The Invisible Debt: Is a Shareholder Loan Sabotaging Your Practice?

Announcer:
Hello, everyone. Welcome to the Millionaire Dentist Podcast brought to you by Four Quadrants Advisory. On this podcast, we break down the world of dentistry finances and business practices to help you become the millionaire dentist you deserve to be. Please be advised, we do speak with an honest tongue and may not be safe for work.

Casey Hiers:
Hello, and welcome. This is Casey Hiers back at the Millionaire Dentist Podcast in studio with a sickly Jarrod Bridgeman.

Jarrod Bridgeman:
Casey, yes, I don't feel super great today. My son's also home from school, not feeling well. I think it's just this: here in Indiana, we've had a couple days in a row that were 70 degrees, and then it was raining, and now it's snowing and cold, and it'll be 70 degrees again this week. It's just the constant I think fluctuation in temperatures and types of weather we're having right now that my body's like, "What's happening?"

Casey Hiers:
Yeah. When you go from feels like 2 to 70 in a five-day, six-day period.

Jarrod Bridgeman:
The other day, I felt so bad. I checked the weather before I got my son's clothes together; he's in second grade. And I was like, "Oh, the high will be 56 today, so I'll put him in shorts, but also a hoodie because it's going to get warmer later." The high of the day was at midnight; it was only going to get colder. That was the day it was snowing really bad all day long.

Casey Hiers:
Father of the year.

Jarrod Bridgeman:
Yeah. So I got my award, which is nice.

Casey Hiers:
Well, for our listeners, Jarrod is a very strapping middle-aged man. And I walked in, and I said, "You look like crap." And he goes, "I feel like crap."

Jarrod Bridgeman:
Yeah. So I look how I feel.

Casey Hiers:
Yeah. Hey, you're going to play hurt today.

Jarrod Bridgeman:
I am. So I'm asking you today to really, for the first time ever, carry me.

Casey Hiers:
Carry the podcast. No, that's fair. That's a big responsibility.

Jarrod Bridgeman:
It is, it is. One of the things that ... We were talking with Brogan Baxter, our COO, and trying to come up with some ideas of what we could talk about today, and he had mentioned shareholder loans. And it kind of spurred out of a situation we had seen with somebody who had a rather, rather large shareholder loan that they didn't even know about.

Casey Hiers:
Shareholder loans.

Jarrod Bridgeman:
Yes.

Casey Hiers:
We actually talk about those in our course. We get into a little more detail with shareholder loans, and it's a unique topic.

Jarrod Bridgeman:
It's something, not having owned my own business in that kind of sense, that I knew what it was, what it meant, what it was for, and I feel like there's still quite a few people out there, even in the dentistry world, who are unaware.

Casey Hiers:
Facts.

Jarrod Bridgeman:
Casey, can you help me explain to our listeners out there, and even to myself, what the hell is a shareholder loan?

Casey Hiers:
Yeah, that's a fair question, and I've spent some time with our director of accounting, Steve Levy-

Jarrod Bridgeman:
Pipes?

Casey Hiers:
Pipes, the nickname. And educated myself on it because a lot of practice owners don't know what they are, and when we get into them in our presentation, one time somebody said, "Can you explain what it is," because they weren't even sure. Which is fair, right?

Jarrod Bridgeman:
Yeah.

Casey Hiers:
Trained in dentistry, not in tax code. So, the best way, this is the shareholder loan for dummies, Cliff Notes version, let me summarize it. Think about equity. If you have a home and you have equity in your home, that's a good thing. In your business or in your practice, if you have equity in your practice, that's the first thing where there's an option for your tax professional to create a shareholder loan if there's equity in your practice. So let's get into the why.

Jarrod Bridgeman:
Yeah. Why would this be created, and why would it be potentially needed?

Casey Hiers:
Yeah. This is a kind of worst-case example, and it's also the most common example. You don't have a proactive accountant who has excellent tax strategy and looks forward, and is not just a historian. And they do your taxes, and they're like, "Hm, they're going to owe $80,000 in taxes, that's not good." Above what they've already paid.

Jarrod Bridgeman:
Yeah, and that looks bad on me.

Casey Hiers:
Yeah. So now, let's go look at tax basis, let's look at things. Is there equity in the practice? Because if there is, the CPA can create what is called a shareholder loan, which basically, you're borrowing money from your practice. Again, I'm dumbing it down; it's a much more complicated technical thing. But there's equity in the practice, do I tell my practice owner that, "Hey, I need you to stroke an $80,000 check?" Ouch. Or, do I create a shareholder loan where you're borrowing against your practice and it's housed in a tax document, and the practice owner doesn't feel lit. Does that make sense?

