Should a Dentist Lease or Buy the Office?

The question sounds like a single choice, but it combines a practice decision with a real estate investment. As a practice owner, you are asking where you want to be and how much control you need. As an investor, you are asking whether this particular property is a good use of your money compared with paying down debt, adding equipment or investing somewhere else.

A building can be right on one count and wrong on the other. An ideal location at a poor price is still a poor investment, and a bargain building in the wrong place can hurt the practice. Evaluate each one separately before you bring them together. Note that this guide is about the office, not about buying or selling a practice.

The appeal of ownership is mostly control. You decide on improvements, you are not subject to a landlord's relocation clause or renewal terms, and no landlord can decline to renew or insist on restoration. Your location, and the goodwill attached to it, is protected for as long as you keep the building.

• Stability of occupancy cost. A fixed-rate loan can make the debt portion predictable, though taxes, insurance and repairs still change.
• Equity. Mortgage payments can build equity over time, and the value may rise or fall.
• Freedom to build. You can design for your own equipment and add operatories without landlord approval, subject to codes.
• Possible rental income. If the building has extra space, a tenant can help with the cost, subject to loan rules.
• An asset at exit. You might sell the building with the practice, or keep it and collect rent from the buyer.

That dentist compared both paths at once, which is the right instinct. A purchase is not always possible, but asking can reveal options, and a dental attorney writing in Dental Economics notes that landlords sometimes grant tenants a purchase option or a right of first refusal.

The case for leasing is flexibility and focus. Your capital stays in the practice, you take on no property-market risk and, depending on the lease, someone else handles major building problems. If the neighborhood changes, the practice outgrows the space or a partnership ends, you have a way out at the end of the term.

Leasing suits a dentist who is early in a career, expects to grow or merge, is not yet sure about a neighborhood or is planning to sell within a few years. Leases have their own risks: rent escalates, renewals can be expensive, and a landlord can make life hard at exactly the wrong moment. Many of those risks can be managed through renewal options, assignment rights and a limit on the personal guarantee. A strong lease gives much of the security people think only ownership can provide.

Financing often decides whether buying makes sense, since it shapes how much cash you must put in. Conventional bank loans are one route. SBA-backed loans are another, and the SBA says its 504 program provides long-term, fixed rate financing for major fixed assets, including buying, building or renovating, through Certified Development Companies. The SBA page lists 10-, 20- and 25-year maturities and basic eligibility tests, such as being an operating, for-profit business of qualifying size. Program terms can change, so check them with a lender.

These programs are designed for owner-occupants, not investors. Under 13 CFR 120.131, SBA financing for acquiring an existing building requires the borrower to occupy at least 51 percent of the rentable property, and may lease out up to 49 percent. For a new building, the borrower generally occupies at least 60 percent to start and may permanently lease up to 20 percent, with plans to occupy the rest over time. Those limits matter if the building you like has more space than you need.

Before you fall for a building, ask whether its size fits the occupancy rules of the loan you plan to use, and whether a lender can finance the practice and the real estate at the same time.

Many practice owners hold real estate in a separate entity. A law firm guide says it is better to own through a separate legal entity for tax and liability reasons, and the SBA rule addresses an Eligible Passive Company that leases to an operating company. Ask your attorney, CPA and lender how to structure it. If partners own the building and others do not, or if the rent comes from a party in a referral relationship, ask healthcare counsel as well.

Comparing a mortgage payment with a rent figure gives a misleading answer, because the two figures do not cover the same things. Use real numbers from a real building and a real lease.

1. Pick a period, such as the time you expect to remain in practice at this site.
2. For leasing, add rent, pass-through costs, build-out net of any allowance, and restoration.
3. For buying, add down payment, closing and financing costs, loan payments, taxes, insurance, maintenance, reserves for roof and HVAC, and build-out.
4. Have your CPA estimate after-tax results for both, including what happens on a sale.
5. Estimate the building's value at the end using a range and not a single hopeful number.
6. Consider what else the down payment could do for the practice.

• ✓Are we confident in this location for the long term?
• ✓Do we expect to add partners, sell or merge, and would owning help or complicate that?
• ✓After a down payment, will the practice still have enough working capital?
• ✓Are we prepared to deal with repairs, tenants and environmental diligence as owners?
• ✓Would a future buyer of the practice want the building, a lease from us or neither?
• ✓Could a strong lease with options and a purchase right meet most of our goals?

There is also a middle route: lease now with a purchase option or right of first refusal, or lease until the practice is ready to buy. TAG represents tenants and buyers, so we can run both a lease search and a purchase search for the same practice and show the two side by side, while your CPA and attorney advise on tax and structure.