Jan 2004 Table of Contents

Three Steps to an Effective Practice Budget



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By tracking your expenses and comparing them to benchmarks, you can create a practice budget that's useful and easy to maintain.

Fam Pract Manag. 2004 Jan;11(1):46-50.

This content conforms to AAFP CME criteria. See FPM CME Quiz.

“I know I should have a budget for my practice, but I never seem to get around to it.” Sound familiar? You’re not alone. Many practices never manage to establish a budget, and many others establish a budget and then never look at it again. Unfortunately, it is these practices that practice-management consultants such as myself often get called into when finances go awry, overhead seems too high and there is not enough money left for the physicians at the end of the month. Practices without budgets face a multitude of other problems as well, including embezzlement, over- or under-staffing, supply waste, inappropriate purchasing, compensation debates among physicians, inadequate savings for practice improvements and higher-than-necessary income taxes.

While budgeting is not typically taught in medical schools or residencies, it’s a skill well worth developing. The exercise of creating and maintaining a budget brings a little extra discipline to a physician’s business habits, resulting in a healthier practice with fewer unnecessary problems. This article describes three steps you can take to establish an effective budget for your practice.

KEY POINTS

Creating and maintaining a practice budget can bring a little extra discipline to your business habits, resulting in a healthier practice with fewer problems.

National benchmark statistics on practice overhead can be used to easily create and modify your budget in minutes.

To make it useful, a budget must be evaluated by performing regular variance analyses.

Step 1: Track expenses appropriately

Many physicians don’t know their costs of doing business, much less what their costs should be. Start by keeping track of what you spend your money on. Fortunately, standards and best practices have already been established for tracking expenses in a medical practice that cover which expenses to track, how to do it and bookkeeping protocols. Also, national statistics on practice overhead can be used to create and modify your budget. Although it’s possible to track expenses without using these standards and best practices, if you don’t use them you’ll have a difficult (or even impossible) time comparing your information to the national statistics. (Note that it’s important to designate specifically who will work on the budget before you begin this process. Usually, it works best if a budget is created by the physicians and office manager and maintained by the office manager or bookkeeper through quarterly budget reports and variance analysis, as described in step 3.)

The first thing you will need to do is decide which expenses to track. A common mistake is to rely on the limited categories of expenses that IRS tax forms and CPAs use to calculate your taxes. A better approach is to create a practice-specific list of expense categories. This list, often referred to as “general ledger categories” or a “chart of accounts,” should be as detailed as possible so that useful information can be extracted easily by members of the practice and by an accountant for tax purposes.

The categories in the sample chart of accounts are drawn from available standards and benchmarks, but most practices will need to make some changes to tailor it to their own practices. For example, this chart of accounts includes categories for employed, nonowner physicians (“doctor associates”) and nonphysician providers, which wouldn’t be necessary in every practice. Some practices may wish to further expand the list. For example, a group practice may want to add categories that will allow it to individually track malpractice insurance, staffing or supplies by physician. Or a practice may want to add a temporary category for special events (e.g., relocation, computerization, loss or addition of a provider or disaster recovery) so that statistical anomalies are isolated in the year of occurrence and are less disruptive to future projections.

In some cases, an expense category may need to appear in two different places on a chart of accounts. For example, in this version, the “marketing: meals and entertainment” category appears under the “general” and “doctor-owner discretionary expenses” headings, since some meals and entertainment may be discretionary and of personal benefit to an owner even though they are also legitimately deductible for tax purposes. Note that discretionary expenses can run as high as 20 percent or more of a physician’s income, so it’s important to accurately track these.

Combining categories in a chart of accounts is not recommended. A common mistake is to combine clinical and administrative supplies into one category and the compensation and benefits of nonphysician providers or ancillary-revenue-producing paraprofessionals and the compensation and benefits of support staff into another category. These combinations would make it difficult for you to spot theft or embezzlement, identify proper staffing-provider ratios and conduct proper support-staff cost analyses.

Step 2: Use benchmarks to create your budget

The next step is to use the chart of accounts you’ve created to establish a budget for your practice. This is typically done by obtaining national or regional family practice overhead statistics for each category in your chart of accounts and then adjusting those benchmarks to suit your practice.

Obtain benchmark data. There are two main sources of family practice cost data: The Medical Group Management Association’s (MGMA) Cost Survey ($250 for members, $460 for nonmembers; http://www.mgma.com) and the Statistics Report on Medical and Dental Income and Expense Averages, which is a joint venture of the National Association of Healthcare Consultants (NAHC), the Society of Medical-Dental Management Consultants and the Academy of Dental CPAs (for a specialty report: $100 for members, $500 for nonmembers; for the full report: $500 for members, $1,500 for nonmembers; http://www.healthcon.org). Both reports include information on staffing counts, accounts-receivable levels and contractual disallowance percentages, and both present data as a percentage of collections (revenue). Having worked with the data in both reports for many years, I think the Statistics Report is better for the budgeting needs of most private family practices for the following reasons:

  • It currently represents 582 family physicians, about 40 expense categories and subcategories by region; includes statistics for physicians with or without obstetrics and in solo or group practice; and has all of its data verified by the submitting accountant or consultant. The Cost Survey’s last overhead data sampling for non-hospital-owned practices dropped to fewer than 50 practices – each of which has at least three physicians in the group – and has fewer categories and subcategories, with many devoted to staff costs.