Jarrod Bridgeman:
It makes sense. The thing that is an odd thing for me is the fact that they are able to do this without your knowledge. How are they able to? They're not the ones that own the loan, that own the business.

Casey Hiers:
Yeah, good point. So on the timeline of this, we'll jump back and forth. So I get that a lot, and we'll get into some more technicals. But when somebody finds out they have a shareholder loan, they can get frustrated. Well, how do we know this? We find about 35% of practice owners have a shareholder loan, and they don't know about it. Because when we are engaged in our mutual vetting process, we are analyzing an incredible amount of data, one of those data points being taxes. So we'll go through everything, and we'll speak with a practice owner and spouse, and they'll tell us about this $150,000 shareholder loan.

Jarrod Bridgeman:
Say what?

Casey Hiers:
And there's a pause.

Jarrod Bridgeman:
Yeah.

Casey Hiers:
And then typically the spouse goes, "Yeah, what is that?" And the practice owner goes, "Oh, yeah, yeah. I think it has something to do with that," fill in the blank, XYZ. They think it has something to do with something, and then they're like, "I don't really know. What is it?"

So, to get back to your question, they don't know about it. 35% of practice owners have them, and most of them do not even know they have it. Well, that sounds illegal. It's not. Did you sign your tax return? "Yeah." Well, guess what? You might not know it, but if you signed it, there is nothing technically illegal or whatever, whatever you word you want to use.

Jarrod Bridgeman:
Right. Now, it may not be morally the best thing ever, but it's not illegal.

Casey Hiers:
Well, it's a huge red flag. If you have a shareholder loan and you know about it, that's a problem. What's the strategy to get rid of it? If you have a shareholder loan and you do not know about it, yikes.

Jarrod Bridgeman:
Yeah.

Casey Hiers:
Huge red flag.

Jarrod Bridgeman:
Well, let me ask you. Without just coming straight out and asking your accountant about it, how do you even know if you have one?

Casey Hiers:
Well, I tell people at our course, if you hear nothing else tonight that I say, email your CPA tonight or tomorrow very simply, "Hey, I don't have a shareholder loan on my balance sheet, do I?" Hopefully the reply is, "No. What are you talking about? Why are you asking?" Anything less than that, there's smoke.

Jarrod Bridgeman:
It's like when you ask somebody a question, and they ask you a question back because they're trying to think of their answer. Do I have a shareholder loan?

Casey Hiers:
What do you mean?

Jarrod Bridgeman:
Yeah. Oh, boy.

Casey Hiers:
Yeah. So it's really important to know that.

Now, some people are maybe a little more fluent with financials and tax returns, and things like that. It's very easy to find if you have one besides asking your CPA. Unfortunately, some people don't have a great communication with their tax team. So if you want to find that out, first off, if your entity structure is an S corporation or an S corp, it's very simple. It's on your Form 1120-S, Schedule L, Line 7 loans to shareholder. So if the beginning of the year has anything greater than zero, that's not great. But if the end of the year has zero, okay, that's good. That means it's been addressed.

Jarrod Bridgeman:
Right.

Casey Hiers:
But the question then is, "Well, why did I have one at the beginning of the year? What transpired?" So if both are zero, that's great, you don't have one. If both have a number on them, like the one I'm looking at, $236,574 at the beginning of the year. End of the year, $190,283. That is a shareholder loan that somebody did not know about. That is frightening.

Jarrod Bridgeman:
That's huge. And again, as we've said, they don't know about it, so they don't know why it's there. It's not anything tangible that they really got. They maybe took out a loan to buy a new piece of equipment, this is something entirely different.

Casey Hiers:
No, they're unaware of it. Again, their patients come to them because their patients trust that they're going to produce wonderful dentistry or orthodontia or oral surgery, or whatever it is, and most practice owners execute that. Most practice owners trust that their tax professionals and CPA team have their back and they're doing-

Jarrod Bridgeman:
What they're supposed to be doing.

Casey Hiers:
... what they're supposed to be doing. So, unfortunately, again, about 35% of people have these and are unaware of them. You can find them on your own returns, or hopefully, you're communicating well with your tax team, and you know about them. Again, if you know about them, that's better than not, but why the hell is it there?

Jarrod Bridgeman:
This is what it's reminding me of is when I was a kid, and my room was a mess. And my mom was like, "Hey, you need to clean your room," and so I would just take everything and shove it into the closet and close the door. And then later on, my mom would open the door, and everything would fall out.

