Tax Considerations for Physicians Integrating with Hospitals

January 27, 2012

Here are some general tax considerations related to the sale of practice assets and hospital employment transactions.

A hospital that hires a group’s physicians will almost always purchase some or all of that group’s assets. As hospital employees, those physicians will likely encounter tax-related changes in expense reimbursement and retirement savings plans. Here are some general tax considerations related to the sale of practice assets and hospital employment transactions. (This blog post does not provide tax advice; instead, it merely raises topics that a group or a physician might consider discussing with a professional).

Corporate Taxes

If the group entity pays taxes under subchapter C of the IRS Code - which is rare for a modern physician group - then an asset sale creates the risk of double taxation of the sale proceeds. The corporation will be taxed on the profit/gains from the sale and then the physician owners will be taxed on the net proceeds they receive from the corporation. That same transaction for a group entity that files as a partnership (a partnership, an LLC, or an “S Corp”) will generate significantly less total tax. This is because only the physician owners, and not the group entity, will be taxed.

A “C Corp” can change to an S Corp over a period of several years only. If a group is a C Corp and it contemplates an asset sale, then it will have to live with double taxation of sale proceeds.

A way to assist a C Corp and its physician owners pay the correct, minimum amount of tax is to consider whether any of the obligations in the asset purchase are personal to the physician owners. One asset-sale-related personal obligation is a physician owner’s personal covenant not to develop, operate, or invest in a business that provides any of the ancillary services the hospital will purchase from the group. A valuation consultant can determine the fair market value of this type of covenant. The hospital can pay that fair market value price directly to each physician owner, rather than to the group entity. Recognizing which party is selling that particular asset - the physician, not the group - avoids double taxation of the proceeds of that sale.

Business Expenses

Physicians should carefully and comprehensively assess the probable net economic effect of accepting hospital employment. The treatment of business expenses is one element of that analysis. Nearly all hospital employers will reimburse employed physicians for reasonable and necessary employment-related expenses. Reimbursed expenses are sometimes subject to an annual cap and typically include properly-documented dues, fees, journals subscriptions, CME, mobile phone, etc.

Physicians in private practice might be used to a significantly more expansive list of reimbursed expenses. For example, a group might reimburse a physician for (and deduct) entertainment / marketing, recruitment dinners, personal automobile, and a variety of other expenses. Physicians who have personal professional corporations could conceivably have a broader view of deductible expenses.

A physician who is used to receiving reimbursement for, or deducting, a variety of expenses as a business owner will likely encounter a significant reduction in those benefits as a hospital employee. The net effect of the reimbursement/deduction reduction is good to know on the front end to avoid surprises later.

Deferred Compensation / Retirement Savings Plans

Physician practices retirement savings plans are usually more beneficial than those available to hospital employees, often because the private practice plans have a higher annual contribution limits. Because of IRS/plan rules, this difference can particularly adversely affect physicians who are over 50. As with other elements of compensation, a physician should analyze the projected long-term effect of the change in plans on the physician’s retirement planning. On a related note, in some circumstances, a larger group practice might be able to influence a hospital to offer supplemental plans that will mirror the group’s current plans.

Approaching an integration decision with complete information is the best antidote to the lack of harmony that can be caused by unexpected consequences.

Find out more about John Erickson and our other Practice Notes bloggers.