  • It reports averages rather than medians. The Cost Survey reports medians, which tend to dilute the impact of data extremes.

    Once you’ve chosen your source for benchmark data, you’ll need to pull out the statistics that match the expense categories listed in your chart of accounts. With these numbers, you can establish a baseline for your budget. It’s important to update the benchmark data annually so that your baseline always reflects reality. For example, if the percentage of support staff costs has crept up from the mid-teens to the low 20s over the past decade and you haven’t been adjusting your budget accordingly, you could become understaffed and overstressed.

Apply adjustments. Next you’ll need to adjust the benchmarks in your baseline to fit your practice. For example, if you use RNs instead of the medical assistants (MAs) referenced in the benchmark data, you would expect to have higher staffing costs than average and would need to adjust the benchmark accordingly. Here’s how you would make the adjustment in this example: Multiply the difference between the benchmark MA hourly pay ($10) and your RN hourly pay ($18) by the average work hours in one year (2,076) to figure the extra annual cost of using RNs instead of MAs ($16,608). Then divide the extra annual cost by your average annual practice collections (e.g., $360,000) to figure the percentage increase in your staffing budget (4.6 percent). Finally, add this percentage to the benchmark percentage for MAs (23 percent of collections). In this case, you would set your benchmark with RNs at 27.6 percent.

Other cases where adjustments might be needed are for higher rent if you’re in an urban area, lower marketing expenses if your practice is already busy, or higher supply costs if yours is a rural practice or has lab, X-ray, etc. Typically, you need to determine where adjustments are needed only when you are creating your first budget, and then you can simply re-apply the adjustments each year when you obtain the updated benchmark data.

Because your budget is based on annual numbers, this type of adjustment is not necessary for short-term variations that occur because of holidays, physician absences, weather closures, season changes, epidemics and local economic issues. These and other unusual factors, such as posting delays or computer crashes, that push one month’s income or expenses into the next month should be noted so that they can be recalled later, but they shouldn’t be used to adjust your annual budget. This will allow you to more easily spot any completely unexplained variations that would suggest embezzlement or other problems.

SAMPLE CHART OF ACCOUNTS

This sample chart of accounts incorporates standard expense categories for office-based practices. Click below to download the chart.

Download in Microsoft Excel format

GENERAL

ASSOCIATES AND ANCILLARIES

Capital (IRS section 179) purchases

Doctor associate wages

Donations and contributions

Doctor associate benefits

Dues

Doctor associate retirement plan

Fees: Lab

Doctor associate continuing education

Fees: Retirement plan

Ancillary provider wages

Insurance: Business

Ancillary provider benefits

Insurance: Malpractice

Ancillary provider retirement plan

Janitorial/maintenance

Ancillary provider continuing education

Journals

Subtotal (Associates and Ancillaries)

Lease payments: Equipment

Legal, accounting and consultants

DOCTOR-OWNER DISCRETIONARY EXPENSES

Loan payments

Auto

Marketing: Ads, promotion

Dues

and yellow pages

Individual and student loans

Marketing: Meals and entertainment

Insurances

Meals: Business/staff meetings

Journals

Miscellaneous

Marketing: Meals and entertainment

Outside services

Other

Postage

Retirement plan

Rent and utilities

Doctor-owner net income

Repairs and maintenance: Building

Subtotal (Doctor-Owner Discretionary Expenses)

Repairs and maintenance: Contracts

Repairs and maintenance: Equipment

Staff wages

Staff benefits

Staff retirement plan

Staff continuing education

Supplies: Clinical

Supplies: Office

Taxes and licenses

Telephone/answering service/pager

Travel and professional meetings

Uniforms and laundry

Subtotal (General)


Adapted with permission from Medical Practice Forms: Every Form You Need to Succeed. Copyright (C) 2001, PMIC.

