You may find that as you manage your dental practice, there’s always a “right way” to doing something. But when it comes to dental tax planning, that’s not necessarily the case. When you think of tax planning, you probably think about ways to save money and minimize the amount of taxes you have to pay. But did you know that doing just the opposite may provide better long-term results for you and your dental practice?
Tax Planning for Dentists
Traditional tax planning includes two common techniques, accelerating deductions and deferred income. These are often strategic methods used to minimize taxes, but there are two situations when doing the exact opposite may be better for you.
How Accelerating Deductions May Not Be Right for Your Dental Practice
Recently, I began working with a younger dentist that purchased a practice a couple years ago. His previous financial advisor chose to expense all of the cost allocated to equipment in the year of purchase. This provided a wonderful tax refund for the dentist. However, what was not discussed and planned for was the whiplash effect in future years. The purchase of the practice was nearly 100 percent financed. The huge tax expense in the year of purchase was enjoyed without actually spending any cash. Two years later significant payments are being made on the loan and the only expense available is a relatively small amount of interest.
In the first year of the practice, the dentist’s tax rate was below 15 percent. It’s now more than 25 percent. Over a five-year period he may end up having to pay more taxes overall by taking an immediate 100 percent write-off of the equipment. What’s worse is the client had no sense of the impending cash crunch.
When purchasing a significant amount of equipment, particularly when starting into the dental profession, be careful on taking a 100 percent write-off. Better tax savings and more manageable cash flow may be available by spreading the expense over a few years.
When Deferring Income May Not Be Right for You
The second unconventional technique I’ve used recently affects the retiring dentist. The situation involves accelerating income by either taking IRA distributions or incurring capital gains. Assume you are 64 years old and have sold your practice. Your plan for the next few years is to live off savings in taxable accounts and defer withdrawing from your IRA account until you are forced to at age 70-½. If in the years between 64 and 70 you have very little taxable income, it can be beneficial to take a relatively small distribution from your IRA now and/or sell appreciated stock or mutual funds. While detailed planning needs to be done in this scenario, it is possible to get tax-free capital gains and pay 15 percent or less tax on the IRA distribution.
Why pay tax on the IRA distribution now rather than later? When you turn 70-½ years old, the size of your IRA distribution plus the tax on social security income may actually pushes you into the 25 percent bracket. This means you have to pay more taxes.
Contact Our Dental Practice Professionals
The only way to achieve the benefits of these unconventional planning techniques is to work with a CPA that understands dental practices and is willing and able to help you plan ahead. Contact Rea & Associates. Our team of bright dental CPAs will be able to work with you to determine when and when not to use these tax planning techniques.