Casey Hiers:
Yeah.

Jarrod Bridgeman:
That's kind of is the vibe I'm getting from this, that it's being swept under the rug, and the accountant is hoping that maybe this next year, you'll be making more money, and they can work on paying that down.

Casey Hiers:
One of my best buddies, when he was a kid, his mom would want him ... Remember the old vacuums and sweepers for carpet. Would ask him to vacuum or sweep the carpet, and didn't want to. So would take the vacuum and not being on, just make the lines on the carpet so it looked like that they did it. Well, nothing was done, dirt was not removed, it was simply moved, and that was a problem.

Jarrod Bridgeman:
What's so funny about that is he's still doing the same amount of work.

Casey Hiers:
Yeah. So, unfortunately, if tax professionals aren't doing their job and they don't want to give bad news, then they create this shareholder loan hoping that they're not asked about it, and then, "Down the road, we'll figure it out." But if you have one and you know about it, that's better than not.

But then, what is the plan to get rid of it? Why did it happen in the first place? How can we eliminate that poor standard of care in accounting so that that's not in play? And again, why do these happen? There's a variety of reasons, but let's say you had a better year, you grew, it wasn't accounted for. You have a historian who's just looking at previous years' taxes and planning in the rearview mirror, versus looking forward. So then, if you've grown or your tax liability has increased, and that wasn't planned for, then you have this issue, shareholder loan. And sometimes, they can be on there year, after year, after year, after year because there's no plan. And unfortunately, sometimes they keep getting added to because, again, piss-poor accounting is going to compound on itself, and it can be really a bummer.
The worst thing that I have seen is an older practice owner who has 150, $200,000 that has continued to go up. Number one, if you have equity in your practice, technically, it's above board with the IRS. If it's not addressed year after year, after year, they may inquire, which is never great. But if you go to sell your practice-

Jarrod Bridgeman:
I was going to ask about that, yeah.

Casey Hiers:
And then, we've talked about this before. You go to sell your practice, it's your baby. You probably value it more than what you're going to get; you get a little bit less. Uncle Sam takes his cut. And then, "Oh, by the way, you need to get this-"

Jarrod Bridgeman:
"You need to square this up."

Casey Hiers:
"You need to get this six-digit shareholder loan squared up, off." That's going to come from the funds you got. And you look up, and this practice that you were hoping to get a million dollars out of, all of a sudden, you got 400 when you pay the shareholder loan off and Uncle Sam.

Jarrod Bridgeman:
And you've been there for 40 years.

Casey Hiers:
Oh, you've built this thing up, you've banked on this for your retirement, and it's maybe a year or two of funds.

Jarrod Bridgeman:
Yeah.

Casey Hiers:
What a kick in the teeth.

Jarrod Bridgeman:
Honestly, I think early on, when I first started working for this company, and I heard the term shareholder loan, I think the confusion, and this might just be me, but it sounded like a, and I know we're talking about S corps, but actual corporations where there's multiple owners. So when I think of, "Oh, I own my own business, I'm the only owner," you're still a shareholder, you own 100% of it, but I think that's where I think my early on confusion was. It's like I know what shareholders are in terms of Walmart, Apple, and things like that. I don't know if that's a potential misunderstanding that some other people might fall into as well.

Casey Hiers:
Well, it's technical jargon. In the industry, there's going to be verbiage and jargon and technical terms that sometimes can cause confusion, and I think this is one of them. And again, it comes back to you're trusting your financial team, in this case specifically your accounting tax team, to do the right things, and then maybe they don't.

Now, that's the bad one. Now, there's also loan from shareholder. We see those sometimes where the practice needs an infusion of cash, and so basically, the practice owner takes personal funds from their account and puts them into the practice because maybe they're not going to hit payroll, or just they need more cash in there. That's not great, but the bad one is loan to shareholder.

Jarrod Bridgeman:
Are people more aware of the loans from a shareholder?

Casey Hiers:
Yeah, because they-

Jarrod Bridgeman:
It's out of their own pocket?

Casey Hiers:
Because they've taken the time to write that check and they're like, "Oh, yeah, I had to infuse $50,000 in there and at some point I'll get it, maybe in a distribution or an owner draw." That one's not as bad.

Jarrod Bridgeman:
Which, by the way, you can find that on the same form, 1120-S, Schedule L. It's number 19 on there.

Casey Hiers:
Line 19-

Jarrod Bridgeman:
Yes, sir.

