David Chong Yen joins Dr. Jordan Soll to discuss strategies to enhance dental practice cash flow and maximize its value. He emphasizes the importance of tax planning and gives practical examples that dentists can implement for a successful practice sale down the line.
Read the audio transcript below:
Dr. Jordan Soll (JS): Hi everyone. Welcome to Brush Up on Business presented by Oral Health Group, a special Brush Up podcast series focused on the business of dentistry. I’m Dr. Jordan Soll, Chairman of Oral Health’s editorial board, and today I’m joined by David Chong Yen. David’s a chartered professional accountant, certified financial planner and tax specialist who has been advising the dental profession on tax, estate, financial planning, valuations and accounting issues for decades. David is a frequent speaker at the ODA Annual Spring Meeting. His tax articles have been published in Dental Practice Management, Dispatch, Oral Health, Ontario Dentist, and he co-authored the ODA published book titled “Dentists Tax and Financial Guide.” I will also say for clarity, David’s firm DCY Chartered Accountants is also my accounting firm, because I have found for the last 16 years, I have been thrilled with the advice that they have given me. So welcome David. Always nice to see you.
David Chong Yen (DCY): Thank you very much. Likewise.
JS: Alright, let’s jump right into it. The bottom line for all dentists, how can practice cash flow be enhanced?
DCY: Excellent question. And a second question accompanying that one is, why enhance the practice’s cash flow? Enhance the practice cash flow, because you want to maximize the value of the dental practice. So that’s the big picture. To maximize the value of the practice, you need to maximize the practice’s cash flow. How can we maximize the practice’s cash flow? Certain things to consider: increase cash inflows, including identify work that you’re currently referring out. That work, could you bring in a professional who’s competent to do that work in house? Why will that be helpful? Because you’re capturing that income, that billings cash, inside your practice. When it comes time to value the practice, you’re going to enhance, maximize the value of your practice. So that’s one, identifying work that’s currently being referred out that you could bring in house. Two: the work that’s being referred out, consider enhancing your own clinical skills, and if you feel competent and confident to do that work, then consider doing that work in house. So that’s another way of enhancing, increasing your cash flow. Another way of increasing your cash flow is to reduce how much you spend. You said, Dave, what ways can we reduce how much our dental practice spends, because we’re all faced with the same constraints. Well, speak to your—one perfect example—speak with your dental supplier. They can provide you with a dental supply substitute report identifying certain supplies that you could use, substituting it for other sundries that will help to reduce your expenses. Another example, which most dentists face, sometimes we often hear of a dentist having their hygienist clean up the op, take the diagnostics. Could, instead of an RDH doing it, a hygienist, could an assistant do it for less cost and perhaps more productivity? That’s another way of reducing your expenses. Another way of reducing your expenses, and we’re going to get into this in a later segment of this podcast, is the biggest expense facing virtually every dentist we encounter is taxes. So, if you can reduce your tax bill, be it personal tax bill or your professional corporations tax bill, or one of your other corporations tax bill, you’re reducing, likely, one of your largest expenses. So, to summarize, you want to increase your inflows, money coming into the practice, by identifying work that is being referred out that potentially could be done in house. And then another way is to identify work that’s not being done that you think would benefit your patients if you did it. For example, often we see practices that have been around for decades, where the dentist may not have done a complete oral exam for decades, and when asked, if you were the patient, would you want to have this done? They’d say, yes, you know, I might want to have it done, except that I’m so busy running around doing other things. So, identifying work that your patient would benefit from, that you could do in house, and then doing it. A perfect example is things like patient having a maybe a five millimeter pocket, and the patient is coming in once a year. That’s one example. Another example is where a patient has had a root canal done and no crowns were done. And a big part of a dentist’s, most professionals’, role is to educate their patients, educate their clients. And so often when a patient doesn’t do the work, yes, it may be a cost constraint issue, but if the patient is aware that the benefit that they’re going to derive from the particular procedure exceeds that cost, then likely, all things being equal, they’ll proceed with the procedure.
JS: All right, so let me ask you something then. What tax planning or savings opportunities do dentists often overlook?
