What Every Dentist Needs to Know to Maximize Tax Benefits
We have the privilege of working with many dental practices through our business consulting, accounting, bookkeeping, and tax preparation services. And we estimate that a large percentage of dental professionals pay taxes in excess of what is required by law. Why? Because they do not take full advantage of all the opportunities provided by the U.S. tax code.
Think of it this way, if you pay more than 30 percent in combined federal, state, and self-employment taxes, your dental practice may be paying too much in taxes. Overlooked opportunities for legally decreasing taxes can cost many dentists tens of thousands of dollars. With the accumulation of all these overpaid taxes, in time some dentists can incur “damages” surpassing the million-dollar mark.
But you as dentists do have options to keep more of your hard-earned money. We know at Drilldown Solution that you likely pay a lot in taxes. You will be heartened to know that there are ways you can save more of your tax dollars legally.
We are proposing the following strategies designed to help you maximize your tax dollars and these recommendations are all within the letter of the law, statutes, and IRS codes. All that is necessary is adhering to specific protocols and treatment plans.
Maximize Medical Benefits
Medical benefits represent one of the most ignored and underappreciated areas when it comes to smart tax strategy. If you do not use pre-tax dollars to pay for medical expenses, you take a chance on paying a higher tax bill. You also decrease business profits by not maximizing deductible business expenses.
There is good news. If your dental practice is taxed as a corporation, you qualify as your own employee. This allows you to legally enjoy medical benefits and tax savings that are not available to sole proprietors or partnerships. Under this strategy, you should be qualified as your own employee so you can optimize the medical benefits.
Hire Family Members
You gain considerable tax advantages when it comes to the IRS-sanctioned tax strategy of employing your children. By doing so, this tax strategy can provide payroll tax deductions for hiring family members. At the same time, your children can generate income for college or other expenses. According to the IRS rules, children under 21 are not required to pay unemployment taxes, and children under the age of 18 do not pay payroll taxes, Social Security, Medicare, or unemployment taxes. Your kids also do not pay FICA or Medicare taxes on their wages.
You gain considerable tax advantages when it comes to the IRS-sanctioned tax strategy of employing your children. By doing so, this tax strategy can provide payroll deductions for hiring family members. At the same time, your children can generate income for college or other expenses. According to the IRS rules, payments to children under 21 who work for a family business are not subject to unemployment taxes. Payments to children under the age of 18 are not subject to any payroll (FICA) taxes, including Social Security and Medicare, either to you as the employer or your child as the employee.
So, if you operate as an LLC or sole proprietorship, you can benefit from this rule. For instance, if you were in a 32% tax bracket and if you pay your child $8,000, you can save as much as $3,000, depending on other factors. If your dental practice operates as an “S” Corporation or a “C” Corporation, some tax savings can still be found by hiring your child, but the payroll tax exemption is not available to these entity types. To maximize this tax savings strategy, steps can be taken to create within your business organization an LLC or partnership, solely owned by you as parents, and to structure payments to your child for services through that LLC.
So, if you operate as an LLC or sole proprietorship, you can benefit from this rule. For instance, if you pay your child $8,000, you can save $3,042, depending on your tax bracket, along with other factors. Furthermore, if your dental practice operates as an “S” Corporation or a “C” Corporation, you can create tax savings by hiring your child.
If you are an LLC, you can take advantage of family tax breaks. What’s more, if you operate as a husband-and-wife-owned LLC and both spouses have membership in the LLC, you probably have a partnership. You are still able to take advantage of the tax break for hiring family members. There is just the limitation that the family relationship must apply to all partners.
Choose the Right Business Structure
Dentists typically pay too much in taxes because they operate their dental practices under the wrong type of entity. Filing with the correct entity is both vital but also can be a complex process.