Casey Hiers:
... on the Schedule L. Yeah, no.

Jarrod Bridgeman:
Yeah.

Casey Hiers:
We're getting specific here. But yeah, that one, they typically know about. But again, that just points to maybe not tax problems, that's cashflow problems in the practice.

Jarrod Bridgeman:
Right.

Casey Hiers:
That's not good either.

Jarrod Bridgeman:
Yeah.

Casey Hiers:
If, as an owner, there's a lot of reasons for it.

Jarrod Bridgeman:
It could have been indirectly caused by tax issues, in terms of maybe they didn't do the shareholder loan thing, but you had a huge tax surprise-

Casey Hiers:
Yeah.

Jarrod Bridgeman:
... that really screwed you.

Casey Hiers:
Yeah. Really, for today, you talk about poor tax management or cashflow challenges in a practice, those are two huge things that practice owners will spend a career trying to fix, and it's really hard to do it on your own. And it's disheartening, again, when you like your accounting team, and they seem nice, and maybe they're a patient, or a friend, or a neighbor, or a relative, and then you find out these things, and it's infuriating. But they probably, your tax professional thought, "Well, I can tell them to write this big check, or this is a less infuriating way to do it." Again, it's a red flag; there's a lot of smoke there. You're getting a reactive tax strategy or no tax strategy, and it's going to cost you. It's rough.

Jarrod Bridgeman:
What if they don't have their taxes yet to even look at this form?

Casey Hiers:
Well, yeah, that's the other part. Filed late, extended. We talk about this on other episodes. But again, all those things are signs that the standard of care that you are receiving-

Jarrod Bridgeman:
That you should be getting, yeah.

Casey Hiers:
... is poor. But yeah, again, this is just one of dozens, and dozens, and dozens and dozens of areas that practice owners need to get right to have good tax strategy, and have better cash flow, and have more money, and just be more successful. There's so many headwinds a practice owner faces, and at least with tax, they trust that it's going to get handled when a lot of times it doesn't.

Again, third-party oversight, another set of eyes, people tell us that all the time. "Hey, I would like to see what you guys find." And that's part of our mutual vetting process is we look at a lot of things. I have to be judicious of the time that our team is, who we're looking at. A bunch of tire kickers, not interested. If somebody's an achiever that is not going to tolerate or put up with this anymore, then we will look at that. But ultimately, having another set of eyes on things really can pull the veil back, and people are like, "I had no idea."

Jarrod Bridgeman:
And even if it's in a positive way. We're confirming, potentially, that your accountant is doing its job, either way. So that's why I think it's so fascinating to learn more about this and important for practice owners out there across the country, when we come to your city, to come and see you and your team speak and see more of these numbers. And see them on screen, not just hear us talk about it, but seeing it up on the screen and seeing the passion that you guys have for educating dentists out there.
So that's why I love ... You just got back from Bozeman, which I heard was a lovely flight and time for you. There was weather issues out there, huh?

Casey Hiers:
Well, a couple things on that. Number one, I don't love to fly in a near-crash landing because of 80-mile-per-hour wind gusts. I won't get into that today. But we had people that drove from one state to another and drove two hours, three hours one way to come to our course. And at the end of it, they came up, awesome people. But they're like, "Casey, everything you talked about is me."

Jarrod Bridgeman:
Yeah.

Casey Hiers:
Maybe on our next one, we'll talk about that in a little more detail. But again, you're a great clinician, yet you're settling for poor accounting. Be better.

Jarrod Bridgeman:
Exactly.

Casey Hiers:
Don't accept it.

Jarrod Bridgeman:
Casey, thank you so much for stopping by today and coming in and helping me out with this even though I'm under the weather. If you're looking forward to or need to find out any more of our events that are coming up soon, please visit our website. We've got a whole bunch of them listed, a lot of them have a button where you can register now. Oklahoma City is sold out right now. Tulsa, we have a few spots left. So if you're out in the OK area, please, please, please come. Other than that, thank you again for stopping by, and hopefully, I'll see you after I take an eight-hour nap.

Casey Hiers:
Sweet dreams.

Announcer:
That's all the time we have today. Thank you to our guests for their insight and for sharing some really great information. And thank you to you, the listener, for tuning in. The Millionaire Dentist Podcast is brought to you by Four Quadrants Advisory. To see if they might be a good fit for you and your practice, go on over to fourquadrantsadvisory.com and see why, year after year, they retain over 95% of their clients. Thank you again for joining us, and we'll see you next time.