I recently bought a house. Without question, once my wife and I had decided on the house the financing was the most painful and infuriating part of the closing process.
I wasn’t sure how many lenders I should be talking with.
I wasn’t sure at what point I had enough information to compare the options.
I didn’t know how the lenders would react if they knew I was considering several options.
Once I did get some offers in place, the formatting and language in them were so different that I felt like I needed the Rosetta stone to compare them. I have a degree in finance and an MBA from a top school. And I help dentists compare loan options every working day of my life! At multiple points, I thought, “If this is so painful to me, I bet my clients feel even worse with their practice loans.”
Lots of buyers tell me that getting your practice loan locked down feels similarly painful. They know it’s a huge financial decision, and the process feels opaque at best.
My goal with the below is to give you a few rules of thumb and a basic roadmap to compare two dental practice loans you might be considering. Remember, though, that the advice below is general and based on working with the major dental practice lenders in the country. Everyone’s situation and bank can be slightly different, so get competent help.
The post below gives you a feel for the ground rules of the game, along with the factors (and weighting) I recommend using to compare. I also include at the bottom 3 factors that seem like they matter, but really don’t.
Ground Rules to Understand to Get the Best Dental Practice Loans
Ground Rule #1 – Understand the Difference Between a Proposal and an Approval
Dental practice lenders know when you call with a practice in mind that you’d like an answer quickly. Some lenders, therefore, compete on speed. The banker you’re talking with will get a written proposal on the table as quickly as possible.
A proposal has not gone through underwriting yet. The terms on the sheet are close to what the salesperson believes underwriting will approve. But it’s the salesperson’s best guess. For obvious reasons, banks have the salespeople out talking to dentists AND they have the back room with the underwriters who decide if a borrower is actually going to pay the bank back. The underwriter is the one that sets the loan terms.
The key advantage of this approach is speed and your ability to show a seller than you can get financing. Obviously, the downside to this approach is the terms on the page could change after the underwriting team looks at the deal.
The other approach is the approval.
Other banks will compete less on speed, but on a good experience. Part of that good experience is making the first written offer the approved one. The main disadvantage to this approach is it typically takes a few days longer to get an underwriting-approved written approval to show the seller and make a plan for timing and expectations. But, you have final terms written down on paper, approved, and locked in. If you choose the lender that takes this approach, typically the deal can move very quickly after you commit.
It’s important to remember “slower” is not a synonym for “worse.” Remember different banks have different underwriting standards. One bank can provide a quick approval, and another bank can ask for more information. A request for more information typically means the underwriter found some items that could be potential issues. They are red-flagging items that could burn you as the future owner. As infuriating as repeated questions can feel, usually it’s in your best interest to remember the reason for the extra time is to protect your investment.
In my experience, most (but not all) of the reputable dental lenders in the country use approvals and not proposals. They’re willing to put in the work up front to go through underwriting with potential clients before the dentist commits. They’re confident enough in the ultimate terms offered they’re willing to take a little more time upfront to get you the best option.
My recommendation is you use a lender who will commit to full approval. But at a minimum, know the difference between the two.
Ground Rule #2 – It’s Expected You’ll Talk with Multiple Banks
The banker you’re talking with would LOVE it if you were only talking with him or her. But they know you’re probably not.
When I can get a banker in a candid moment, even they admit dentists ultimately end up with better terms when there are multiple banks at the table. You can read more on my recommendation that you should probably only talk with two banks here, as long as you’ve vetted the two and they are both dental-specific.
Dentists who do the best and have the most professional interactions with bankers are open and upfront through the process about who they’re talking with and what stage they’re in. The best bankers I know are totally fine with a dentist talking with other banks as long as they know where things stand and how the process is going.
I strongly recommend you talk with multiple banks, but that you also be upfront and open with the banks about who you’re talking with and where things are in the process.
Ground Rule #3 – You Can’t Compare Your Rate to Your Buddy’s (or the Guy on Facebook)
The bank has one real concern: are they going to get paid back?
So how do they decide?
Each of the different bankers I’ve worked with share similar numbers to describe what specifically their underwriting teams look at when considering a dental lending deal: 60% of the decision to give you a loan has to do with the practice, and 40% of the decision has to do with you personally as the borrower.
60% of the Decision – the Practice Numbers
On the practice side of the deal, the bank will look at the numbers below and feed them into the cash flow model. They’ll use this model to project how much money you’ll make as an owner of the practice you’re considering, and if you can afford to make the required loan payments.
- Collections – How big is the practice? Are collections growing or shrinking?
- Profitability – How much of each dollar of collections does the doctor keep after paying all the expenses of the business?
