Practice Orbit 20 Essential Negotiation Terms to Include in your Dental Practice Purchase Agreement
Buying or selling a dental practice is a significant milestone, often fraught with complexities and crucial decisions.
Understanding the key deal points in a dental practice sale can significantly smooth the process, ensuring that both parties are clear on their obligations and expectations. The purchase agreement should start by including the terms outlined in the dental practice letter of intent (LOI), which serves as the foundation for the transaction.
From there, the agreement should expand to cover all additional terms related to the sale, such as retreatment responsibilities, accounts receivable management, and equipment inspections.
This comprehensive guide outlines the major terms to negotiate within an dental practice asset purchase agreement (APA), providing a roadmap for dental professionals to navigate their transactions effectively.
Retreatment Responsibilities
Handling retreatments post-sale is crucial as they can affect patient satisfaction and incur additional costs.
Typically, the seller performs any required retreatments, ensuring continuity for the patient. If the seller is unavailable, they usually compensate the buyer, often around 50-70% of the office’s normal fee.
This arrangement typically lasts for 12 months and is outlined in the letter of intent.
For example, if a patient needs a retreatment for a root canal performed before the sale, the seller would either handle the retreatment or reimburse the buyer.
Accounts Receivable Management
Managing payments post-sale requires deciding whether the buyer will purchase the accounts receivable (A/R) at a discount. This simplifies the transition and ensures the buyer receives payments for services rendered before the sale.
If A/R isn’t purchased, detailed records must be kept, and an agreed method for depositing funds into the seller’s account is essential.
For instance, a buyer might purchase A/R at 90% for 0-30 day accounts, 80% for 31-60 day accounts, etc. If A/R isn’t purchased, the front desk needs to track payments meticulously, ensuring accurate deposits to the seller.
Addressing A/R Credits
Any patient credits must be resolved. If A/R is purchased, credits reduce the amount paid. If not, the seller must clear these credits before closing or provide a credit to the buyer in escrow.
For example, if there are $5,000 in patient credits, this amount would be deducted from the total A/R purchase price or resolved separately before the transaction closes.
Uncompleted Pre-Paid Procedures
Handling outstanding work such as prepaid orthodontic treatments or cleaning packages needs addressing. If the seller remains in the practice, they can complete these at their expense. Otherwise, the seller must compensate the buyer for the cost of completing these procedures.
For example, if a patient has prepaid for Invisalign treatment, the seller would either finish the treatment or pay the buyer to complete it.
Price Allocation for Tax Purposes
The practice purchase price is divided into categories such as supplies, equipment, covenants, and goodwill, each impacting taxes differently for the buyer and seller. Typically, 70-90% of the purchase price is allocated to goodwill, which is favorable for the seller.
Goodwill is taxed at the long-term capital gains rate, which is usually lower than the ordinary income tax rate, providing significant tax savings for the seller.
On the other hand, the buyer benefits from allocating more of the purchase price to equipment. Equipment can be depreciated over a shorter period, allowing the buyer to take larger depreciation deductions sooner, thereby reducing taxable income in the early years of owning the practice.
Dental Accountants from both sides collaborate to reach an agreeable allocation that optimizes tax efficiency. For instance, if the purchase price is $1,000,000, the seller might prefer $750,000 to $850,000 allocated to goodwill to take advantage of the lower capital gains tax rate, while the buyer might aim to allocate more towards equipment to benefit from accelerated depreciation deductions. Balancing these interests requires careful negotiation and a mutual understanding of the tax implications for both parties.
Supplies and Inventory
The practice should have about 15 days’ worth of supplies, fully paid for before closing, to ensure smooth operations during the transition. For instance, if a practice typically uses $5,000 worth of supplies in 15 days, this amount should be stocked and paid for by the seller before the handover.
Included and Excluded Assets
All equipment, tools, and furniture generally transfer to the buyer. However, any exclusions must be disclosed to ensure accurate practice valuation. For example, if the seller intends to keep a personal computer or specific pieces of artwork, these should be clearly listed in the agreement to avoid misunderstandings.
Impact of Delta Premier Changes
New buyers will only receive Delta PPO rates, which can reduce collections by 25-40% compared to Delta Premier rates. This significant change must be disclosed as it directly affects the practice’s profitability. When determining the purchase price, the loss of Delta Premier should be taken into account.
For example, if a practice has a substantial number of Delta Premier patients, the buyer should be aware that revenue from these patients will likely decrease under the new PPO rates, necessitating an adjustment in the practice valuation.
