Healthcare Entity & Practice Formation
Starting any business can be overwhelming. But for physicians and others establishing a medical practice or health care business, there are additional legal concerns. If you are a healthcare professional starting a medical practice or healthcare business, the first steps you take will set the foundation for your success. Establishing your business structure in a proper manner may be almost as important to your career as providing high-quality patient care.
Our healthcare and business law firm represents physicians and others in the formation and operation of medical practices and healthcare businesses. Although legal, practical and tax factors impact entity formation options for any business, owners of medical practices and healthcare businesses face unique legal considerations in setting up a medical practice or healthcare entity. The changing regulatory environment and the health industry’s combination of a public and private payer system create multiple legal issues that require careful evaluation.
A first step in setting up a medical practice or healthcare business is choosing the type of entity to form. What type of entity will work best for your practice or business will depend on an analysis of multiple factors, including costs, paperwork, potential legal liabilities, tax and other considerations. We can assist you in selecting and forming the entity that is most appropriate for your situation. Options include:
- Sole Proprietorship
- Corporation (including PC or S Corp)
- Limited Liability Company (LLC)
Although sole proprietorship and general partnership are entity options for physicians and healthcare business owners, most health industry professionals decide that an S Corporation or Limited Liability Company provides the best combination of limited legal exposure and tax advantages, without some of the formalities and complexities associated with forming and operating a regular or professional corporation. A primary benefit of incorporating a medical practice is the ability to limit personal liability for certain corporate debts of the business. Generally speaking, while a solo practitioner may have personal liability for the debts of the medical practice, a shareholder or a corporation or LLC member will not. When a group of physicians sets up a medical practice, incorporation can also avoid (or minimize) personal liability for the acts of other physicians in the group. However, incorporating an entity will not insulate an individual physician from his or her own acts of negligence or malpractice.
Professional corporations, known as PCs, are available options to those in certain occupations, including medical professionals (as well as accountants, lawyers and others). PCs usually must be approved by the state agency that licenses the professionals. For physicians in Georgia, that agency is the Georgia Composite Medical Board. And all owners of a PC need to be licensed by the board. Although PCs do not offer the level of personal liability protection of S Corps or LLCs (discussed further below), PCs generally do protect individual owners from malpractice claims filed against other physicians or associates.
An S Corporation is much like an LLC (discussed further below). Net profits in an S Corporation are “distributed” to stockholders, who then add these profits to their personal income for tax reporting purposes. S Corps are similar to all other corporations, except for this tax issue. Other corporate requirements, such as holding regular management meetings, etc., are identical to all other corporations, regardless of whether they are a single stockholder company or a large corporation. The S Corporation is created in the usual manner, and shareholders subsequently “elect” to be taxed as individuals, thereby creating an S Corp for IRS purposes.
An LLC functions like a standard corporation in many ways, including personal asset protection, but it is much less complex to organize, file, document and manage. LLCs combine the best features of partnerships and corporations, offering limited liability to owners, while dividing up profits among the partners. Similar to S Corporations, owners normally receive protection for personal assets regardless of financial or operating problems that may befall the LLC. In most cases, company creditors cannot seize the assets of the owners/partners. Like a classic partnership, LLCs must file an IRS form 1065, which lists the ownership percentages of the partners, for taxable income distribution.
In order to gain the advantages and protections of an LLC, physicians and healthcare professionals must ensure that their LLC is properly created and maintained. Like other states, Georgia enforces additional rules governing proper LLC formation within its state boundaries. We can help you create and maintain your LLC to help ensure you receive all the benefits this entity structure provides. With respect to tax issues, physicians and healthcare business owners should consult with a certified public accountant and/or tax attorney with both general tax expertise and specific experience working on behalf of medical practices.
