For a number of years ‘dental service organizations’ (DSO) have been purchasing and owning dental practices across Ontario. This trend will continue for the foreseeable future with historically low interest rates and banks and other venture capital investors willing to finance the purchases. The DSO will have dentists who are affiliated with the organization, but typically the bulk of DSO ownership is by non-dentists.
What about non-dentists? What can they purchase or own? Aside from actually working at a dental practice, how can non-dentists profit from a dental practice?
From a legal perspective the starting point is to understand that only a dentist or a dentistry professional corporation (PC) can own the professional dental goodwill of a dental practice. That goodwill includes custody and control of all patient records and files including patient billing records and treatment plans, patient charts, x-rays and models, patient lists, and use of any dental practice names. A dentist or PC are the only ones who can own the goodwill.
The other fundamentals to understand are:
As stated above, only a dentist or PC can own the professional dental goodwill of a dental practice. However, non-dentists can own the other assets of the practice. This creates opportunities for the DSO to purchase and participate in ownership of the practice.
The DSO will typically provide a letter of intent (LOI) to the vendor dentist, outlining the general business terms on which the DSO will purchase the practice. Before the vendor dentist discloses any information about the dental practice to the DSO, the dentist must ensure the DSO signs a confidentiality/non-disclosure agreement. The vendor dentist’s practice information is proprietary and must be kept confidential at all times.
In terms of legal structure, the DSO purchase typically involves a two-stage process:
Many dentists have a Vendor PC which owns their dental practice. In step 2 above, it is desirable for the vendor dentist to sell shares of the Vendor PC to take advantage of the capital gains exemption on the sale of Vendor PC shares. If structured and planned properly, the dentist’s qualified family members are also shareholders of the Vendor PC. Such family members also sell their shares to the DSO to use the capital gains exemption when they sell their Vendor PC shares. However, to ensure non-dentist family members can enjoy such benefit, it is critical to plan well in advance as such plans may require years to implement properly.
Many dentists accumulate large amounts of surplus funds in their Vendor PC. However, by doing so, there is a potential tax problem upon a sale of the Vendor PC shares. To qualify for the capital gains exemption, there are numerous legal tax rules and requirements including the ‘50 per cent rule’. That rule requires the Vendor PC have less than 50 per cent of its assets in passive (non-dental) assets for the whole two year period prior to the sale of the Vendor PC shares.
In some cases, the Vendor PC has accumulated so much in surplus funds that the Vendor PC does not meet the 50 per cent rule. Therefore, to qualify for capital gains exemption on a sale of the Vendor PC shares, the Vendor PC in those cases must divest itself of those surplus funds more than two years before a sale.
If the vendor dentist and his/her non-dentist family members are to enjoy the capital gains exemption on the sale of their Vendor PC shares to the DSO, careful legal and tax planning is required years in advance. And to do that, dentists are well advised to retain professional advisors who specialize in advising dentists. As my former colleague, Barry Spiegel, Q.C. used to recommend and I still do: Surround yourself with experts in their field, they will serve you well.
David Rosenthal is a senior lawyer with Spiegel Rosenthal Professional Corporation whose practice is devoted to corporate, commercial and business law, with special emphasis on advising dentists. He can be reached at (416) 865-0736 or e-mail to email@example.com