Practice Continuation Agreements: Payment Methods

Included in This Chapter:

The most common method of paying for an accounting practice is to spread the payments over a period of five to seven years. While some agreements may call for payments in as few as three years, and others in as many as 10, outright cash payments for an accounting practice are uncommon unless severely discounted. (Remember, there is no guarantee that the successor will be able to retain all clients.) Additionally, down payments are usually between 10 percent and 20 percent.

In most cases, you must be willing to agree to installments in order to get a good price, as the successor may have minimal available funds or be unwilling to make a full commitment to the terms of the agreement until they are able to ensure the retention of the majority of your clients. Make it as easy and financially undemanding as possible for the successor to pay for the practice. Remember, the successor must pay your staff immediately, long before receiving fees from the clients transferred. The timing of all payments, and penalties for failure to pay, should be specified in the agreement.

Group Payment Method
Several state society emergency assistance plans, used in the event that no practice continuation agreement exists, provide for a payment over time of 100 percent of gross fees. For example, some plans require the buyer to pay 25 percent of fees earned in each of 4 years; others ask for 20 percent in each of 5 years. To protect the buyer, a ceiling is placed on the gross fees received from each client. To expedite the process, the ceiling established is either the annual fee from the 12 months prior to the time of transfer or the average annual fees collected by the buyer during the payout period, whichever is lower.

If your successor is successful in expanding the practice, the first ceiling method is used because he or she, rather than your estate, has the right to the additional fees generated. However, if one or more of your clients are lost, the second ceiling method is used because your successor cannot be expected to pay you for fees that were never earned.

This payment method is ideal for group plans. Although the thought of group negotiations may cause some concern, it is relatively easy with this type of formula. No one is likely to assume an uncompromising position because each group member realizes that his or her estate may be the first to require help.

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Client List Method
The payment method that protects both you and your successor is one that is directly related to the client list and the values assigned to each individual client. These predetermined client values (as discussed here) are used to create a payment ceiling that reflects the maximum to be paid not only for the entire practice, but also for individual clients. Such a method is buyer-friendly and averts future confrontations over client fee collections or terminations. It requires a separate accounts-receivable subsidiary ledger to handle the administration of collections for each account, as demonstrated below:

Illustration of Collections/Payments on Clients
Subsequent to Purchase

The hypothetical purchase is based on a 5-year payout, with 20 percent of cash collections paid to your estate from billings for services rendered subsequent to the purchase of the practice. The maximum price to be paid for the practice is $25,000.

Client A (value $1,000) terminates after the second year. Because no future collections will be received, only $250—the amount collected during the 2-year period—is paid on this client. No further payments are required.

Client B (value $5,000) pays out completely over the 5-year period, and collections are received by your estate at 20 percent per year.

Client C (value $15,000) pays off its assigned dollar value in 3 years. Your successor does not owe any of the increase in fees generated from this client subsequent to the purchase. However, the increase in fees causes the account to be paid early because the agreement specifies payments of 20 percent of fees collected.

Client D (value $4,000) is not paid off in full at the end of 5 years. Another payment is due when the collections are made by your successor in the 6th year.
Most practice continuation agreements should provide for the percentage of collections due to be paid by the 20th day of the month following the previous month's collection period. The separate accounts-receivable subsidiary ledger set up for administrative purposes should facilitate an audit, if required. This issue must be covered in the agreement. It is also recommended that a separate interest-bearing bank account be maintained to segregate these transactions from others in the successor's practice that need to be kept confidential.

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