One of the most important documents for an LLC is the Operating Agreement. An Operating Agreement is a particular type of business contract among the members of an LLC that defines the operations and procedures of the LLC. The Operating Agreement explains how your company will be run, the rights and responsibilities of LLC members, the process of adding and removing LLC members, and other important operating rules. Although an LLC’s governance provisions could be included in its Articles of Organization, a Georgia LLC’s governance provisions generally appear in its Operating Agreement.
While Operating Agreements are not mandatory in Georgia (or most other states), it generally is advisable for an LLC to have an Operating Agreement in place. The Operating Agreement may be oral or written. But because in most instances statutory default rules apply unless overruled in the Articles of Organization or a written Operating Agreement, and because parties usually do not want the statutory default rules to apply (for reasons discussed below), a written Operating Agreement is strongly recommended.
An Operating Agreement is the lifeline of your business. It not only establishes the structure of your business; it also helps protect you from liability. And, most importantly, it creates internal rules governing your business, which includes detailing how you are going to handle and account for difficult situations in the future.
The Operating Agreement for an LLC has been analogized to a prenuptial agreement for your business. It provides owners a detailed framework for various business and functional issues that may arise. An Operating Agreement can be handy in defining the roles and responsibilities of its members, allocating ownership percentages, explaining management procedures, establishing annual meeting guidelines, and setting forth details regarding change in ownership or winding up of the LLC.
For many LLCs, the Operating Agreement is also analogous and will generally be similar in form and content and to a partnership or joint venture agreement. In the case of LLCs in which management is delegated to one or more managers, the Operating Agreement may also include provisions similar to corporate bylaws or shareholder agreements.
Unlike the Articles of Organization (which is a short form you have to fill out for the state to establish your LLC), the Operating Agreement can be significantly more complex, less understood for most new business owners, and not as straightforward. Therefore, the assistance of an attorney is recommended.
Benefits of an Operating Agreement
Operating Agreements can provide the following critical benefits (among others), enabling you to:
- Create the business structure that best suits your specific needs. By putting an Operating Agreement in place, you proactively set the rules under which you will operate your company.
- Better protect the limited liability status of your company.
- Minimize the likelihood, number and impact of managerial disagreements.
- And (perhaps most importantly), control your destiny, since, without an Operating Agreement, state laws may dictate how your company will be run.
One of the primary reasons for forming an LLC is to protect the individual owners from debts and liabilities that the business may incur. For example, if the business takes on a bank loan and ends up failing, the bank normally cannot go after the individual owners personally to collect on the loan (assuming the owners did not personally guarantee the loan).
However, courts are not dumb. If an owner uses an LLC in a way that co-mingles his/her personal accounts with those of the business, or the LLC is merely a “sham,” it is possible that some or all of the debts and liabilities might be allocated to the individual member(s) — known as “piercing the corporate veil.” So how does having an Operating Agreement help? If someone is trying to make a claim against you personally (attempting to pierce the corporate veil), you will have to show that the business entity is in fact separate from you as an individual. The Operating Agreement can help you do that, by providing some documentary proof of the LLC’s genuine existence as a separate, operating entity.
A well-written Operating Agreement can not only guide your company in the right direction, it can help serve as a shield against creditors of the business. Moreover, because an Operating Agreement delves into the actual inner workings (operations) of your business, hiring an LLC lawyer to draft or advise you regarding your Operating Agreement can often lead to helpful advice on other matters. A well-crafted Operating Agreement can also facilitate compliance with laws and regulations, and help your company and its members adhere to them.
What Should be in the Operating Agreement?
In preparing the Operating Agreement, you should try to think through potential contingencies to ensure that they are included and accounted for to protect the owners and LLC as much as possible. Depending on what you plan on doing with your business, there may be specific items for you to consider that differ from other businesses. Generally, an Operating Agreement should include items such as:
- Contributions of members and member ownership percentages – Are you starting this LLC with one or more partners or other members? What is each partner or member contributing to the LLC? Are the partners or members putting in money or contributing something else of value?
- Rules for bringing in new members — Can a new member be added? If so, under what circumstances? Must they be experts in a particular field? Will they be providing some sort of intellectual property? Is there a buy-in? If so, how much or how is it calculated?
