forward worksheet/correspondence for completion
of W-2 addition
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Ultimate Solution(Group Practice)
No corporate cars
Discuss liability issues
Practice can reimburse doctors for business use
percentage of automobile expenses
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Owner Occupied Lease Arrangements
Typical Scenario – Doctor (or a group of doctors)
owns his medical office building as a single member LLC and leases to his practice
Practice is structured as:• LLC• S Corporation• C Corporation• Sole Proprietorship
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Facts/Results
1. Rental Activity Reflects a Profit • General Rule: all “real estate” is passive• Under NOPA rules this profit cannot be used to offset losses
from other passive activities• Worst of both worlds
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Facts/Results
2. Rental Activity Reflects a Loss
Question: Can the loss be used?
Answer: It depends.
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Facts/Results
If,
a) the real estate activity is owned in the same %s as the medical practice, and
b) the practice is a C Corporation
Then NO, the loss may not be used (suspended and used consistent with suspended losses).
Bad result = NOPA rules
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Facts/Results
If,
a) the practice is a flow through entity, and
b) if, an election is made (for the first year of the activities) to aggregate the activities,
Then YES, the loss may be used as an offset against practice income.
Particularly helped if the real estate entity had a cost segregation study performed.