As dental offices continue to file taxes under extensions, it's crucial to be aware of compliance requirements to avoid making costly errors. While passing card processing fees to patients might seem like a simple fix, the financial and tax implications are often more complex than they appear. Missteps in how surcharges are recorded or taxed can trigger red flags with the IRS, potentially leading to audits, penalties, and administrative headaches.
With rising processing fees, more practices are turning to surcharges as a way to manage costs. However, misapplying or misreporting these charges, especially when tax and financial reporting are involved, can create serious compliance issues. Oversight bodies, from card networks like Visa and Mastercard to state regulators, are paying closer attention. In New York, new laws cap surcharges to the actual cost of processing and require upfront disclosure to patients. Card brands are stepping up enforcement, and penalties are being applied inconsistently.
One notable update is in Illinois, where a bill passed by the legislature could delay the Interchange Fee Prohibition Act by a year, from July 1, 2025, to July 1, 2026. This law would prohibit charging interchange fees on the tax and gratuity portions of card payments. It could also introduce rules against manipulating fees to circumvent the law and limit how processors use transaction data. While the implementation timeline remains uncertain, dental practices should prepare now by exploring how to segment taxes within their payment systems.
Another common oversight is failure to account for surcharges accurately when filing taxes. For example, if a dentist charges a 3% surcharge on a $200 procedure, bringing the total to $206, that $6 must either be reported as income or offset as a processing expense. If it’s not addressed properly, even small discrepancies between what’s reported on tax returns and the amounts shown on 1099-K forms from processors can raise red flags. This is especially true when larger amounts or high-volume of transactions start to add up, which is often what triggers IRS scrutiny.
Why surcharges pose tax challenges
There are two major tax-related pitfalls for dental providers when it comes to surcharging:
1. Sales tax inconsistencies
Rules about taxing surcharges differ by state. Some require the surcharge to be taxed; others do not. If a dental office taxes the base service but omits sales tax on the surcharge, or vice versa, they could find themselves out of compliance. Working with a tax advisor who understands state-specific guidelines is crucial before implementing or adjusting any surcharge policies.
2. Misaligned income reporting
Surcharges are typically included in the gross payment total on 1099-K forms from credit card processors, even though that money is collected directly by the processor and never goes to the business. If a dental practice doesn’t account for this correctly in their books, it can look like they’re underreporting income. For instance, a practice with $750,000 in actual revenue might see $772,500 reported by the processor if surcharges are applied, but only $750,000 reported to the IRS. Unless that $22,500 is properly recorded as both income and expense, the mismatch could spark a compliance review.
Understanding the regulatory landscape
Each state approaches surcharges differently, and staying current is essential:
- New Jersey: Limits surcharges to the exact cost of processing and requires clear communication with patients.
- Colorado: Capped at 2%, regardless of actual fees.
- Massachusetts & Connecticut: Prohibit surcharging altogether.
- New York & Florida: After initial restrictions, businesses can apply surcharges if they disclose them transparently.
Dental practices must also consider card network policies, which have their own compliance requirements, including bans on applying surcharges to debit cards and mandates for visible signage.
Surcharge compliance checklist for dental offices
To ensure your practice stays within the rules, follow these key steps:
- Know your state’s rules: Double-check current state laws and keep an eye on any updates, as even minor changes could affect your surcharge program. Consulting with legal counsel familiar with dental, health care, or small business law can be beneficial.
- Keep your tax reporting clean: Working with an accountant to make sure surcharge amounts are properly recorded and reported is vital to ensure your internal books match the numbers your processor is reporting to the IRS.
- Set up your payment terminal correctly: Surcharges must not apply to debit transactions, and each terminal must be programmed to reflect compliant charges. Dental practices must ensure that staff understand how and when to apply these fees and always show surcharges as a separate line on the receipt.
- Review and negotiate processor fees: Surcharging isn’t the only way to lower card costs, as many processors tack on hidden or unnecessary fees. Reviewing your statement with an expert can uncover savings you didn’t know were possible.
- Be transparent with patients: Card networks require clear and conspicuous signage at the point of sale, letting patients know about any surcharge before they hand over their card. This includes on receipts and in verbal interactions, where appropriate.
- Avoid costly missteps: It’s a mistake to assume your processor will manage compliance for you. Many don’t. Violations, like surcharging debit cards, failing to disclose fees, or misreporting revenue, can lead to fines, increased scrutiny, and in some cases, a loss of your ability to accept credit card payments.
- Understand insurance provider requirements: Dental practices must also consider their contracts with insurance providers, which may include clauses regulating how payments are processed, if there are ceilings or set prices for covered services or products, and whether additional fees can be passed on to patients. Violating these contracts could lead to reimbursement issues or even termination of the provider relationship.
What’s more, practices that rely on simplified, flat-rate surcharge programs may not see the savings they expect, especially if those programs aren’t customized to their unique transaction patterns.
With tax extensions still active for many dental practices, now is the perfect time to reassess your surcharge program. The financial and compliance landscape around surcharging is evolving quickly, and small missteps can have big consequences. By reassessing your current setup, aligning it with both state laws and IRS expectations, and working with trusted tax and payment processing advisors, your practice can minimize risk, avoid surprises, and ensure you’re truly benefiting from surcharging, not creating new problems.
Editor's note: This article originally appeared in DE Weekend, the newsletter that will elevate your Sunday mornings with practical and innovative practice management and clinical content from experts across the field. Subscribe here.
