As dentists approach the latter stage of their careers, many face significant uncertainty about their financial readiness for retirement.
A large share of the dentists with whom I work are practice owners and have spent years paying off the debt from their education and the purchase of their practice. For these reasons, they have started saving for retirement later in life. For them, the prospect of a lucrative buyout from a dental service organization (DSO) seems like a great solution and an efficient way to make as much money as possible from the sale of their practice.
But what if you, as the practice owner, do not want to sell to a DSO? Perhaps you do not want to commit to a work-back period. You may want autonomy up until the handover and your retirement. Maybe the DSO does not offer the same level of flexibility as selling to a junior partner does. So, what can you do to ensure a comparable payout while supporting a younger colleague and retaining some of your well-earned autonomy?
Here, I offer an alternative to selling to a DSO by showing how you can use a cash balance plan to allow junior colleagues to set aside almost $3.5 million (tax deferred) that can go toward the purchase of your practice.
I have written previous articles for Dental Economics on the power of cash balance plans, one of which is “Cash balance plans: Six-figure tax savings for dentists,” but here is a broad overview.
The cash balance plan
A cash balance plan is a type of retirement plan that helps high-income dental practice owners catch up on savings. It is a type of defined benefit plan that provides a fixed monetary benefit at retirement, rewarding long-term employees and owners. Cash balance plans enable business owners to “catch up” on retirement savings, particularly beneficial for those who delayed saving due to significant expenses related to education and starting their practice. These plans offer annual contributions exceeding $300,000 for those over 60, and tax deferral on large amounts of income up to 45%.
Cash balance plans can be used alongside defined contribution plans, providing additional tax deferral opportunities and boosting retirement savings. This combo strategy can help dental practice owners maximize their retirement benefits and secure their financial future, but it can also be used to allow a younger partner to buy you out of the business.
Instead of relying on a DSO to come along and buy the practice, or leveraging their future with more bank debt, the younger partner can fund it through their own compensation over time. It relies on an agreement between the partners that a reduction of compensation and/or benefits of the younger partner will happen, and that this will be applied toward funding of the older partner’s cash balance plan account balance.
For instance, if the agreed-upon price is a million dollars, then it could be agreed that a contribution of $100,000 annually over 10 years or of $200,000 over five years is put into the cash balance plan. It does not need to be the entirety of the agreed purchase price, but it could be a portion of it. By starting the cash balance plan several years before you plan to sell, you widen the window for contributions and can allow the other partner to start at a lower and more modest level. This payment to the practice owner can be offered as a lifetime annuity option or a lump sum at retirement.
A real-world example
Every purchase and sale agreement is unique, but here is a real-world example to show how this works, in practice. In Figure 1, we have two partners without a cash balance plan, both maxing out their 401(k) while contributing an additional $46,000 a year in profit sharing.
In Figure 2, we see the younger partner has deferred $200,000 of their compensation into the cash balance plan of the older partner, while still contributing a healthy amount to their own retirement.
Another benefit to the purchaser is they get to put away a portion (or even a majority) of the practice purchase price on a pretax basis, thereby enjoying the tax savings. The selling partner as well will enjoy receiving this amount into their qualified cash balance plan pretax so that they can roll it out to their own IRA when the agreement is consummated. These amounts can vary significantly, and it is important to work closely with a CPA and financial advisor to make sure you get the most out of the benefits.
If you are looking ahead and trying to decide what the best way to transition from dental practice owner to retirement is, then this method of utilizing a cash balance plan as an alternative to selling to a DSO is one to keep in mind. Not only does it allow you great autonomy, but it gives you the opportunity to support younger colleagues and secure a comparable payout with tax benefits for both the buyer and seller.
Editor's note: This article appeared in the March 2025 print edition of Dental Economics magazine. Dentists in North America are eligible for a complimentary print subscription. Sign up here.