DCY: Great question. So, remember what we just said, taxes are one of the biggest expenses of a dentist, and I’m going to break it down in its simplest terms. Dentists can save significant taxes by involving family members in the tax savings game. So, if you’re not involving family members in the tax savings game, you could be paying more taxes than you should be. Dave, give some practical examples. And how do you define family? So, by family could be your spouse, could be your children, could be your parents, it could be your in-laws, etc. That’s family. And how can we involve them in the tax savings game so that you can save taxes. Well, let’s break it down into the following path. A dentist may have a professional cooperation. Many do. Our family members, shareholders of this professional corporation. If not, consideration should be given to adding them as shareholders of the professional corporation. As dentists will tell you, every treatment plan suggestion has a pro and a con. What’s the con in including, say, your children as a shareholder of your corporation? Well, one con could be if the children become wayward, or if they marry and then get divorced, because potentially the shares they own could end up going to your ex-in-law. So that’s a con. So, before you embark on including them in the tax savings game, you want to address that issue, potentially speaking with your lawyer to have a maybe marriage contract, prenuptial agreement, cohabitation agreement, to address any breakdown in relationships. So, by involving the children, spouse, parents as shareholders of the corporation, that could save you millions, and I repeat the word millions of taxes. Dave, break it down for me, by involving family members as shareholders, you’re able to multiply the lifetime capital gains exemption, which comes handy when you’re selling the shares of the corporation and each individual’s lifetime capital gains exemption is worth hundreds and hundreds of thousands of dollars. So therefore, there’s a big incentive, big reason to include them as shareholders of your corporation. But you have to be careful, because not just should you include them as shareholders of the corporation, they need to own a certain type of shares so that it qualifies for the lifetime capital gains exemption. So that’s one example: using family to multiply the lifetime capital gains exemption. Another example could be using family to multiply the principal residence exemption. Dave, give me an example. So, let’s say you’re doing fine. You’re looking to buy a second property, potentially. What could be done? You have a child, let’s say that’s 20 years old, attending University of Toronto. You the parent may wish to buy a place down near the Harbourfront for many reasons. One reason might be you like the ocean. You like the lake view, so potentially it could be your retirement residence when you retire. Second reason, when your child goes to U of T, they could live in the condominium. And third reason, that place on Harbourfront could be used as a rental property. So, then you say to me, then Dave, what’s the angle? And how do we multiply this principal residence exemption? From a practical perspective, a dentist or the dentist spouse might have money, and they could lend that money, and I use the word lend, “l, e, n, d” to the child. Why lend the child the money? Well, in case the child gets divorced, that loan will reduce how much is going to be paid to your ex in-law. So, you want to lend child money, the child will take that money and then buy the home. Now, on a practical note, would the child own 100% of the home? From my perspective, no. What percentage would you consider the child owning? Maybe 99% said, Dave, why would I do that? Why not 100%? Well, if, let’s say, Jordan, you own 1% and the child owns 99% before the child can sell that home, whose signature approval do they need? They need Jordan’s signature and approval. So, what that does is, by you owning the 1%, it kind of puts the child on a tether so that they can’t wander too far—i.e. you still keep a finger on the home’s pulse. And so that’s from a protection perspective. What about the principal residence multiplication perspective? And by principal residence, what I mean is the person who lives in the place, and if they sell it at a future date, and they sell it at a gain, that gain won’t be taxed. So that’s why you want to multiply the principal residence exemption that could apply not just to the place on Harbourfront, but it could apply to a cottage, right? So again, big picture, getting the family involved in the tax savings game, to multiply the lifetime capital gains exemption and multiply the principal residence exemption. Let’s go along on that path getting family involved in the tax savings game. You could potentially pay the child or spouse a reasonable amount for work that they do on behalf of the practice. So, your child, for example, helps in designing the website. Certainly, a reasonable amount could be paid to that child for doing that work. And another example might be if they work at the practice during summer or whenever; they could work remotely, they don’t have to be in the office. Provided the amount is reasonable, the practice will get a tax deduction for that payment. The child will receive that payment. But remember, in Canada, the first 15,000 of income is tax free, so virtually, potentially, the child could be getting the money tax free, and the dental practice gets a tax deduction for the money paid to the child for work done. That’s another example. Another example might involve dividends, where dividends are paid to the spouse or children, if they’re shareholders of the practice. Now, keep in mind, there’s a certain test, and the test is, is that person doing 20 or more hours per week throughout the year on the practice’s behalf? Once that test is fulfilled, any amount of dividends can be paid to the individual. It does not have to be reasonable, so provided, let’s say, for example, your spouse works 25 hours a week for the practice, the spouse could receive $200,000 in dividends, and the tax department could not say, oh, we don’t think that’s reasonable, right? And why would you want to do that? The way the Tax Act works is it taxes people more the more money they make. So, in simple language, if one individual makes 100,000, that individual’s tax payment will be much larger than if two people make 50,000 each, right? So, the goal is to splinter the income into as many hands as possible. Because when you do that, you’re going to reduce your tax bill.
JS: Seeing now how hopefully you have a nice, cohesive family and that it can help your practice and maximizing values of your practice, I wonder if you can give us a couple of quick pearls on what should dentists be doing if they plan to sell their practices and when?
DCY: Okay, great. So, remember, before you sell your practice, you want to try and enhance, maximize the cash that that practice generates. Because really, when they value your practice, what they really look at is the last three years, statements, numbers, just before you sell the practice. So, if I can put it in a very crude sense, if you fail kindergarten or grade six, it doesn’t matter when you’re applying to a university, because they don’t look at your grade six marks. So, what you have to focus on is three years before you sell the practice. Three years before you sell the practice, you want to try and maximize the cash flow of that practice. You want to speak with your advisors, your lawyer, your accountant, your lease consultant, to make sure that your practice is in order and to maximize the value of your practice. You want to make sure that you have a premises lease with renewal options with no demolition clause totaling at least 12 years, because if not, it’s going to reduce the value of your practice significantly. You also want to speak with your employment lawyer to make sure that you have employment contracts in place, because that will reduce the liability that might exist in connection with severance and termination. So, by reducing your liabilities, you’re increasing the practices value.
JS: Great, great tips. A lot of takeaways that I think our viewers and listeners can learn on how they want to structure their own affairs, to make sure that they maximize as always. You know, never enough time to chat, because I know you’re just such a wealth of information, but I do appreciate you stopping by today and giving us some great highlights and pearls on how we can maximize the efficiency of our practice. Thanks a lot, Dave.
DCY: You’re very welcome. It’s a privilege. Thank you.
JS: Be sure to subscribe to Brush Up’s email alerts, Spotify or YouTube, to be notified every time we post a new episode. So please remember to keep brushing up!