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Do You Have the Financial Contract Needed by Every Practice?

Sunday, August 26, 2018   (0 Comments)
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David B. Mandell, JD, MBA, and Jason M. O'Dell, MS, CWM, for AAOE

Executives managing an orthopaedic practice, like all professional managers, should spend time working on the practice, not just in the practice. However, even if managers and owners work on the practice and ignore one fundamental legal contract, all of their work may be in jeopardy. A single bad event could wipe out everything they have worked so hard to build.

In many practices, when a physician dies, his or her family members will only get that doctor’s share of the outstanding accounts receivable, if that. Those family members will get nothing from a physician’s arduous work in building the practice – as they typically can’t even own the medical practice shares and thus have no way to negotiate any buyout. If you are concerned about this for your family, To properly protect the physician's family, more should be done.

What about the practice itself?  Consider what would happen to the practice if a key partner becomes disabled. Suddenly, the practice is a lot less profitable, as it has the same expenses but less income because one partner can’t treat patients. In addition, the disabled physician cannot earn income by treating patients, so his/her family may be in financial jeopardy. 

Unless these issues, and other important ones, are addressed in advance, financial havoc can ensue when a partner dies, becomes disabled or even retires. The way to address these issues is through a properly funded buy-sell agreement.


Buy-Sell Basics

There are various types of buy-sell agreements. practice Buy-sells can be used for corporations (both S and C corporations), partnerships, limited partnerships, limited liability companies (LLC), and other forms. For these discussions, we will use the words “practice owner” generically to mean any type of practice owner (i.e., shareholder in a corporation, partner in a partnership, member in an LLC).


A. Benefits to the Practice

From the standpoint of the practice, a properly planned buy-sell agreement will provide the orderly continuation of the ownership and control of the practice upon the happening of certain events, including:

  • A death or disability of any owner
  • The desire of any owner to sell his/her ownership share
  • Divorce of any owner
  • Bankruptcy of any owner, or other situation where creditors may have rights to ownership

The buy-sell agreement can prevent unwanted outsiders from becoming owners and eliminate the need for negotiation with surviving spouses and/or children. The agreement may also perform the role of a succession plan, providing for continuity or orderly succession of practice management. Furthermore, as discussed below, the buy-sell agreement is often used in conjunction with life and disability insurance policies to effectively provide liquidity for the practice to purchase outstanding ownership interests.

This in effect guarantees that the remaining owners will continue to control the practice and be able to participate in its future growth while  preventing a competitor from purchasing ownership interests from retired, disabled, or deceased owners, or their families. This guarantees continuity of management in the practice, which makes the practice more attractive to customers, creditors, and employees alike.


B. Benefits to Each Owner

From the standpoint of a living practice owner, the agreement can provide the individual partner with an opportunity to negotiate and obtain the fairest and best price for his or her share of the practice. Furthermore, in the case of retirement or disability, the agreement can be a source of additional funds for each owner.


C. Benefits to Family Members

For a deceased owner’s family, the existence of the buy-sell can ensure the family or estate ownership of a liquid asset rather than an interest in a private practice. Because physicians cannot leave a medical practice to their families unless the family members are also physicians, families can essentially be left without any interest in the practice. A medical practice is the only type of practice that has this consequence. Therefore, practice owners must have a buy-sell agreement in place with their partners clearly stating what each partner’s family will receive from the surviving partner(s) in the event of a death or disability. This is fair and it is the right thing to do.


Funding the Agreement

Where the agreement contemplates a buy-sell transaction at the time of an owner’s death or disability, insurance policies are generally recommended to fund the transaction. There are many reasons for this, including the following:

  •  Insurance policies pay a pre-determined amount, with proceeds available at exactly the time when they are needed as a funding source.
  • Proceeds will be available regardless of the financial state of the practice at that point (so long as premiums have been paid).
  • The practice “leverages” the cost of premiums to create the proceeds; thus, it costs the practice less to buy insurance than to save money in a special buy-out fund.
  • The economic risks of early death or premature disability of any owner are shifted to the insurer.
  • Insurance proceeds are paid to the family income-tax free.
  • If retirement is also a contemplated buy-out event, whole life or universal life policies can allow large cash values to accumulate, providing the retiring owner with a cash-out.

