Sale-Leasebacks for Medical and Dental Practices

Most practice-owned buildings are not owned by the practice itself. The physicians or dentists hold the property in a separate entity, often a limited liability company, which leases the building to the practice. The owners of the real estate entity may be the same people as the owners of the practice, or only some of them.

This structure works well when it is set up. Over time the two groups drift apart. Senior doctors own most of the building, younger doctors own most of the practice, and every decision about rent, repairs or expansion puts partners on opposite sides of the table. A sale-leaseback replaces the internal landlord with an outside investor, and the practice becomes a tenant under an arm's-length lease.

Real estate ownership is one of the harder parts of bringing on a new partner. A young physician or dentist already carrying education debt is asked to buy into the practice and into a building that may have appreciated substantially since the founders bought it. Some decline, which leaves the building owned by a shrinking group.

Retirement creates the mirror image. A departing doctor wants to be paid for a share of the building. The remaining owners must find the cash or take on debt, or else the retiree remains a landlord to a practice in which he or she no longer works. In either case the rent the practice pays to the owner group needs to be defensible.

Selling the building to a third party resolves both. The owners of the real estate entity receive their shares of the proceeds at once, the buy-in for future partners covers the practice only, and the rent is set with an unrelated landlord.

Before marketing the property, confirm who holds title, what the operating agreement requires for a sale and whether every owner agrees. Divided ownership groups are a common reason these transactions stall.

Many practices today are approached by hospitals, health systems, larger groups or management organizations backed by private investors. These buyers often want the clinical operations and not the real estate. The doctors are then left deciding what to do with the building.

• Keep the building and lease it to the acquirer. The doctors become landlords and collect rent, with the acquirer as tenant. This keeps the asset but ties its value to a tenant the doctors no longer control.
• Sell the building to an investor before or alongside the practice sale, with the practice or its acquirer as tenant under a long lease.
• Sell the building to the acquirer along with the practice, if the acquirer wants it.

Each path has different regulatory, tax and negotiating consequences. The lease terms matter in all of them, because the acquirer will review the lease as part of its diligence and may ask for changes. Sequence the real estate decision with the practice sale; do not treat it as an afterthought.

Leases and property sales in healthcare are financial relationships, and federal law regulates financial relationships among parties who refer patients to one another. This guide is not legal advice, and the analysis depends on who the parties are. What follows is only enough to explain why counsel must be involved.

The Centers for Medicare and Medicaid Services describes the physician self-referral law, commonly called the Stark law (Section 1877 of the Social Security Act, 42 U.S.C. 1395nn), as prohibiting a physician from referring Medicare patients for certain designated health services to an entity with which the physician or an immediate family member has a financial relationship, unless an exception applies. A financial relationship can be an ownership interest or a compensation arrangement. CMS also notes that its regulations prohibit per-unit-of-service and percentage-based formulas for setting rental charges for office space.

The Office of Inspector General of the Department of Health and Human Services describes the federal Anti-Kickback Statute (42 U.S.C. 1320a-7b(b)) as a criminal law prohibiting the knowing and willful payment of remuneration to induce or reward referrals for items or services paid for by federal healthcare programs. The OIG explains that remuneration includes anything of value and gives free rent as an example. It also notes that safe harbors exist, including ones addressing rental agreements, and that an arrangement must fit squarely within a safe harbor to be protected by it.

These rules can come into play when the buyer or landlord is a hospital, health system or other party that gives or receives referrals, when physicians keep an ownership interest in the landlord, or when the practice subleases space to other providers. A healthcare attorney should review the purchase price, the rent, the lease terms and the identity of the buyer, and should advise on whether an independent opinion of fair market value is needed. State law may add further requirements.

Medical and dental space is expensive to build and hard to move. Plumbing to every operatory, radiology shielding, sterilization rooms, medical gas, surgical suites and accessible layouts represent a large investment. The lease must protect it.

• ✓Does the permitted use cover everything we do now and services we may add, such as imaging, surgery or a laboratory?
• ✓Is the term, with renewal options, long enough to justify our build-out and equipment?
• ✓Can we add or remove physicians, change ownership of the practice or merge without the landlord's discretionary consent?
• ✓Can the lease be assigned to a hospital, group or management organization that acquires the practice?
• ✓Can we sublease or share space with other providers, and has counsel reviewed how?
• ✓Is the landlord's right to enter the premises limited to protect patient privacy and records?
• ✓Who is responsible for medical waste, radiology equipment and removal of specialized improvements at the end of the term?
• ✓Are after-hours access, HVAC and parking adequate for patient care?
• ✓Are the doctors asked for personal guaranties, and if so, are they limited in amount or time and released when a doctor retires?

Guaranties deserve particular care. A retiring doctor will not want to remain liable for a lease that runs long after he or she has left practice.

A practice sale-leaseback needs a real estate attorney, a healthcare regulatory attorney, the practice's CPA and a real estate advisor who represents the practice as seller and tenant. The CPA should estimate the tax each owner will owe on the sale, since owners who joined at different times may have very different results.

TAG represents medical and dental practices in clinical real estate, including sale-leasebacks. We evaluate the building, identify suitable investors and negotiate both the price and the lease on the practice's behalf, coordinating with the practice's healthcare counsel so that business terms and regulatory review move together.