Ten questions to ask about your buy–sell agreement

Dec. 1, 2008
When practicing as a partner, one key agreement that should be in place is the buy–sell agreement.

by Theodore C. Schumann, CPA, CFP

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When practicing as a partner, one key agreement that should be in place is the buy–sell agreement. This stipulates the orderly purchase of a partner's share of the practice if a partner dies, becomes disabled, retires, or leaves the practice prior to retirement. Here are 10 questions to ask about your buy–sell agreement:

1. Is the purchase optional or required in every triggering event?

In the event of a death or disability, the purchase should be mandatory. The only exception may be where two practitioners are both close to retirement. In that case, it may be better to sell the entire practice rather than burden a soon–to–be–retired doctor with the purchase of his or her partner's share. The agreement should spell out in detail the procedure to implement the buy–sell agreement.

2. What is the definition of permanent disability?

Typically, permanently disabled is defined as having been disabled for 12 months with no expectation of returning to work.

3. How is price determined?

One of the most difficult items to include in the buy–sell agreement is the buy–out price. Consider whether the price will be determined by appraisal or some predetermined formula, or by ownership percentage or percentage of production. Also decide if it will be different for retirement versus withdrawal before retirement.

4. How are disputes resolved?

When partners have disagreements on major decisions related to the practice, it usually spells big trouble. While every partner thinks it won't happen to them, it is essential to consider what happens if it does. Arbitration is a far more efficient and less painful option than going to court. You would be wise to hope for the best, but plan for the worst.

5. Can either party sell a partial interest of their share of the practice?

Generally, you would want to restrict to whom your partner may sell all or part interest in the practice. You don't want someone else picking your business partner for you.

6. How are accounts receivable, debts, and vehicles handled in the buy–out?

Your agreement should specify how accounts receivable and debts of the practice are to be handled at the time of buyout. Additionally, nonbusiness assets such as vehicles that are owned by the practice should be addressed.

7. What notice is required for normal retirement? What notice is required for withdrawal before retirement? Is this exclusive of disability?

Your agreement should be specific as to the amount of notice required for normal retirement or withdrawal from the practice. Depending on where you practice, you may need one to two years to find your partner's replacement. This time will increase if you are planning on the new associate buying in as a partner.

8. What are the payout terms?

Most partner buyouts are funded by an outside lender, making the transaction easier for both parties. However, if you choose an installment payment, I advise having the note from the purchasing partner secured by collateral above and beyond the collateral of the practice, such as a mortgage on the purchaser's home. Additionally, I recommend a personal guarantee by the owner and the owner's spouse. It may be a good idea to require the principal of the note to be protected by life and disability insurance on the buyer assigned to the seller, like many banks do.

9. What are the provisions of the restrictive covenant?

Most buy–sell agreements require the selling partner to sign a reasonable restrictive covenant as a condition of the sale — weigh your plans carefully before agreeing to the terms. You may wish to negotiate the option to stay employed at the practice after the buy–out.

10. Is the cross–purchase agreement funded with life and disability insurance?

Most agreements call for life insurance policies on the lives of each partner be used to purchase the interest of a deceased partner. This coverage should be reviewed every other year to make sure the amount accurately reflects practice fair market value. You should also discuss with your estate–planning attorney how the policies should be owned. Consider who will pay the cost of the premiums, as this can be a problem when a partner's health or age causes disparity in policy premiums. In that case, it may make sense for both partners to share the cost of both policies equally.

Theodore C. Schumann, CPA, CFP®, is president of The DBS Companies and past president of American Dental Sales. The DBS Companies has been servicing the financial needs of the dental community for more than 20 years, in addition to representing ADS Transitions in Michigan. Schumann can be reached at (800) 327–2371 or [email protected].

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