GENERAL

ASSOCIATES AND ANCILLARIES

Capital (IRS section 179) purchases

Doctor associate wages

Donations and contributions

Doctor associate benefits

Dues

Doctor associate retirement plan

Fees: Lab

Doctor associate continuing education

Fees: Retirement plan

Ancillary provider wages

Insurance: Business

Ancillary provider benefits

Insurance: Malpractice

Ancillary provider retirement plan

Janitorial/maintenance

Ancillary provider continuing education

Journals

Subtotal (Associates and Ancillaries)

Lease payments: Equipment

Legal, accounting and consultants

DOCTOR-OWNER DISCRETIONARY EXPENSES

Loan payments

Auto

Marketing: Ads, promotion

Dues

and yellow pages

Individual and student loans

Marketing: Meals and entertainment

Insurances

Meals: Business/staff meetings

Journals

Miscellaneous

Marketing: Meals and entertainment

Outside services

Other

Postage

Retirement plan

Rent and utilities

Doctor-owner net income

Repairs and maintenance: Building

Subtotal (Doctor-Owner Discretionary Expenses)

Repairs and maintenance: Contracts

Repairs and maintenance: Equipment

Staff wages

Staff benefits

Staff retirement plan

Staff continuing education

Supplies: Clinical

Supplies: Office

Taxes and licenses

Telephone/answering service/pager

Travel and professional meetings

Uniforms and laundry

Subtotal (General)


Adapted with permission from Medical Practice Forms: Every Form You Need to Succeed. Copyright (C) 2001, PMIC.

Step 3: Regularly compare your practice’s actual finances with your budget

A budget serves no purpose if you don’t periodically compare your practice’s actual finances with your budget and make necessary changes. This type of evaluation is referred to as a “variance analysis.” In a variance analysis, you look for any numbers in your actual practice finances that vary from the expected norm (your budget), how much they vary and for what reason. Performing this type of analysis and acting on what you learn from it by appropriately directing your attention to a solution is what makes a practice budget useful. (See “A variance analysis” for an example of how this type of analysis works.)

For most practices, I recommend performing a variance analysis quarterly so that new problems can be caught quickly. For example, if staff overtime costs are creeping up, you’d want to discover this sooner than the end of the year. However, monthly variance analysis may be too much for most practices since the number of days (and sometimes the number of pay periods) varies each month and irregular payments, such as quarterly, annual and semi-annual payments, may also vary. Quarterly review tends to smooth the monthly statistical variation closer to normal with less false-positives for abnormalities. In addition to the quarterly variance analyses, you should also adjust your budget any time your practice environment changes, such as in the event of a rent increase or workers’ compensation premium increase.

As mentioned earlier, it’s best if the office manager or bookkeeper prepares these variance analyses. And when an analysis uncovers any statistics that vary significantly from the budget, this person should carefully explain the findings to the physicians. To protect against embezzlement, another staff member, physician or CPA should also occasionally spot-check the work of the person preparing the variance reports.

A VARIANCE ANALYSIS

A “variance analysis” is a regular financial review of your practice in which you look for any numbers in your finances that vary from your budget. Once you find a variance, you determine how much it is, why it’s occurring and what you can do to fix it. The following is one practice’s financial information after the second quarter of the year. To get an idea of what a variance analysis is like, try to figure out what might have happened in this practice over the last quarter (excluding insurance plan reimbursement delays) just by studying these numbers. (This is just an example. In a real variance analysis, you would look at all the numbers listed in your chart of accounts.)

Budget Quarter 1 Quarter 2

Collections

$90,000

$90,000

$75,000

Staffing

23 percent

23 percent

27.6 percent

Rent

6 percent

6 percent

7.2 percent

Medical supplies

4 percent

4 percent

4 percent

Budget Quarter 1 Quarter 2

Collections

$90,000

$90,000

$75,000

Staffing

23 percent

23 percent

27.6 percent

Rent

6 percent

6 percent

7.2 percent

Medical supplies

4 percent

4 percent

4 percent

Performing a variance analysis on these numbers uncovers the following information:

  • Staffing and rent increased as a percentage of collections in the second quarter, but medical supplies remained stable.

  • The dollar overhead of staffing remained the same despite lowered collections, which increased the staffing percentage ratio.

  • Even though rent is a fixed cost, the percentage went up as collections dropped. The medical supplies percentage remained stable, which indicates that fewer supplies were used and fewer patients were seen. This indicates reduced collections and reduced productivity. If the problem were just with collections, the chart would also have shown a higher percentage cost of medical supplies.

So, a variance analysis of these statistics would seem to indicate that the reason for the change in costs is reduced productivity (charges) in the second quarter rather than increased overhead. This information can be used by the practice to appropriately direct its attention toward a solution.

A smart investment

The bottom line is that investing in the effort of budgeting, just like investing in other good practice-management behavior, results in a smoother, more profitable and less stressful practice.

Keith Borglum is the owner of Professional Management & Marketing in Santa Rosa, Calif.

Conflicts of interest: The author discloses that he is co-author of Medical Practice Forms: Every Form You Need to Succeed; a member of the board of directors of the National Association of Healthcare Consultants, which sells the Statistics Report; and an affiliate member of the Medical Group Management Association, which sells the Cost Survey.

Send comments to fpmedit@aafp.org.

 

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