If the payment contemplated under the agreement is not a lump sum cash payment at closing or is a periodic payment other than through a disability insurance policy, it is important to consider some type of security arrangement for the departing owner. These might include personal guarantees from remaining owners, mortgages or security interests in real estate, a bank standby letter of credit, or even collaterally assigned life insurance. The key here, of course, is that these details are negotiated upfront between the various owners, ideally before there is an idea of who may die, be disabled, retire, or divorce first. This way, each owner will be unprejudiced in determining a fair buy-out.



Be sure to consider both death and disability protections

Buy-sell agreements receive a lot of attention when used to deal with the death of a practice owner. However, the disability of a physician during prime production years is even more common. Nonetheless, very few practices we have examined adequately protect against this risk. 


The Need for a Coordinated Team

Creating a buy-sell arrangement that fits a particular practice requires expertise and experience. in the areas of corporate and practice law, tax law, insurance products, health care law and valuation. Just as important is experience in dealing with different owners and being able to negotiate and draft an agreement that meets the needs of all parties involved.

Too often, doctors make two key mistakes in deciding who should oversee the creation of a buy-sell arrangement. First, they chose their “lawyer friend” to create the strategy and draft the document rather than an expert in the area. Second, they do not have a coordinated team to implement the plan. Ideally, a coordinated buy-sell team would involve an attorney experienced in creating these arrangements and a life or disability insurance professional who has worked on these issues before—especially with first-to-die life insurance.


Plan Early

As with any legal or insurance planning, the early bird is richly rewarded. Nowhere is this truer than in buy-sell planning. The reason is not economic, but political. If this planning is done before an owner is close to disability, divorce, retirement, or death, then all owners are in the same position relative to each other. That makes the negotiation of a standard deal for all owners a much easier and smoother process. On the other hand, if owners wait until one wants to retire, is very sick, or is about to get divorced, then these negotiations can be acrimonious. To avoid these problems, consider a buy-sell arrangement as soon as possible and begin the process with an experienced advisory team. You and your practice will be much better off for your efforts.


SPECIAL OFFERS:  To receive free print copies or ebook downloads of Wealth Management Made Simple and Wealth Protection Planning for Orthopaedic Surgeons, text AAOE06 to 555-888, or visit and enter promotional code AAOE06 at checkout.

David B. Mandell, JD, MBA, is a former attorney, consultant and author of more than a dozen books for doctors, including Wealth Management Made Simple and For Doctors Only: A Guide to Working Less and Building More, He is a principal of the wealth management firm OJM Group, where Jason M. O'Dell, MS, CWM is also a principal and author. They can be reached at 877-656-4362 or




OJM Group, LLC. (“OJM”) is an SEC registered investment adviser with its principal place of practice in the State of Ohio.  OJM and its representatives are in compliance with the current notice filing and registration requirements imposed upon registered investment advisers by those states in which OJM maintains clients.  OJM may only transact practice in those states in which it is registered, or qualifies for an exemption or exclusion from registration requirements.  For information pertaining to the registration status of OJM, please contact OJM or refer to the Investment Adviser Public Disclosure web site

For additional information about OJM, including fees and services, send for our disclosure brochure as set forth on Form ADV using the contact information herein.  Please read the disclosure statement carefully before you invest or send money.

This article contains general information that is not suitable for everyone.  The information contained herein should not be construed as personalized legal or tax advice.   There is no guarantee that the views and opinions expressed in this article will be appropriate for your particular circumstances.  Tax law changes frequently, accordingly information presented herein is subject to change without notice.  You should seek professional tax and legal advice before implementing any strategy discussed herein.

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