Real Estate or Lease—What Hospital Owners Get Wrong
Here's a sentence I hear from veterinary hospital owners at least once a week: "And the building comes with it."
I know what you mean. You bought the land, you built the hospital, you've paid the mortgage out of the practice for twenty years, and in your head the two things are one thing. They aren't. Your building has its own deal — its own buyer, its own financing, its own tax treatment, and its own timeline. Treat it as a line item on the practice sale and you will either leave money on the table or scare off the buyer who would have paid the most for the practice.
Let's separate the two, because a buyer is going to do it whether you have or not.
1. Pay Yourself Market Rent — Because a Buyer Will
Most owner-occupied hospitals pay themselves whatever rent makes the mortgage work. Sometimes that's $2,000 a month on a building that would lease for $7,000. Sometimes it's $12,000 a month because the CPA wanted to move income into the real estate entity. Either way, the practice P&L is telling a story about rent that isn't true.
Buyers fix that on day one. Every serious buyer — and every lender behind them — normalizes rent to a fair-market number before they calculate earnings. If you've been under-paying yourself, your seller's discretionary earnings have been overstated for years, and the correction comes out of your price. A $60,000-a-year rent shortfall at a 4x multiple is $240,000 of "value" that was never really there.
If you've been over-paying yourself, the opposite happens — the practice is worth more than your books say, and you've been depressing your own number to save a little on taxes.
Action Items / Food for Thought:
Get a real rent comp — call a commercial broker, not your brother-in-law — and restate your P&L at that number for the last three years
If the gap between actual and market rent is more than 10 percent, fix it now, not the month you list
Which number would you rather defend to a buyer: the rent you chose, or the rent the market chose?
2. Know Your Three Exits for the Building
You have three ways out of a hospital you own, and they attract three different kinds of buyers.
Sell the building with the practice. Clean, simple, and the way most single-doctor deals go when the buyer is an individual DVM who wants to own everything. The catch: that buyer now needs financing for two assets, and the practice loan and the real estate loan are underwritten differently.
Keep the building and lease it to the buyer. You become the landlord. This is the default when a corporate group buys the practice — most consolidators don't want to own real estate, and they will want a ten- to fifteen-year lease with options. Done right, this is a very good retirement annuity. Done wrong, you've chained yourself to a tenant you no longer control.
Sell the building to a third-party investor. A sale-leaseback, either before or at closing. The buyer of the practice becomes the tenant; you cash out both assets. This works best when the building is in good shape and the lease is long, because that's what a real estate investor is buying — the lease, not the building.
There isn't a wrong answer. There is a wrong answer for you, and it depends on whether you want a check or an income stream.
Action Items / Food for Thought:
Write down, honestly, whether you want to be a landlord in five years. Most owners say yes and then call me in year two
If you'd sell to a group, assume they lease. If you'd sell to an individual, assume they want to buy — and confirm they can
What's the building worth to you as rent for the next fifteen years versus as cash next spring?
3. The Lease You Sign at Closing Is the Most Important Document Nobody Reads
If you keep the building, the lease is the deal. Not the purchase agreement — the lease. It governs your income for a decade and it governs whether the practice buyer can even get financed.
Lenders want the lease term, including options, to run at least as long as the practice loan. Ten years is the floor for most conventional practice lending. A five-year lease with no options can kill a financed deal before the appraisal comes back.
The other terms owners skip past: annual escalators (2 to 3 percent is normal; "we'll figure it out" is not), assignment rights (a corporate buyer will need to assign to an affiliate), personal guarantees (an individual buyer will have one; a group will fight it), maintenance and capital responsibilities (who pays when the HVAC dies in year six), and a purchase option (if the buyer wants a path to owning the building, price it now).
Action Items / Food for Thought:
Have an attorney who does commercial leases — not your practice attorney — draft the lease before you go to market
Decide the escalator, term, and options before a buyer proposes them for you
If your buyer's lender called tomorrow and asked for the lease, what would you send them?
4. Price the Building Like an Investor, Not Like a Vet
Owners price their building on what it cost to build, what the county assessor says, or what a residential appraiser guessed. Investors price it on income. Net operating income divided by a capitalization rate — that's the whole formula.
A building generating $84,000 in annual net rent at a 7.5 percent cap rate is worth about $1.12 million. At 8.5 percent, it's about $990,000. The cap rate moves with the tenant's credit, the lease term, and the location — a single-doctor practice on a five-year lease is a riskier tenant than a regional group on fifteen years, and the price reflects it.
Here's the part that stings. A purpose-built veterinary hospital has limited alternative use. The kennels, the drains, the lead-lined X-ray room — none of that helps a dentist or a dry cleaner. Investors know it, and it shows up in the cap rate. Your building is worth the most to the person operating a vet practice inside it, which is exactly why the lease is the asset.
Action Items / Food for Thought:
Run the math: market rent, minus taxes, insurance, and maintenance you'd carry as landlord, divided by 7 to 9 percent
Compare that to what you think the building is worth. If the gap is big, one of those numbers is wrong
Would you buy your building, at your number, with your practice as the only tenant?
5. Separate the Tax Treatment Before You Separate the Price
Practice goodwill and real estate are taxed differently, and owners routinely let a buyer's allocation decide their tax bill. Goodwill in an asset sale is generally capital gain. Real estate carries depreciation recapture on everything you've written off over twenty years, and that piece is taxed at a higher rate than the gain above it.
There are tools — 1031 exchanges into another property, installment sales, holding the building in a separate entity so the two deals can close on different days. All of them require planning before the LOI, not after. A CPA who understands both practice transactions and real estate should have a seat at the table early.
Action Items / Food for Thought:
Ask your CPA for a recapture estimate on the building today. Most owners have never seen the number
If the building isn't already in its own entity, ask whether it should be — and what that costs to fix
Are you selling the building because it's the right move, or because it seemed simpler to sell everything at once?
6. Watch for the Overbuilt Hospital
This is the trap I see most often in the last five years. An owner builds a $3.5 million facility — beautiful, twelve exam rooms, a surgery suite that would make a human hospital jealous — around a practice collecting $1.6 million. Then they go to sell.
The individual DVM who wants that practice can't finance $3.5 million of real estate on $1.6 million of revenue. The group that would buy the practice doesn't want the building at all. The owner becomes a landlord by default, at whatever rent the practice can afford — which is not the rent the building was built to earn.
If you're planning a build-out and a sale in the same decade, size the building to the practice, not to the dream.
Action Items / Food for Thought:
Total occupancy cost — rent, taxes, insurance, maintenance — should sit in the 5 to 8 percent range of revenue for most small-animal hospitals. Above 10 percent, the building is eating the practice
If you're already overbuilt, the answer is usually growing revenue into the building before you sell, not discounting the building at sale
Final Thought
Your building isn't part of the practice. It's a second business that happens to share a roof — with a different buyer, a different lender, a different tax bill, and a different definition of what it's worth.
The owners who do well with real estate decided what they wanted from it two or three years before they listed. The ones who don't treat it as an afterthought and let the practice buyer decide for them.
Your building has its own deal. Give it one. If you want to talk through what that looks like for your hospital, the first conversation is on us.
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