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Purchase Price Allocation When Selling Your Practice

June 20, 2022

Question: I’m working with a broker to sell my practice. We received an offer, and I was given a letter of intent. It contained an allocation of the purchase price. How does this matter? The total amount that I am being paid is pretty much what I asked for. Should I worry about this now, or is it not binding, like much of what is contained in this letter of intent?

Answer: Reducing the tax liability that you will incur upon the sale of your practice to the greatest extent possible should be one of the yearly considerations when planning a practice sale. You should be sure to involve your attorney and accountant in this process.

The purchase price and its allocation are not terms that should be binding in a letter of intent (in fact, there is no reason the allocation should be included at all). The only terms that should be binding in a letter of intent have to do with access/due diligence/exclusivity, an earnest money deposit, if any, and certain other non-economic terms. A binding agreement on the amount of the purchase price and its allocation should come later in connection with the negotiation of the purchase agreement and other documents necessary to close the sale.

The allocation of the purchase price can have a material effect on the amount of taxes the seller pays for the year the sale closes and the ability of the buyer to utilize tax deductions in future years. Most sales of dental practices are structured as sales of assets vs. a sale of stock or other ownership interests. This column will focus on an asset sale.

The seller and buyer are not free to allocate the purchase price in any way they choose. Instead, they must comply with Internal Revenue Code (Section 1060 and Form 8594). That law requires that the final purchase price be allocated in a certain matter, starting with tangible assets, and moving to intangible assets. The tangible assets of a dental practice being sold are usually supplies, equipment, furniture, etc. The intangible assets consist of goodwill and a covenant not to compete. The portion of the purchase price first allocated to the tangible assets should be equal to their fair market value. The balance of the purchase price is then allocated to the goodwill and the covenant not to compete.

Read the complete Q&A in the Journal of the Michigan Dental Association on page 22.

About the author:

Daniel J. Schulte answer questions about health care lawDaniel J. Schulte has more than 25 years of experience helping clients solve tough problems and capitalize on opportunities that require a blend of business and legal expertise. His practice focuses on addressing the legal, business, licensing, and regulatory challenges of health care professionals, organizations, and facilities. Dan understands how legal issues impact business objectives and, as a result, offers his clients practical, results-oriented advice. He is a Certified Public Accountant, former managing partner and current executive committee member of the firm. Dan also serves as co-chair of the firm’s Health Care Practice Group.

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