- Member voting rights, powers and responsibilities
- Management rules and procedures — Who within the LLC manages what? In what cases do you need unanimous approval? Who gets final say in a dispute?
- Rules governing allocation of profits and losses
- Liability of members – Does the LLC agree that members should not be held liable to the company when acting as a member? What about losses due to individual member negligence or malfeasance?
- Fiduciary Duties – What are the duties of the members to the LLC and other members? Are there scenarios where conflicts of interest may arise? Is it ever permissible for a member to act in his/her self-interest? If so, under what circumstances?
- Meetings – How often should they occur and what should be discussed?
- Member exit rules — Can a member ever be removed? If so, under what circumstances and how? What happens if a member leaves, dies, becomes incapacitated or is removed? Who gets their shares and how are those shares paid for? Do the rules differ depending upon the reason the member leaves? What happens if a member owes the LLC money?
- Language regarding first refusal and purchase rights
- Dissolution and Termination – What happens if the LLC becomes insolvent or needs to shut down?
- Miscellaneous – catch-all for a host of other potential issues that may come up
Once an Operating Agreement is drafted and agreed upon by the LLC’s members, the Operating Agreement becomes the primary governing document of the LLC, and virtually every key decision will be rooted in the Operating Agreement. An LLC Operating Agreement can be created either at the time of the LLC’s formation, or at any time after formation. But the sooner, the better.
Risks of Conducting Business Without an Operating Agreement
Potential issues from running your LLC without a written Operating Agreement include:
- An LLC Operating Agreement reinforces your limited liability status and helps to ensure that that you, as an individual, are legally separate from your business. Conversely, running your company without an LLC Operating Agreement could damage your personal finances.
- A properly written Operating Agreement clearly lays out the rules and procedures for the management of your business and prevents problems that could arise from misunderstandings. Without an Operating Agreement, managerial disputes can remain unresolved, often resulting in lawsuits against your company and among the members.
- Without an Operating Agreement, state rules may apply that could result in the loss of personal control of your business, as well as your business running less efficiently.
Professionals electing LLC status in Georgia need to keep in mind certain consequences of electing LLC status without a written Operating Agreement. In the absence of a written Operating Agreement, the LLC format generally requires: (1) unanimous consent as to certain fundamental matters of firm governance; (2) dissolution in the event of dissociation of a member; and (3) per capita voting, per capita distributions, and per capita allocations of profits and losses.
In the real world, few professional firms want to operate in that way. But without a written Operating Agreement, a single member not intended to have a veto can unilaterally refuse to approve a fundamental action supported by all other members. Or, upon withdrawal from the practice, the same or a different member might assert rights to financial accommodations that are inconsistent with the unwritten agreement among the members. So if you want to avoid (or at least minimize the likelihood and difficulty of) such potential disagreements, a well-written Operating Agreement is key.
A written Operating Agreement is essential in order to keep the state from setting even the most basic rules for how you run your company. A written Operating Agreement is also vital to avoid unnecessary misunderstandings and disputes between partners or members, and to ensure that your LLC runs smoothly and efficiently.
You may have read or heard about some of the many partner and member disputes that arise every day in businesses across the country, no matter how well-intentioned the parties were at the outset of their relationship. In such cases, courts, arbitrators and mediators rely upon the terms of LLC Operating Agreements for clarity in resolving or deciding those disputes. By talking with your members, and creating and periodically updating an Operating Agreement with an LLC lawyer, you are much more likely to avoid costly and time-consuming disputes as your business grows.
As one commercial litigator put it, “Business people are often starry-eyed about their future prospects together and are simply unable to foresee the many difficulties that can arise a few years or even a decade or more into the future.” Doctors and other healthcare providers (who rightly are focused on good patient care) are perhaps even more prone to have that happen. But an Operating Agreement can help you address that reality and plan for unavoidable difficulties.
