Owning a dental practice should be a priority for dentists who are looking to maximize their income. Practice ownership can offer a great return on investment and also provide some variety from doing similar procedures day in and day out.
The American Dental Association in conjunction with the Health Policy Institute published a survey of dentists from 2018, and the stats for practice ownership were very compelling. Dentists who owned a practice made more money with little risk of going out of business. Only 0.5% of practice owners have defaulted on their dental practice loans.
So what does it take to buy a dental practice and how do you get your finances in order? We’ll cover that as well as some pointers for dentists who are looking to sell their practice. No matter which side of the transaction you’ll be on, understanding both sides will help you get the best deal possible.
Dentists who own their practice earn more money
If we dive deeper into the ADA-HPI study, we can see that owning a dental practice can mean quite a bit more income.
The average associate general dentist earns about $160,110, while a general dentist who owns a solo practice earns $187,810, a 17% increase. Dentists who own a practice and have another dentist working in the office earned $235,720 on average. That’s a 47% increase over an associate.
The income increase for specialists who own a solo practice are even higher. The average specialist earned $257,282. A solo practice-owning specialist earned $340,250. That’s a 32% increase. Specialists who have more than one dentist in their practice earned $378,230, a 47% increase just like general dentistry practice owners.
Why does owning a practice result in more income? Many associate dentists earn about 30% of production while the average practice owner takes home between 40% to 50% of production. That means a practice owner could earn $0.10 to $0.20 more per dollar of production and then $0.40 to $0.50 of production from any other associate dentist they have working in the practice.
Owning a practice comes with more work, but the financial upside is well worth it.
How much should I pay for a dental practice?
There’s a saying in real estate, “Money is made on the purchase, not on the sale.” And investing titan Warren Buffett says, “Price is what you pay. Value is what you get.” I’ve found that this statement, in particular, is true about every transaction, especially when I was a stock analyst or I’d help people analyze what they should pay to acquire a business.
The same perspective can apply to buying a dental practice, though slightly modified. Most dentists won’t sell their practice for decades. They’re mainly buying an increase of income for years to come.
Paying a good price could mean getting your money back from the purchase in three to four years. Paying too much could double that time frame. The goal of the purchase price is pay yourself back with additional income in as short a time period as possible.
Typical cost of a dental practice
What is a good price to pay for a dental practice? Let’s start with what people have historically paid.
Brian Hanks analyzed nearly 1,000 transactions over the last 15 years and found that the average purchase price was around 75% of collections. In other words, if a dental practice collected $1,000,000, then the practice would have sold for around $750,000.
According to Henry Hemmen & Associates, many practices sell for between 55% and 68% of gross collections and between 1 and 1.75 times the annual income. On the surface that sounds like buying a practice should pay a dentist back in one to two years, but these numbers don’t tell the whole story — it’s not the income on its own.
The real question is how much more income would a dentist make by owning a practice above and beyond their income as an associate?
If an associate dentist buys a practice that will generate $300,000 in income, for example, and they can buy the practice for $600,000, that seems like a great deal. In theory, they’d get their money back in two years. If they’re making $150,000 as an associate, though, then buying the practice doesn’t generate $300,000; it generates an incremental $150,000 by being a practice owner. That means it would take them four years to get their money back. That’s still not bad, but it’s twice as long as just valuing it based upon the dental practice’s income.
Assessing the value of a dental practice
So far we’ve been focusing on valuing a practice based upon its income or collections, but there are other important factors to consider too. For example, there’s a big difference between buying a practice that rents out their space and owns out-of-date equipment versus one that owns its building and has the latest dental technology and equipment.
If a practice has a brand-new $40,000 panoramic X-ray, for example, then that could be added into the valuation. On the other hand, if buying the practice means assuming debt, then that needs to be deducted from the price.
Using this valuation technique, the purchase price is based upon the balance sheet (what the practice owns and owes). Any price paid above and beyond that is called goodwill. Typically there’s a lot of goodwill in the purchase price because of how profitable dental practices can be.
The average practice transaction has about 75% of goodwill. For example, an $800,000 practice transaction could have $200,000 of net assets and $600,000 of goodwill.
If you’re curious to get a deeper dive into how to value a dental practice, Baker Tilly has a great article on the four common valuation methods used and an overview of what they mean.
What are capitalized excess earnings?
One of the most common valuation methods is capitalized excess earnings. This method is a little more complex than just looking at collections because it takes into account the expenses of the practice and what the dentist earns.
First you take the excess earnings, which essentially are gross collections minus operating expenses. Then you take the production from the dentist owner and multiply it by an associate production percentage (like 30%). Subtract that from the gross collections too. Divide that number by a capitalization rate around 25%, which helps determine the multiple you pay for the excess earnings.
Here’s an example of how to determine capitalized excess earnings:
According to the ADA the average solo dentist practice collects $800,000. Let’s say a practice has $400,000 in expenses. Becuse it’s a solo practice, the dentist owner produces all $800,000 of the collections. According to this calculation, the excess earnings would be:
$800,000 collections – $400,000 expenses – ($800,000 dentist production × 30% payout) = $160,000 excess earnings.
Then you take the $160,000 excess earnings and divide it by a capitalization rate (for example, 25%).
Practice valuation = $160,000 / 25% = $640,000
That final number is fairly close to the valuation based upon historical transactions that Brian Hanks calculated. He found that the average practice sold for about 75% of collections. If we take the same example of $800,000 collections and multiply it by 75%, that works out to be $600,000.
