Letters of the Law

Your practice is floundering financially. Are you personally responsible for its debts? One of your partners is the target of a malpractice claim. Is it possible that you could be held liable for his mistake? There is friction among members of your group about compensation issues. Do you have a fair and established decision-making process to help you come to a resolution?

If you are unsure about your answer to any of these questions, it may be time to consider a corporate structure for your practice. Today, many physicians are finding that the general partnership -- once an old organizational standby for medical practices -- doesn't provide the liability protection and tax advantages of some other options. Now there are several types of structures suitable for physician groups and, while the specifics vary by state, there are some general characteristics of each that can provide a big picture and help guide your decision.

Among the most common business structuring options for medical practices are the professional association (PA), professional corporation (PC), limited liability company (LLC), and limited liability partnership (LLP). According to the Bureau of National Affairs' Health Law & Business Series, "There is a growing consensus that the PC or LLC is superior to the partnership ... because it permits greater operational efficiency and affords its participants better protection from liability."

The good news for physicians is that the different options suit the needs of various-sized practices, and allow them to focus on short- and long-term goals for growth -- and they can turn to legal professionals to avoid getting bogged down in the details. "If you've got a big vision about what you want to do," says cardiologist David C. Oliver, of New Bern, N.C., "you can't let the stumbling blocks get in your way."

And Oliver should know. Like many physicians, Oliver is a member of a group of physicians that evaluated its goals, worked with legal counsel, and decided upon a structure that met its needs for tax and liability protection and its preferences for decision-making processes and the overall operation of the practice.

How to be PC

For physician practices, "the most common structure these days is a PC," says Reece Hirsch, a partner in the San Francisco office of the law firm of Davis Wright Tremaine LLP. The main advantage to this corporate form is that it provides a shield from liability; a physician-shareholder in a PC is not personally liable for the obligations of the business. "They are still responsible for their own malpractice liability, but they aren't responsible for malpractice liabilities of their fellow shareholders."

"Not so long ago, a lot of physician practices were organized as general partnerships," Hirsch says. "We're seeing that less because, in a general partnership, there's joint and several liability. That means that one physician can be held liable for the business liabilities for the partnership [such as taxes on property and equipment] and for the malpractice of their partners. If a practice is operating at a deficit or has to go into bankruptcy, it's possible that one physician could be pursued for all the debts."

"For a smaller practice, a simple structure like a PC is more manageable," agrees Diane Carter, a partner with the law firm of Hilgers & Watkins PC in Austin, Texas. "Typically each of the physician-owners would serve on the board of directors and as officers. A larger practice might opt for a more complex arrangement; for example, physicians may want to have different tiers of ownership for senior and junior physicians, or they might provide for rotating management."

Weighing the options

So, how do you choose from among the options? There are two basic factors to consider, says attorney Michel LaFond, a member of Sulloway and Hollis PLLC of Concord, N.H. "When we ask physicians to describe a PC, they have a good understanding of articles and bylaws. If you ask them to identify an LLC or an LLP, they're not quite sure what it is. That familiarity and comfort level makes a big difference to physicians.

"The other consideration is taxes," he continues. "Generally a PC is taxed at the corporate level. If you organize as a LLC or LLP, the entity can be treated as a partnership to avoid the tax consequences at the corporate level." The LLC is often considered a "hybrid" entity that combines the tax flow-through aspects of a partnership with the liability protection of a corporation or limited partnership.

The physicians at Georgia Neurological Surgery in Athens decided that the LLC option made sense for them. "At one time we were a PC," says the group's executive director, Stephen Deas. But as LLCs grew in popularity the group's attorney recommended they switch to that structure to better protect the group's assets. Deas and the others appreciate that the LLC (as its name implies) limits their liability in case of lawsuits. In other words, says Deas, "there is a limit -- they can't sue you for what the company is worth."

The group's decision to switch structures made sense -- the greater the value of the practice and risk for loss, the more members need to protect their investments. "We own some real estate ventures, too," says Deas. "Any holdings we have are structured under that format."

The organized decision-making approach of the LLC, outlined in an operating agreement, also keeps the members of the group focused on their roles, says Deas. "We have a president and a managing partner, and that's who I look to for guidance. But our doctors need to be doing neurosurgery and I need to be managing the practice," he says. "Usually I make decisions and memo them as to what I've done."

For physician practices that are weighing the options of various corporate structures, Deas believes that "being able to limit your exposure" to financial losses is a definite benefit.