- Hygiene Production – What percentage of total production comes from hygiene? What percentage comes from new patients? Returning patients?
- Procedure Mix – Can the purchasing doctor perform the same procedures the selling doctor performs? How much is being referred out?
40% of the Decision – Your Creditworthiness
Now, over to the personal side. What specifically about YOU will the banks look at?
While the majority of the decision to lend you money will depend on the economics of the practice, you still have to have solid credit to get a loan for hundreds of thousands of dollars. Your dental degree is not reason enough.
You can read more about the five things you need to get a dental practice loan here. In summary, they are:
- A Solid Production History
- Credit Score over 680
- Clean Credit History
- About a Year’s Worth of Experience
So think about the 60/40 rule and all that goes into an underwriter’s decision to lend to you at a specific set of terms. If you’re comparing your rate and terms to what someone claimed they got on their practice loan on Facebook (a notorious place to fudge, incidentally), you’re making a huge mistake.
No two dental loans are the same because no two practices and no two borrowers are the same.
Don’t compare your practice loan terms to what you’re seeing other people claim they’re getting online. Compare your loan terms against the options you have in front of you.
How to Compare 2 Dental Practice Loans – the 3 Main Factors
So you’ve followed the ground rules, talked with a few banks and now have two proposals in front of you. How do you know which one is the best?
Most dental practice buyers aren’t loan ninjas so they compare on the only reasonable thing that makes sense: the rate.
If one bank has offered a loan at 5% and the second bank is offering 4.99%, then the second bank has the clearly superior offer. Right?
Not so fast.
Rate is Important, but Matters Less Than You Think
If you do the math, you’ll learn rate is definitely important but less important than you may think. Rate is certainly not the only criteria you should use to make your decision.
Let’s look at an example.
Let’s say, for easy math, a doctor is borrowing exactly $1,000,000 to fund their practice purchase. And let’s say two lenders have made loan proposals. Bank A is offering a rate of 4.99% and Bank B is offering 4.79%.
Bank B is offering a better rate, no doubt. But how much better in real dollars?
Let’s look at the difference in the monthly payments first. If you assume a 10-year payback term, payments on Bank A’s loan will be $10,602. Bank B’s payment is $10,504.
That’s a difference of $98 per month. Or, 0.0093% of the total loan payment. Not the kind of money that is going to make or break your practice.
Don’t get me wrong, all other things being equal I’d prefer the $98 in my pocket instead of the banks’…but all other things are never equal on practice loans.
Payments are one thing, but what about total interest payments? If a buyer paid the minimum monthly payment for all 120 months, the total interest she would have paid over the life of Bank A’s loan would be $272,200. Total interest paid on Bank B’s loan would be $260,504. A difference of $11,695.
That’s real money, to be sure, but remember that’s interest the bank only gets spread out over 10 years (while constantly being eroded by inflation along the way). And it’s on a million-dollar loan.
Seeing the math on the difference in interest rates makes a lot of buyers say, “What you’re telling me is, there is more to it than just the interest rate?”
I counsel my clients to weigh the rate at about 50% of the total decision. It’s important and there are real dollars at stake, but banks are smart. And they know if they can get you to focus solely on rate, you might miss other aspects of the loan that have real dollars attached to them.
So what makes up the other 50% of your decision? The second biggest aspect to consider beyond rate is fees.
How to Compare Fees
Many banks will tack on various fees to dental practice loans, always payable upfront and tacked onto the loan balance. A 1% fee used to be standard in the industry, with fees slowly coming down. Now, I’d estimate the median fee charged dental practice buyers to be a little under half a percent or 0.5%.
That fee percentage is calculated based on the total amount being borrowed. So, back to our example, if both Bank A & B were charging a 1% fee, that would be an additional $10,000 added to the balance of the loan.
So, should you expect to pay some fees? Only if you don’t do it right. How much do I recommend you pay in fees?
Zero. Zilch. Nada.
Most banks will waive the fees if pushed a little. Sometimes if the timing of the deal is such that you’re locking your loan down months ahead of the actual closing date, a bank will charge a rate lock fee of a few hundred bucks. This protects the bank in case the federal reserve unexpectedly changes interest rates or the bond market goes crazy. I have no problem with those fees. I think it’s worth a few hundred bucks to know with certainty what your loan rate will be months ahead of your actual closing date.
But don’t be the doc who misses the fees and goes for rate only. Why not ask for both? Keep the good rate and ask to have the fees waived! It can’t hurt to ask.
Why do banks charge fees in the first place? Aren’t they earning enough interest on the backs of you poor, hard-working, student-loan strapped dentists? Two reasons.
