Buy-Sell Agreements: Narrowly Defining a For-Cause Termination Under an Owning Dentist’s Employment Agreement

In our previous article entitled Understanding the Importance of Having a Buy-Sell Agreement between Partners in a Dental Practice, we noted that a properly drafted buy-sell agreement will address what happens to a doctor’s ownership interest in the event of certain “triggering events,” such as death, permanent disability, bankruptcy, divorce, retirement, or termination of employment. Dental practice partners who are entering into a buy-sell agreement should carefully consider how each of these triggering events will be defined under the agreement. For instance, will a doctor’s permanent disability be determined by the doctor’s regularly attending physician, or by some other method using independent physicians selected by the other partners? At what age will a doctor be permitted to retire and have his interest bought out by the remaining doctors? Under what circumstances can an owning doctor’s employment by the practice be terminated? These are all important questions that need to be answered before entering into a buy-sell agreement. But, for minority owners, or for partnerships with at least three owning doctors, termination of employment is a triggering event that should be considered with extra care.

Narrowly Defining a For-Cause Termination

Most buy-sell agreements will require an automatic buy-out of a partner’s ownership interest in the event the partner’s employment with the dental practice is terminated “for cause” under the partner’s employment agreement. The next logical question is, what constitutes a for-cause termination? Generally speaking, the dental attorneys at Nardone Limited advise all owning doctors to have a written employment agreement in place, which identifies specific actions that would allow the practice to terminate the partner’s employment for cause. Since a for-cause termination would result in an automatic buy-out of the terminated doctor’s ownership interest, the list of actions constituting a for-cause termination should be very narrowly defined and unambiguous, and should only include egregious acts. The following actions are simply examples of for-cause events that are often included in an owning dentist’s employment agreement: the doctor ceases to hold a valid and unrestricted license to practice dentistry or dispense narcotics; the doctor violates the restrictive covenants under his employment agreement; the doctor is convicted of, or pleads guilty to any misdemeanor related to the practice of dentistry, or a felony of any nature, as well as any crime involving fraud, dishonesty, or theft; the doctor’s abuse or illegal use of drugs.

Nardone Limited Comment: Note that if the practice is a limited liability company or general partnership under state law but is taxed as a partnership for federal tax purposes, the members/partners would enter into a member services agreement with the practice, as opposed to an employment agreement, and would receive guaranteed payments or draws instead of W-2 wages.

Protecting Minority Owners

Since many partnership agreements require a majority vote of the partners to terminate another partner’s employment with the practice, including a narrowly defined list of “for-cause” events under the partners’ employment agreements is imperative to protecting a minority owner. For instance, consider a partnership with three equal partners, where two of the partners have a falling out with the third partner and want to force him out. If a for-cause termination is broadly defined under the partners’ employment agreements, the two partners could use that wide discretion and vote to terminate the third partner’s employment for cause—even if the third partner’s actions were not objectively harmful to the practice. If the partners’ employment agreements instead narrowly defined a for-cause termination, the majority partners would have no good faith basis for terminating the third partner’s employment and forcing a buy-out of his interest. Thus, to ensure that a minority owner is protected from a forced buy-out, it is critical to limit and specifically define for-cause events under the employment agreement.

Contact Nardone Limited

If you are starting a new dental practice with a partner, or are buying-in to an existing dental practice, the experienced dental attorneys at Nardone Limited will assist you and your practice to ensure you are setting the proper legal foundation for a successful partnership. If you would like more information regarding your dental practice partnership, contact Nardone Limited.