Physician Practices and Their Tax Issues
Historically, physician practices were set up as sole proprietorships or partnerships. As the business of medicine and the liability risks grew more complex, however, new entities were created. Medical practices now have a number of legal organization form options, including;
- Sole proprietorship.
- General partnership.
- Limited partnership.
- C corporation.
- S corporation.
- Limited liability company (LLC).
- Limited liability partnership (LLP).
Each one has different tax and liability implications. Not every form is available in every state, so it's best to consult experts.
In sole proprietorships, physicians have unlimited personal liability and business risk. This means personal assets can be subject to the claims of business creditors. The owner does not get a W-2, employment taxes such as Social Security must be paid on all income, and the owner must pay estimated taxes. When filing federal income tax returns, all business income, gains, deductions or losses are reported on Schedule C of Form 1040.
In general partnerships, physicians/partners have unlimited personal liability and business risk. The partnership is not a taxpaying entity and files only an information income tax return. Each partner receives a Schedule K-1 from that return and reports the information from the Schedule K-1 on Schedule E of Form 1040. Partners do not receive W-2s. Partners pay employment taxes on all medical service income and must pay estimated taxes.
A limited partnership has at least one general partner and at least one limited partner. Partners are protected against personal liability for business claims but not malpractice claims. The entity files an information return, and partners receive a Schedule K-1. Partners do not receive a W-2. Partners pay employment taxes on medical service income and pay estimated taxes.
C corporations protect against personal liability for business risks but not malpractice. Owners receive W-2s and pay taxes on that income. C corporations file a corporate tax return and pay taxes at the corporate level, and then they may distribute the remaining earnings as dividends to owners. Dividends are not deductible to the corporation and are income for the owners, creating the potential for double taxation.
S corporations allow taxation of profits and losses for partners, while providing a corporate shield against business claims. Owners are protected against personal liability for business claims but not malpractice. Owners receive W-2s. No tax is imposed on the S corporation; rather, the tax consequences flow through to the owners based on ownership. S corporations file only information income tax returns. Each shareholder receives a Schedule K-1 from that return and reports the information from the Schedule K-1 on Schedule E of Form 1040. Physicians pay Medicare and Social Security tax on W-2 income but not on K-1 distributions.
Limited Liability Company
LLCs provide protection against personal liability for business risks as a corporation does and are taxed like a partnership. All professional service income is subject to employment taxes. Owners do not receive W-2s and must pay estimated taxes.
Limited Liability Partnership
LLPs are general partnerships managed by their partners and taxed like a partnership, but partners' liability for any professional malpractice of other partners is limited to partnership assets. Partners of an LLP have more liability protection than partners of a general partnership, but they still have unlimited personal liability for obligations of the practice. Owners do not receive W-2s and must pay estimated taxes.
We can help you determine which is the right form for your practice.