Step back and plan

Many experts agree that physicians need to do some business planning and thinking about operational issues before deciding on a corporate structure.

"The structure of a medical practice should be the second priority," says LaFond. "The first priority should be for physicians to take a look at their bread-and-butter goals and objectives. They need to do what I call 'ground level' business planning." LaFond recommends physicians in a group ask themselves why they are coming together: To share overhead expenses? To reposition for contracting purposes? To be able to broaden the referral base? To spread the overhead for the development of new ancillary services?

"I think consultants and lawyers can be helpful, but physicians have to identify issues and get educated about the business and legal issues concerning their practice," adds LaFond. "They have to be the decision makers. If they are coming together to form a group or reorganize with others, they have to develop a group sense of what they're all willing to do."

"There are a lot of issues to think about when you're commencing practice together," Hirsch agrees. He recommends developing an employment agreement for each of the physicians in order to assess whether they are "seeing eye-to-eye on some basic practice operations issues," such as their compensation model.

"An employment agreement will include issues like scheduling," says Hirsch, "and whether the physician is allowed to engage in [revenue-generating] activities outside the practice. If they do, are those revenues going to go to the group? Some groups factor in participation in committees, quality assurance activities, even attendance at board meetings, into their compensation formula. Others take a pure productivity-based approach."

Austin's Carter agrees that physicians "should have an understanding as to how they base their compensation, how it might change, and how many physicians have to agree to make a change." But she says it can be helpful to avoid making employment agreements too specific. "You don't want to have to amend that every time someone's salary changes," she notes.

Another document that organizing physician groups should consider is a stock purchase and transfer restriction agreement, "which basically prohibits one shareholder from selling his or her shares to an outside party without first making an offer to the other shareholders," says Carter. This agreement can also address termination or the retirement of a physician-shareholder. Carter sees employment and stock agreements as a subset of developing the corporate structure. "It's good to have them all interconnect and to prepare them together."

Breaking away

Corporate restructuring of physician groups became big business in the late 1990s when breakups with physician practice management corporations (PPMCs) were rampant. These management firms were once heralded as saviors of the economically shaky healthcare system, but frequently proved oblivious to the day-to-day workings of medical practices. Problems occurred when PPMCs set unreasonable goals for the physicians, whose medical decision-making took a back seat to management's bottom line.

"There have been a lot of those kinds of 'divorces,'" Carter agrees. What needs to happen for a physician or practice to make the break? "Initially, see if the management company has done anything to justify the physicians terminating [the contract] for cause," she says. Other issues include transferring assets back to the practice, terminating the management company's access to physician bank accounts, and bringing staff from the management company into the new practice. Clearly, says Carter, "If it's an amicable separation, it's easier to deal with all that."

LaFond successfully brought together several internal medicine groups that were struggling with contract negotiations with health plans. He says the process worked in part because the physicians were willing to do some work up-front. "Those physicians really had some objectives in mind. They wanted to develop more clout in the marketplace to be able to contract more effectively; they wanted to improve their compensation by developing additional revenue streams."

According to cardiologist Oliver, president of Coastal Carolina Health Care PA, a group that benefited from LaFond's efforts, the biggest challenge to restructuring was finding common ground. "We were four mature practices that had been used to running their own shows for more than 20 years. Even though there would have to be sacrifices of individuality, as long as we remained separate, we'd never be able to survive economically or enter into new ancillary services."

Oliver says that, in the first year of forming the new group, there was a lot of "structural work" to be done. "The major goal was to get central billing up and running and help the office staff to work on a team approach. We also created a hospitalist position," which gave the rest of the physicians more time to concentrate on their office practices and allowed them to open a new after-hours urgent-care facility.

"During the second year we began to concentrate on new ancillary services. I don't think any of us could have done it in individual settings; strength in numbers gave us the wherewithal. Now, as a fully integrated group, our ability to contract with payers with a chief operating officer representing us is better than individual physicians representing themselves."

Oliver is satisfied with the way his group's structuring worked out and adds that getting professional help with the process is essential. "We put our attorneys together and let them do the legal work. Physicians who don't know about these issues should get professional advice and follow it; that's difficult for physicians to do. It was obviously the right decision for us."

Joanne Tetrault, director of editorial services for Physicians Practice, can be reached at jtetrault@physicianspractice.com.

This article originally appeared in the March/April 2002 issue of Physicians Practice.