Periodically Reviewing & Amending Your Operating Agreement
The Operating Agreement can address an almost infinite number of issues pertaining to the operation of your business, and can lay out how to handle the evolution of your business — which almost certainly will change over time. Work to understand the impact of your Operating Agreement, and don’t be afraid to make changes as necessary to better support your business.
An Operating Agreement need not (and probably should not) be a static document. A legal agreement is only as good as how well it works to serve you and your business. So you should periodically review your Operating Agreement as your business evolves and circumstances change. And make adjustments as necessary.
As your business grows and expands, you have the ability to amend your Operating Agreement and tailor it to not only the original purpose of your company, but also actual conditions as they develop, and your vision going forward. Some businesses use simple form Operating Agreements as an initial framework to get their LLCs off the ground quickly. But once they start working on the business in earnest and better understand the challenges they face, they (along with their attorney) can tailor their Operating Agreements to better suit the goals of the business over time. At a minimum, you want to be able to head off problems before they become too serious or expensive, or threaten to destroy your practice or business.
Remembering that an LLC Operating Agreement need not be a static agreement is crucial. Revisiting the agreement regularly can encourage you to make the necessary modifications to adjust the written document as your business grows and evolves.
Benefits of Having an Attorney Involved
Having a lawyer draft or at least review your Operating Agreement will help save you countless headaches down the road. Even single-member LLCs can benefit from an attorney’s advice. And if you formed your LLC with multiple members, you will more than likely have some sort of disagreement about a financial decision or the direction of your business at some point. A strong Operating Agreement, one prepared by an experienced business lawyer, can save both you and your business.
While form Operating Agreements are available, having an Operating Agreement customized for your business is not only helpful, but strongly advised. An attorney can help you make sure that the right terms and provisions are included for your business, and that extraneous items that may confuse your agreement are omitted or deleted. An Operating Agreement customized and tailored to your particular business and situation can help ensure the health, prosperity and longevity of your business going forward.
Some common mistakes in Operating Agreements include:
- Failing to have all members sign the Operating Agreement.
- Not fully explaining member duties.
- Including rules that are not allowed under state law.
- Neglecting to update the agreement when significant changes occur.
- Failing to include adequate rules for departing members.
While an Operating Agreement prepared by an LLC lawyer will cost more up front than one fashioned from a template, the cost of paying an attorney to draft or review and advise you regarding an Operating Agreement is almost certainly a fraction of what it can cost to not have and implement such an agreement. You therefore should think carefully before proceeding with an Operating Agreement or other basic legal necessities without the advice and assistance of a lawyer. Working with an attorney can help you think through and side-step potentially large legal issues down the road.
Conclusion & How We Can Help
In addition to entity formation considerations common to any business, physicians face many legal issues and practical considerations unique to the healthcare industry. For example, in forming and operating a medical practice, physicians must now often decide issues that previously did not exist, such as: how to set up an electronic medical records system; how to establish protocols to ensure compliance with HIPAA and HITECH; whether and how to practice “telemedicine”; whether to form a “concierge” medical practice, as opposed to a conventional practice based upon third-party payer steerage; whether to join an “independent physician association,” “physician hospital organization” or other organization; whether and how to participate in an “accountable care organization”; whether to sign a PPO’s “network agreement”; and what all of these choices might entail.
At the Law Office of Kevin O’Mahony, we have extensive experience and expertise representing physicians, health care providers and other professionals in establishing their legal entities and related matters. We are one of the few law firms in Johns Creek and metro Atlanta focusing exclusively on healthcare and business law. We understand the unique aspects of your business and provide services that allow you to devote more time to your practice and spend less time navigating and fulfilling legal requirements. We are here to help you with every step of healthcare entity and medical practice ownership. We also advise clients regarding healthcare provider contracts, employment and insurance issues, leases, and other business matters, including negotiation and preparation of the necessary documents. And we can assist you with buying and selling medical practices. Please call or email us when you are ready to discuss your legal needs.