Due Diligence
Buyers must thoroughly investigate the practice, including equipment, patient records, and financials. The letter of intent outlines the due diligence period, during which the deposit may become nonrefundable. For instance, a buyer might spend 30-60 days reviewing all aspects of the practice to ensure there are no hidden issues before finalizing the purchase.
Equipment Warranties
Any equipment warranties should be disclosed and transferred to the buyer, ensuring continued coverage and support. However, traditionally, all equipment is purchased “AS IS” and without warranty, placing the responsibility on the buyer to conduct a thorough inspection during the due diligence phase.
For instance, if a dental chair has a remaining warranty, the seller should contact the warranty provider to facilitate the transfer to the new owner. It’s crucial for the buyer to meticulously inspect all equipment to identify any potential issues before finalizing the purchase.
Staff Wages and Benefits
Detailed information on staff wages and benefits must be provided. At closing, the seller terminates, and the buyer rehires staff, deciding on future pay structures to facilitate a smooth transition. For instance, the seller provides a breakdown of each employee’s salary, benefits, and bonuses, allowing the buyer to maintain or adjust these as needed.
Insurance Tail Policy
Sellers are advised to obtain an insurance tail policy for coverage of events occurring before the sale date. This policy protects the seller from claims made after the sale for incidents that occurred while they owned the practice. For example, if a patient files a malpractice claim after the sale for treatment received before the sale, the tail policy would provide coverage.
Buyer Life and Disability Insurance
Buyers generally need life and disability insurance to cover loan obligations. This should be arranged early to avoid delays. For instance, if a buyer takes out a $1,000,000 loan, they should obtain a policy that covers this amount to protect against unforeseen circumstances.
Covenant Not to Compete
The seller agrees not to open a competing practice within a specified time and distance, typically five years and 15 miles, to protect the buyer’s investment. For instance, if the seller agrees to a 5-year, 15-mile non-compete clause, they cannot open a new practice or work in a nearby practice within that radius for the agreed period.
Non-Solicitation Agreement
The seller agrees not to solicit patients or staff, safeguarding the buyer’s continuity and success. For instance, the seller must not contact former patients or staff members to join a new practice or leave the purchased practice, ensuring stability for the buyer.
Transition Letter Responsibility
Often, a letter is sent to patients announcing the sale. The seller drafts it, and the buyer handles printing and postage, encouraging patient retention. For example, a letter might include a photo of both doctors and a message from the seller endorsing the buyer, reassuring patients of continued quality care.
Intellectual Property Transfer
The practice’s name, website, trademarks, online directory listing/review websites, social media handles, and goodwill must be transferred, ensuring a seamless transition for the buyer. For example, the buyer will take ownership of the practice’s branding and online presence, maintaining continuity for patients and marketing efforts.
Service Contracts
All service contracts, such as maintenance and IT services, must be disclosed. The buyer decides which to continue or terminate. For instance, the practice may have a contract with a dental equipment maintenance company that the buyer might choose to keep or replace based on their assessment.
Indemnity Clauses
Both parties indemnify each other against claims arising outside their ownership period, ensuring mutual protection. For instance, the seller indemnifies the buyer against claims related to their period of ownership, and vice versa, providing legal protection for both parties.
Creative Financial Structuring
Various financial structures, like earn-outs, carrybacks, consulting income, holdbacks, and escrow, can facilitate the deal when price agreements or funding are issues. These options provide flexibility and security for both parties.
Earn-Outs: The seller earns a portion of the purchase price over time based on practice performance, such as meeting future revenue targets.
Carrybacks: The seller finances part of the purchase price, typically through a promissory note, to bridge funding gaps.
Consulting Income: The seller receives income for providing consulting services post-sale, helping the buyer transition.
Holdbacks: A portion of the purchase price is held back to cover any post-sale claims or issues, released after certain conditions are met.
Escrow: A third-party escrow service manages the financial transactions, ensuring all conditions are met before funds are released.
Final Thoughts on Terms to Negotiate in a Dental Practice Transition
Navigating the sale or purchase of a dental practice involves understanding and negotiating numerous deal points with your dental attorney.
By thoroughly addressing these key terms, both buyers and sellers can ensure a smooth transition, protect their interests, and pave the way for future success.
Whether you’re selling your practice or embarking on a new chapter as a buyer, being well-informed about these critical deal points is essential for a successful transaction. If you have any questions or need further clarification, don’t hesitate to reach out to Practice Orbit.