Dentists who operate out of “S” Corporations can benefit from considerable savings in self-employment taxes, as much as 15.3%. If your practice is owned by multiple practicing dentists, operating as a partnership may provide the greatest flexibility for you. If you own your building, having your practice pay rent to a third-party real estate management entity can provide some strategic benefits. Ultimately, the “right” business structure is not necessarily the same for every dentist and is something that can be unique to you and may encompass a hybrid combination of several entity types.
Care should be taken in deciding your entity type, and we can help you as you consider this important decision.
We recommend that your dental practice be managed under more than one entity. Although this can make things more complicated, the possible tax benefits, including tax savings, usually more than make up for the difficulties involved. One benefit of corporate structures is income shifting, which is a strategy that can legally decrease your tax burden by reducing taxable business income. For instance, your dental practice could establish two corporate entities with different year-ends, such as an “S” Corporation with a December 31 year end, and a “C” Corporation with a June 30 year end.
Under this scenario, the “S” Corporation would serve as your main business and receive all gross business income. Your “C” Corporation will receive money from the “S” Corporation to pay for advertising, marketing, and management expenses. For this strategy, the core business earning $100,000 in gross income could reduce taxable income in the “S” Corporation.
What income shifting does is allow you to deduct most of the income from the “C” Corporation simply by using the tax code deductions guide. Income shifting can make it possible for your dental business to save up to 15.3 percent in taxes over a sole proprietorship or partnership in which all income is subject to self-employment taxes.
Choose the Correct Retirement Plan
For many dentists, it can be challenging to save for retirement. Retirement plans are designed to create financial security and preserve lifelong living standards during your golden years. The first consideration for creating a retirement plan is a budget. Decide how much you want to contribute every year, and if you have employees, determine what the total budget is for the plan.
Dental practices would do well to consider profit-sharing plans that offer greater flexibility in annual contributions. For instance, if you do not have employees, a profit-sharing plan that includes a 401 (k) provision, enables your contribution in any given year to be from zero to as much as $58,000 (or $64,500 if you are 50 years of age or older). A defined benefit plan has even greater flexibility in annual contributions and has contribution limits much higher than the contribution limits associated with other profit-sharing plans.
For some dentists, taking advantage of tax savings now through a traditional retirement plan, with deferred taxation on retirement contributions, may not be a strategic priority. On the other hand, planning for tax savings down the road through a Roth retirement account, funded with post-tax dollars and eligible for tax free growth, might make more sense for you.
Given the many different types of retirement plans that exist, everything from a 401 (k), profit sharing, defined benefit, SEP, and a simple IRA, how do you go about deciding which plan is right for your dental practice?
Dental practices would do well to consider profit-sharing plans that offer greater flexibility in annual contributions. For instance, if you do not have employees, a profit-sharing plan that includes a 401 (k) provision, enables your contribution in any given year to be from zero to as much as $56,500 – if you are 50 years of age or older.
If you are wondering how you retain a minimum amount of taxable income, while also maximizing the retirement plan contribution, here is what you should know. With a defined benefit plan, you will not be subject to $51,000 or $56,500 contribution limits. Your practice only has a limit on the funding of the monthly retirement income you provide to yourself once you begin receiving your retirement benefits.
Choose Drilldown Solution for Your Dental Tax Preparation Needs!
At Drilldown Solution, we are your one-stop-shop for all financial management and business consulting for your dental practice. When you partner with Drilldown Solution, you gain access to exceptional accountants and dental CPAs who can give you expert guidance and advice on all tax planning and tax preparation issues.
We know how to devise a tax strategy aimed at reducing liabilities and maximizing profits for your dental practice. Our team of tax experts will analyze your full financial picture and design a personalized tax plan to preserve your income.
Drilldown Solution offers a full suite of financial services that include bookkeeping, accounting, tax preparation, and dental consulting. We have the expert team to help any dental practice thrive, even under the current COVID-19 pandemic circumstances. We accomplish this with a three-part system comprised of patient-experience excellence, financial focused operations, and accountability.
Our goal at Drilldown Solution is to put your dental practice in the best financial position possible, utilizing proactive processes and personal care!