First, remember the interest the bank gets is spread over time. Charging fees allow banks to collect some reward upfront for taking on the risk of loaning you money.
Second, I believe some banks charge fees because the borrowers get so fixated on rate, they don’t realize it’s a worse deal. They don’t realize they’re paying 1% in fees and getting a 0.1% lower rate and not coming out ahead. The banks are savvy. It’s marketing and psychology. Lowering the interest rate and raising the fees allows that doctor to brag on Facebook about their awesome, low rate while conveniently leaving out the fact they got gouged on fees.
I counsel my clients to think about fees as something like 30% of the total decision. That leaves 20% of the total decision for the last meaningful comparison point: process.
Compare the Banks on Overall Process, Including Closing
The last factor that is typically underweighted by dentists in making a decision between banks is the overall process of working with them. What do I mean by “process”?
You should evaluate the bank on their process in three areas:
- Closing the loan
- Working together after the loan is in place
The application process is a pretty good indicator of the overall process of working with a particular bank. Consider the following helpful questions when assessing this aspect of the bank:
- Are you talking with one point of contact at the bank? Multiple people?
- Do they all know what’s going on with you?
- Was the process of submitting documents painless and understandable?
- Did the banker (salesperson) prepare you appropriately for your call with the underwriter?
- How quickly were you able to get a proposal?
- Did the banker carefully explain everything in your proposal? Did anything get left out?
After you choose a bank, how smooth the closing goes is a big deal. Handled smoothly, you get your practice on-time and the seller gets a lot of money when they’re expecting it. Handled poorly, and the office schedule gets messed up, the seller gets anxious, and you’re out of work a few days (or weeks!) longer than expected.
Knowing how the closing will go is tough ahead of time, so rely on your accountant and attorney to fill you in on how closings with this bank typically go. See if the closing conditions are clear ahead of time. And lastly (and least importantly) ask other dentists how their closing process went with the banks you’re considering. But remember, the ones who had a negative experience will be the first to speak up, skewing your view.
Finally, I highly recommend you consider what it will be like working with this bank after the closing. This is potentially a 10-year partnership with a company. Think about communication and requirements, specifically.
With regards to communication, if you had a hard time communicating well with the sales team, imagine how much more difficult it’s going to be to get answers and help from the support team who don’t have customer service requirements as high as the sales team.
I also recommend basing your decision on which loan to choose on how the lender will service the loan, sometimes called “requirements after closing”. Requirements after closing is a hidden gem most dentists miss when comparing dental practice loans.
Many banks will throw in various requirements like they’re no big deal. Sometimes I’ll see them and comment on them to the buyer and the buyer will be shocked as I’m the first one to say something. Requirements I see often include:
- “You must use our checking out as your primary business account”
- “You must use our merchant services product, regardless of our fees on credit card swipes”
- “You must send us monthly financial statements”
If I were a bank and I lent you a million dollars, I’d hope you use my checking account, merchant services, and other products, too. But my belief is the bank should earn that business from you. Not require you to use possibly overpriced services.
Stepping back for a moment, considering the impact of a bank’s processes is important but should be something like 20% of the total decision maker. I think the rate is the most important factor to consider (50%) and fees in second place (30%). The process aspects we talked about here are the least important (20%), but still worth comparing. All three aspects should definitely be on the table.
Additionally, there are some elements of most dental practice loans that really don’t matter very much.
Several other factors listed in loan proposals give the impression they are a big deal and need to be compared to choose the best rate. I’ll mention three below that are commonly discussed, but in my opinion, aren’t important enough to be considered serious factors to base your decision on.
Three Factors You Can Completely Ignore When Comparing Two Dental Practice Loans
These three points come up a lot when I’m working with practice buyers, but rarely make the difference in the loan decision. Often they come up because the various bankers are searching for ways to differentiate their loan option relative to another bank’s and push the points below. I’d do the same thing if I were a banker! If the numbers are close (especially if another bank’s numbers are better!), I’d look for qualitative aspects of the loan to point to so the buyer leans my way.
The three most common elements of practice loans that probably don’t matter are:
- Prepayment Penalty
- Life & Disability Requirements
- The “Relationship”
Why the Prepayment Penalty Probably Doesn’t Matter
Every dental acquisition loan I’ve seen has a prepayment penalty. The most common version is a 5-4-3-2-1, where the first year of the loan if you walk across the street to a competitor bank to refinance your entire practice loan, you’ll be hit with a penalty of 5% of the loan balance. If you do that in the second year of the loan, the penalty is 4%. And so on.
The other most common versions of the prepayment penalty I see are the 3-2-1, making the penalty 3% in the first year, 2% in the second year, etc. and occasionally I’ll see the X-X-3-2-1. The “X’s” show the loan can’t be paid off or refinanced in the first two years of the loan.
