When practice business entities go wild

When practice business entities go wild

Keep business paperwork on a short leash, or you may find your LLC or corporation is out of your control
Feb 01, 2012

Physicians and veterinarians seem to have a minimalist attitude when it comes to all things legal. They tend to consider time spent working on any project that doesn't involve a quantifiable or qualitative improvement in the life of a patient to be "busy work" and somehow fundamentally meaningless.

At least in some instances, doctors of all stripes can identify some benefit to desk-related undertakings. Insurance forms are annoying, but at least they result in fees being received. Thorough medical records are known to be important to diagnosis and therapy. But more esoteric paperwork related to business and law often is ignored. These just don't seem important—until the consequences of this perpetual procrastination becomes manifest.

Nowhere does this neglect of legal detail work show up more often than in the maintenance (or lack thereof) of a veterinarian's business entity. Here's what usually happens: The veterinary practitioner opens up his or her office and decides whether it will operate as a proprietorship, a general partnership, a corporation or an LLC. After the practice's attorney files the necessary papers, the business entity's documentation is never looked at again.

In the case of a partnership, this would include any partnership agreement or employment contracts. For a corporation, such documents include corporate bylaws and shareholder agreements. An LLC (limited liability company) has an operating agreement that controls business operations and decision-making.

Failing to keep these documents current is a big problem. Business entities are like living things—if they're not tended to and cared for, they can become dangerous. Complete abandonment of a corporation or LLC can actually kill it. The primary symptom of a neglected business entity is an unanticipated and voracious appetite for cash. Other complications can include severe irritation due to letters from the IRS and an embarrassing failure to perform during the act of executing an exit strategy.

Abandoning an LLC

It took the IRS, as well as a number of the more conservative state legislatures, to completely embrace the benefits and flexibility of the LLC business entity. Now, however, these organizational structures are available as an outstanding option for organizing a veterinary practice. Setting one up is simple enough, and once it's done, it offers exceptional liability limitations and pass-through taxation opportunities. Unless an LLC is formed and then subsequently ignored.

Many health professionals organize their professional practices using the LLC framework. Once their state's Secretary of State accepts the formation documents, the professionals often begin working and never look at their LLC or LLP documents again.

Fast forward 20 years when such a practice is sold and the owner(s) prepare to file their final income tax return. The practice purchaser will likely take title to the assets of the company. Then, somewhere along the line, final owner profit distributions and sales taxes on the practice assets will have to be paid. Capital gains and losses on some LLC assets may then need to be determined at the time the LLC is wound up. This is often the point when the owners' abandonment of the LLC or LLP paperwork comes home to roost. Here's an example:

Dr. A contributed operating capital funds to the "Smalltown Animal Hospital LLC" at various times during the early years. Then later, Dr. B came along as an additional owner. He turned over his mobile clinic vehicle to the LLC. When associate Dr. C joined the practice, the LLC loaned him $5,000 for moving expenses but then took his orthopedic surgery equipment in payment for the loan when he, too, was asked to become an owner.

When the members decide to sell the practice to a huge corporate veterinary practice chain (owners of an LLC are called "members"), each one will receive final payment of profit and his share of the value of the LLC assets. But in this instance, nobody can remember how much was contributed by whom and how long ago. This makes tax filing for all members a huge mess, because each member's tax is based on how much capital he individually has contributed to the LLC and how much was taken back out by him in the past (as pay, profit or return of capital).