Consider the impact you would make on the practice’s value
Another thing to think about is how you will run the business compared to the current owner:
- Can you run the practice more efficiently?
- Do you see any expenses that can be cut?
- Has their patient acquisition been subpar but you can increase production through marketing?
- Has the dentist been working 30 hours a week but you want to work for 50?
If you feel like you have the ability to turn around a declining business, you can buy something inexpensive then ramp it up.
Buying a practice is a major transaction, so check with two or three independent experts to help you analyze and evaluate the practice before purchasing it.
How to get finances in order to buy a dental practice
An aspiring dental practice owner should be prepared to pay somewhere between $600,000 and $800,000 for a practice based on the average dental practice data. Oftentimes, making this investment requires getting a practice loan without a large percentage of the purchase price ready to put down.
Let’s start with the elephant room. Can you buy a dental practice using a practice loan with $300,000 to $400,000 in student debt? Absolutely. Many dentists have a bunch of student debt, and we haven’t heard of anyone having trouble getting a practice loan and purchasing a practice because of it. In fact, it’s even on the ADA website that student loans don’t get in the way of dentists purchasing their practices.
The lender will want to see that you have some money in the bank — around $30,000 to $50,000 — and a good credit score. Because this transaction could be one of the best investments you can make in your dental career, you’ll want to prioritize getting into a solid financial position in order to make it happen.
First things first: Although student debt might not matter so much to the lender, it’s still important to be on an optimal plan, such as income-driven repayment, to keep the payments low so you can save up to buy a practice. This strategy could also work well when owning a practice, depending on how many legitimate tax deductions you can take and how able you are to max out employee and employer retirement plan contributions.
I suggest exploring a consultation with Student Loan Planner to get things moving. We’ve helped 539 individual dentists with a total of $208,000,000 in student debt create solid student loan repayment strategies that support their career goals, often which include practice ownership.
Next, clean up any credit card debt and build up savings to a $30,000 to $50,000 threshold. This goal could take up to a year but can often less time when it becomes a real focus. Even if you feel you’re two to three years out from buying a practice, get that money saved as soon as possible in case a great opportunity comes your way.
Want to see if you’re ready? Take our practice financing quiz.
How to get a dental practice practice loan
The ADA estimates that the typical dental practice needs about $500,000 to get up and running. In most cases, that will require taking out a loan.
Before banks will lend out any money, they want to understand the likelihood of getting paid back. For that reason, the lender will often require that you have a decent credit score, have a solid production history as a dental associate, and the lender will definitely want to see some money in the bank.
It is imperative to put together a business plan. It’s a prudent thing for a lender to ask to see one, and it’s also really important that aspiring practice owners put some serious thought and strategy into how they will run their practice.
Although there’s an extremely high success rate for dentists, that doesn’t mean that things will magically happen. It takes thinking in advance, research, strategizing and financial planning to understand how much to invest in the practice and where to do it. Check out the ADA’s dental practice business plan recommendations.
Assuming you have a good credit score, money in the bank, and a solid business plan, you’re ready to apply for a dental practice loan. Take a look at this Student Loan Planner resource on what you need to know and where to find dental practice loans.
Selling a dental practice
If you’re considering selling your dental practice, think of it like getting ready to sell a house. You want it to look like it’s in peak shape and get things ready in advance of putting it on the market. Here are some tips for getting your dental practice ready for sale:
- Collections are such a key component in valuation. Keep them steady and try to increase them as much as possible leading up to the sale by acquiring new clients. If patients are on the decline, then that could lead to a lower valuation. Take a look at accounts receivable and try to clean those up as well.
- Higher profit margins will lead to higher valuations. Analyze the practice’s expenses and get rid of any excess costs that don’t lead to more revenue or enhance patient care and experience. Along those lines, it may make sense to examine the deductions you’re taking through the business and lighten them up in the two to three years prior to looking to sell.
- Freshen up the place. You don’t need to go crazy here, but the office should look vibrant, clean and organized. First impressions are everything, not only to your patients but also to potential buyers.
- Inquire about your buyer. You have relationships with your patients and probably want them to continue to get top-notch care after the transaction. Think about how you want to balance the financial part of the transaction and the quality of the dentist who will be taking over from you.
- Work with a professional, unbiased, reputable expert in buying and selling dental practices. Selling your practice is a multiple six-figure transaction, so interview at least three experts. Don’t just work with the first person you talk to, even if they end up being the best option. You won’t know until you talk to a few more.
Dental practice financial planning recap
Buying or selling a dental practice could be one of the most significant transactions in your career as a dentist and possibly in your life. Here’s a recap you can use as a checklist to prepare for pursuing this goal:
- Start by taking our Student Loan Planner Practice Ownership Quiz. It only takes a few minutes to see if you’re ready to make the jump.
- Clean up your personal finances by paying off any credit card debt and building up $30,000 to $50,000 in savings.
- Get a customized student loan plan that aligns with your career and practice ownership goals.
- Listen to the Student Loan Planner podcast in which Student Loan Planner founder Travis Hornsby interviews Dr. Zachary Kingsberg. Dr Kingsberg talks through his journey of becoming a practice owner and running it today. The interview provides great insights and ideas on how to run a successful dental practice.
- Start interviewing reputable, unbiased experts who can help you identify and analyze the ideal dental practice to purchase. Do the same if you’re looking to sell your practice.
I’d love to hear about more real-life purchases and sales of dental practices from you. Email me at [email protected] and tell me your story.
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