So if one bank has put a 5-year prepayment penalty on a loan and another bank has a 3-year penalty, wouldn’t bank #2 be a better choice?
I’ll make my case with two points. First, “prepayment” doesn’t mean you can’t get ahead of your loan and pay it down a little ahead of time. Want to make an extra payment every 12 months? Green light. Have an extra $1,000 you want to throw at your practice loan? Go for it. The “penalty” doesn’t apply to these cases. The penalty is simply a protection against you closing down the loan with that bank and going across the street to a competitor.
Second, most dentists are extremely unlikely to pay off their practice loan in the first five years of ownership. Yes, I’m as debt-averse as you are. Yes, I agree having the flexibility to make oodles of money as an owner and pay off all your debts lightning fast would be awesome.
But after seeing the actual financial planning and tax work for dentists now for years and years, I have yet to see many practice owners pay down their practice loan in five years or less. The primary reason this doesn’t happen is that student loan debt tends to take precedent. Additionally, there are some pretty nice tax breaks on practice debt that owners are reluctant to lose once their accountant shows them how it all works. Finally, dentists are unlikely to need to take advantage of the prepayment penalty option when rates are ridiculously low. As I write this in 2019, the prevailing practice loan rate is around 4% with many borrowers getting rates in the high 3’s. Those numbers will change, but once you factor in inflation and the previously-mentioned tax breaks on corporate debt, prepayment of your practice loan makes less and less sense.
Could you be the exception? Sure. Maybe you went the military route, have no student debt, plan to live on ramen and in an 800 square foot apartment as an owner and will be retired by age 40. Maybe you’re reading this article several years after I wrote it and interest rates are sky-high. But even in those cases, the most likely scenario for the majority of practice buyers is they don’t need to factor in the prepayment penalty as a major deciding factor.
Why the Life & Disability Insurance Requirements Probably Don’t Matter Either
It’s extremely common for a bank loaning you gigantic sums of money with no collateral beyond your dental school diploma to protect against disaster. “Disaster” for most dentists takes the form of physical disability and sometimes death. You not being able to practice dentistry in the business the bank bought for you would not be good – for you OR the bank.
On practice loans, most banks will require you to buy, pay for, and then “collaterally assign” life and disability policies to them. That means if you die or get disabled, the bank collects on the policy first and you get paid second.
So, naturally, some banks will compete on this point. They’ll require you have the policies, but they won’t require you collaterally assign the policy to them. Or (and this is more rare, but it happens), they won’t require you to have a policy at all. And then they’ll say their loan is the superior option because of this.
Here’s why the insurance requirements probably don’t matter: You should have life and disability policies for your new practice loan regardless of what the bank requires!
A 10-year term life insurance policy is dirt cheap. A business loan protection rider on an overhead disability policy (what I recommend in most cases) isn’t much more expensive, either.
You should have them both. And if the worst happens, you better believe the bank is going to get paid whether or not you collaterally assign them to the bank or not.
So, in my opinion, these requirements don’t make much of a difference for a borrower trying to decide between two banks.
“The Relationship” the Bank Talks About Isn’t a Real Thing
I get a lot of calls from bankers who want me to refer business to them. Invariably, I ask them what sets them or their bank apart. By far, the most common answer I get is, “We try to win business by having the best relationship with our clients.”
I’m still waiting to hear a banker answer that question with, “You know what, Brian? I get the rate and fees as low as I possibly can.” That would get me to pay attention! (I haven’t heard that answer yet.)
When I ask what “having a relationship means” I usually hear something along the lines of, “We really try to understand the buyer’s goals and make sure they get into the right practice” or “We do more than just the practice loan. We have the expertise to be the one-stop financial shop for our borrowers.”
You want to understand the buyer’s goals? I can tell you their goals: get a great loan with a really low rate with no fees and a good process.
You want to be a one-stop financial shop and have their checking account, credit card, merchant services, and investment relationship? Then have the best product in those areas and the buyer will hit you up.
The fact of the matter is, because dentists are generally considered the safest small business loan on the planet, supply exceeds demand. There are more bankers willing to hand out practice loans than there are dentists who want them. Dentists are in the driver’s seat most times with their ability to shop and price compare. I have nothing against a great relationship with the banker, but if I were the dentist I wouldn’t let “the relationship” steer me toward a loan with terms slightly worse than another bank’s option.
I hope the above information is helpful, but I know that individual situations are unique. If you’re in a position where you could use a specific answer to your question, or just need to know the best banks/bankers to contact in your area – send me a note and I’ll directly respond: email@example.com.
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