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Is interest on loan to buy into your practice tax deductible?

Home Tax Reduction Is interest on loan to buy into your practice tax deductible?

  • Avatar MAREIDOC 
    Participant
    Status: Physician
    Posts: 1
    Joined: 04/12/2019

    Recently bought into my medical practice.  I have a promissory note at 4% interest to the senior partner who I bought shares from.  Does anyone know if interest on loan payments is tax deductible and how so?  Many thanks for any advice.

    #205895 Reply
    jfoxcpacfp jfoxcpacfp 
    Moderator
    Status: Financial Advisor, Accountant, Small Business Owner
    Posts: 7161
    Joined: 01/09/2016

    Interest on debt to buy into a practice is considered investment interest. It is deductible on Schedule A as an Itemized Deduction but only against net investment income. NII includes short-term CG, taxable interest, and non-qual dividends. You can make an election to include LTCG and qual dividends, but I strongly recommend discussing with your tax pro before making this choice.

    The best news is that any unused investment interest is carried forward to be used against future investment income.

    And welcome to the forum!

    Johanna Fox Turner, CPA, CFP, Fox Wealth Mgmt & Fox CPAs ~ 270-247-0555
    https://fox-cpas.com/for-doctors-only/

    #206325 Reply
    Liked by ENT Doc
    mb(a)CPA mb(a)CPA 
    Participant
    Status: Accountant
    Posts: 3
    Joined: 04/01/2019

    Any chance of the interest being able to qualify as an Unreimbursed Partnership Expense?

    #206472 Reply
    jfoxcpacfp jfoxcpacfp 
    Moderator
    Status: Financial Advisor, Accountant, Small Business Owner
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    Joined: 01/09/2016

    Any chance of the interest being able to qualify as an Unreimbursed Partnership Expense?

    Click to expand…

    Who are you asking? If the OP, I believe more explanation would be helpful. If me, I don’t know any more than you about the fact pattern but I really appreciate that you jumped in – please continue!

    Johanna Fox Turner, CPA, CFP, Fox Wealth Mgmt & Fox CPAs ~ 270-247-0555
    https://fox-cpas.com/for-doctors-only/

    #206474 Reply
    Liked by Tim
    Avatar rsmnp1087 
    Participant
    Status: Physician
    Posts: 4
    Joined: 04/15/2019

    Yes!  I am quite interested in this, too!  I’m currently considering purchasing 50% of an existing practice.  Seems like there are different ways to structure buy-in which can have different tax consequences.

    Sounds like OP did, in fact, purchase stock in the company.  Therefore, I’ve been told the facts are as jfox stated: Interest paid on loan is considered investment interest, and can only be used to offset investment income.

    In researching and talking with accountant, another way to structure a buy-in is the actual purchase of the company’s assets instead of the purchase of stock.  Structuring a buy-in in this manner can have tax advantages for the buyer including the potential to write-off (or depreciate) assets purchased as well as the interest used to finance such a purchase.

    I’m only beginning to scratch the surface on this.  I would love to hear more professional thoughts on this!

    #206521 Reply
    jfoxcpacfp jfoxcpacfp 
    Moderator
    Status: Financial Advisor, Accountant, Small Business Owner
    Posts: 7161
    Joined: 01/09/2016
    In researching and talking with accountant, another way to structure a buy-in is the actual purchase of the company’s assets instead of the purchase of stock.  Structuring a buy-in in this manner can have tax advantages for the buyer including the potential to write-off (or depreciate) assets purchased as well as the interest used to finance such a purchase. I’m only beginning to scratch the surface on this.  I would love to hear more professional thoughts on this!

    Click to expand…

    In the sale of a business, it is in the buyer’s best interest to be conducted as an asset sale – purely from a tax perspective. However, the seller wants a stock or business interest sale, also because of the tax advantages. The sale of stock in a business is subject to more favorable LTCG rates. With an asset sale, only the goodwill is taxed as a capital asset and other assets sold are taxed at higher marginal rates.

    When a buyer buys stock, the buyer also buys any hidden liabilities of the practice, so it is very important to do due diligence. Back taxes? They’re now yours, too. Lawsuit filed against the business? You’re on the hook now.

    With an asset sale, the business must be reorganized as a whole new entity, while the seller retains the prior corporation. This may not be advisable for patient relations purposes along with the administrative nightmare for a practice to change everything with insurance, licensing, etc.

    Practice sales are not usually handled as asset sales, practically speaking. When it’s a 100% sale, though, you have much more clout. But consider having to set everything up from scratch…

    If I were to sell my business (which I’m not, except eventually to current partners), it will be a stock sale.

    Johanna Fox Turner, CPA, CFP, Fox Wealth Mgmt & Fox CPAs ~ 270-247-0555
    https://fox-cpas.com/for-doctors-only/

    #206532 Reply
    Avatar bonebrokemefix 
    Participant
    Status: Physician
    Posts: 43
    Joined: 04/10/2017

    Interest on debt to buy into a practice is considered investment interest. It is deductible on Schedule A as an Itemized Deduction but only against net investment income. NII includes short-term CG, taxable interest, and non-qual dividends. You can make an election to include LTCG and qual dividends, but I strongly recommend discussing with your tax pro before making this choice.

