Q Myself and another doctor practice as sole proprietors together in the same facility under a solo-group arrangement. We each carry $500,000 of term life insurance on the other doctor, in the event of one of our untimely deaths. We are six weeks away from moving into a new building that has a total cost (land, building and equipment) of $700,000. We are considering taking out $350,000 of life insurance on each of us, so if one of us were to die, the other doctor would own the practice and the building and our spouses would not have to become involved in the transfer and sale. The building and land are owned through a limited liability company, with each doctor owning a 50% interest in the LLC. Do you favor maintaining this buy-sell life insurance coverage, or internally financing a potential buy-out?
A In most cases, we recommend using an internally financed buy-out, especially for real-estate purposes. Since your new building is presumably debt financed to begin with, in the event of the death of either partner, that partner would be due only 50% of the total equity involved in the property (value of the profit, minus the debt).
Typically, upon the death of a partner, the real estate is simply refinanced under a new mortgage of sufficient size to allow the pay-out of the deceased doctor’s equity in the property. Thereafter, the rent charged by the LLC to the practices using the facility is simply adjusted so the rental payments received will fully cover the new debt service involved. In this manner, the real estate buy-out can be accomplished without the use of buy-sell life insurance.
The answer is not as clear-cut with respect to the practice buy-out. Many doctors simply elect to purchase the other doctor’s practice, assimilate as much of the full fee patient base as possible into their practice, and sell off the remainder to another doctor. The deceased doctor’s estate can then be paid full value for the practice by the purchasing doctor, out of the additional income generated from the patient base purchased as well as the proceeds from the sale of the remaining practice assets. Alternatively, the doctors could simply elect to provide instant liquidity for the buy-out through cheap term life insurance coverage.
Q My daughter has a substantial amount of college savings invested in Series EE savings bonds. She will be turning 14 soon, and I want to begin reporting the income on next year’s return, since it will be taxed at her rate, rather than mine. How do I arrange this?
A In order to accomplish this, you should simply plan to file your daughter’s federal income-tax return in her name next year, showing the total interest accumulated through 2001 and stating that your daughter now chooses to report the interest as earned each year. In this manner, federal and state income taxes on the interest income can be minimized.