    The best news is that any unused investment interest is carried forward to be used against future investment income.

    And welcome to the forum!

    Click to expand…

    Partnership buy-in avails someone to the cashflow from the practice. In my instance, I think this is still paid on w2 but I am not 100% certain. It seems like this would still be investment income in the sense that you could deduct loan interest against it?

    #207016 Reply
    Avatar rsmnp1087 
    Participant
    Status: Physician
    Posts: 4
    Joined: 04/15/2019

    JFox, is your business a disregarded entity?  My understanding is that disregarded entities do not have “stock.”  Therefore, the sale of an interest in a disregarded entity is essentially treated as if the purchaser is buying assets that are owned by the seller.

    I’m going to dive into the weeds for a second, but I think many readers may also be facing this same situation based on what exactly they are purchasing.  Seems like the tax consequences can be huge.

    As stated in IRS Rev. Rule 99-5:

    “In this situation, the LLC, which, for federal tax purposes, is disregarded as an entity separate from its owner, is converted to a partnership when the new member, B, purchases an interest in the disregarded entity from the owner, A. B’s purchase of 50% of A’s ownership interest in the LLC is treated as the purchase of a 50% interest in each of the LLC’s assets, which are treated as held directly by A for federal tax purposes. Immediately thereafter, A and B are treated as contributing their respective interests in those assets to a partnership in exchange for ownership interests in the partnership.”

    Given the above, from a tax perspective, the seller would then be taxed on the sale of his/her 50% interest based on his/her gain or loss (paying ordinary income tax on the gain on tangible assets (sale price – tax basis) and LTCG on intangible assets such as goodwill)

    From the buyer’s perspective, he/she receives a step-up in basis on the assets (sale price – existing tax basis) and a corresponding tax deduction (bonus depreciation on tangible assets (see bonus-depreciation-allowable-for-certain-stepped-up-basis-transactions) and 15 year amortization on intangible assets such as goodwill).

    Am I on track here?  The practice I’m looking at is a single-member LLC.  I haven’t been advised of or found any mention of the requirement to form an entirely new LLC (and all the headache a new EIN would create for a medical practice with insurance, employees, 401k, etc.).

    Don’t worry I have hired a professional to help with this, but I’m trying to figure out as much of this on my own as possible.  Thanks for any input!

    #207071 Reply
    Avatar rsmnp1087 
    Participant
    Status: Physician
    Posts: 4
    Joined: 04/15/2019

    Interest on debt to buy into a practice is considered investment interest. It is deductible on Schedule A as an Itemized Deduction but only against net investment income. NII includes short-term CG, taxable interest, and non-qual dividends. You can make an election to include LTCG and qual dividends, but I strongly recommend discussing with your tax pro before making this choice.

    The best news is that any unused investment interest is carried forward to be used against future investment income.

    And welcome to the forum!

    Click to expand…

    Partnership buy-in avails someone to the cashflow from the practice. In my instance, I think this is still paid on w2 but I am not 100% certain. It seems like this would still be investment income in the sense that you could deduct loan interest against it?

    Click to expand…

    I think if you are actively participating in the business, then your income is considered “earned income” instead of “investment income”

    #207072 Reply
    jfoxcpacfp jfoxcpacfp 
    Moderator
    Status: Financial Advisor, Accountant, Small Business Owner
    Posts: 7161
    Joined: 01/09/2016
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    JFox, is your business a disregarded entity?  My understanding is that disregarded entities do not have “stock.”  Therefore, the sale of an interest in a disregarded entity is essentially treated as if the purchaser is buying assets that are owned by the seller.

    Click to expand…

    The CPA firm is an s-corp. From your original wording, it appeared you were referring to a corporation.

    A SMLLC w/b different, that is correct.

    Johanna Fox Turner, CPA, CFP, Fox Wealth Mgmt & Fox CPAs ~ 270-247-0555
    https://fox-cpas.com/for-doctors-only/

    #207074 Reply
    jfoxcpacfp jfoxcpacfp 
    Moderator
    Status: Financial Advisor, Accountant, Small Business Owner
    Posts: 7161
    Joined: 01/09/2016

    Interest on debt to buy into a practice is considered investment interest. It is deductible on Schedule A as an Itemized Deduction but only against net investment income. NII includes short-term CG, taxable interest, and non-qual dividends. You can make an election to include LTCG and qual dividends, but I strongly recommend discussing with your tax pro before making this choice.

    The best news is that any unused investment interest is carried forward to be used against future investment income.

    And welcome to the forum!

    Click to expand…

    Partnership buy-in avails someone to the cashflow from the practice. In my instance, I think this is still paid on w2 but I am not 100% certain. It seems like this would still be investment income in the sense that you could deduct loan interest against it?

    Click to expand…

    rsmnp1087 is correct. Investment income includes interest, dividends, and short-term capital gains (although you can elect to offset with LTCG). Cashflow from the practice in which you are an owner is earned income.

    Johanna Fox Turner, CPA, CFP, Fox Wealth Mgmt & Fox CPAs ~ 270-247-0555
    https://fox-cpas.com/for-doctors-only/

    #207081 Reply

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