Why California Requires Medical Corporations

Understanding the Corporate Practice of Medicine doctrine and why standard LLCs won't work.

California enforces one of the strictest Corporate Practice of Medicine (CPOM) doctrines in the United States. Under Business and Professions Code Section 2400, corporations and other artificial entities have no professional rights, privileges, or powers in the practice of medicine except as expressly authorized by statute.

This means you cannot simply form a regular LLC owned by non-physicians and employ doctors to provide medical services. The rationale: medical decision-making should be controlled by licensed physicians who are subject to the Medical Board's disciplinary authority, not by investors whose primary concern might be profits rather than patient care.

The Moscone-Knox Professional Corporation Act (Corporations Code Sections 13400-13410) provides the framework for physicians to practice through corporate entities while maintaining professional autonomy.

Key Benefit: A medical corporation allows physicians to enjoy liability protection for commercial obligations (leases, vendor contracts) while maintaining personal accountability for professional negligence.

Ownership & Control Rules

The 51/49 requirement and who can be shareholders, directors, and officers.

Required

Majority Physician Ownership

At least 51% of shares must be owned by licensed physicians and surgeons (M.D. or D.O.).

  • Ensures physician voting control
  • All directors must be licensed
  • Officers (except asst. secretary/treasurer) must be licensed
Permitted

Allied Health Minority (49%)

Up to 49% may be owned by specific allied health professionals:

  • Licensed Podiatrists
  • Licensed Psychologists
  • Registered Nurses
  • Physician Assistants
  • Optometrists
Prohibited

Cannot Own Shares

The following are not permitted to own shares directly:

  • Non-licensed spouses
  • Business consultants
  • Private equity (directly)
  • Non-healthcare corporations
Community Property Note: In California's community property system, your spouse may have a community property interest in shares acquired during marriage, even without being a direct shareholder. This matters for divorce and estate planning.

Formation Essentials

Costs, steps, compliance requirements, and tax considerations.

First-Year Formation Costs (2026)

Item Fee Notes
Articles of Incorporation (ARTS-PC) $100 Secretary of State filing
Statement of Information (SI-550) $25 Due within 90 days
Federal EIN $0 Free from IRS
Fictitious Name Permit Varies If using brand name
First-Year Franchise Tax $0 Exempt in first taxable year
Minimum Filing Costs $125 Government fees only

Professional fees: Attorney and CPA services typically range $3,000-$12,000 depending on complexity. Year 2+ includes $800 minimum franchise tax.

Step-by-Step Formation Process

Step 1: Choose compliant corporate name and check availability with Secretary of State
Step 2: File ARTS-PC with California Secretary of State ($100 fee)
Step 3: Obtain Federal EIN from IRS (free, immediate online)
Step 4: Adopt professional corporation bylaws with CPOM-compliant provisions
Step 5: Hold organizational meeting: elect directors/officers, issue shares
Step 6: File Statement of Information (SI-550) within 90 days ($25 fee)
Step 7: Apply for Fictitious Name Permit (if using brand name)
Step 8: Obtain local business licenses and permits
Step 9: Set up payroll and employment infrastructure

Annual Compliance Requirements

Statement of Information Annual

File SI-550 annually with Secretary of State during your incorporation anniversary month. $25 fee. Failure leads to corporate suspension.

Franchise Tax Payment Annual

Minimum $800 due by 15th day of 4th month (April 15 for calendar year). Quarterly estimates if owing more than minimum.

License Maintenance Ongoing

All shareholders must maintain active licenses. If license lapses, shares must transfer within 90 days to eligible person.

Corporate Minutes Annual

Maintain records of annual meetings, director elections, major business decisions. Essential for liability protection.

Tax Considerations: C-Corp vs S-Corp

Understanding the S-Corp election and its benefits for medical corporations.

Factor C-Corporation S-Corporation
California Tax Rate 8.84% on net income 1.5% on net income
Federal Taxation Double taxation (corp + dividend) Pass-through to shareholders
Shareholder Limits Unlimited Max 100, individuals only
Election Required Default status IRS Form 2553 + CA Form 3560
Election Deadline N/A Within 75 days of formation
IRS Reasonable Salary Requirement: S-corp physician-shareholders must pay themselves "reasonable compensation" before taking distributions. Setting unreasonably low salaries to minimize payroll taxes triggers IRS audit risk.

Most medical corporations elect S-corp status to avoid double taxation. The 1.5% California rate vs 8.84% C-corp rate, combined with federal pass-through treatment, typically results in significant tax savings.

Federal Compliance: Stark & Anti-Kickback

Critical federal laws affecting medical corporation structure.

Stark Law

Prohibits physicians from referring Medicare/Medicaid patients for "designated health services" to entities with which they have a financial relationship, unless a specific exception applies.

Designated services include:

  • Clinical laboratory services
  • Physical therapy
  • Radiology and imaging
  • Durable medical equipment
  • Radiation therapy

Anti-Kickback Statute

Prohibits offering, paying, soliciting, or receiving anything of value in exchange for referrals of federal healthcare program business.

This affects:

  • Physician compensation arrangements
  • Joint venture investments
  • Lease agreements
  • Marketing arrangements
  • MSO fee structures
Violations can trigger: False Claims Act liability with treble damages and per-claim penalties. Even technical violations without intentional fraud can result in severe financial consequences.

Liability Protection: What's Covered

Understanding what your medical corporation protects and what it doesn't.

Protected

Commercial & Operational Liabilities

  • Lease defaults and landlord claims
  • Equipment financing defaults
  • Vendor and supplier disputes
  • Employment lawsuits (wrongful termination)
  • Malpractice by other shareholders (no supervision)
NOT Protected

Professional Negligence

  • Your own malpractice
  • Negligence of those you directly supervise
  • Personal guarantees you signed
  • Intentional misconduct
  • Failure to maintain proper licensure

MSO Structures & CPOM Compliance

Management Services Organizations and private equity investment considerations.

What is an MSO?

A Management Services Organization is a separate entity (often an LLC) that provides non-clinical administrative services to the medical corporation. The MSO handles billing, marketing, HR, facility leasing, and equipment procurement, while the medical corporation retains control over all clinical decision-making.

MSO Can Handle

Administrative Services

  • Billing and collections
  • Marketing and advertising
  • Human resources (non-clinical)
  • Facility leasing
  • Equipment procurement
MSO Cannot Control

Clinical Decisions

  • Physician hiring/firing
  • Clinical protocols
  • Diagnosis and treatment
  • Patient scheduling (clinical)
  • Peer review and credentialing
Red Flags: MSO fees structured as percentage of revenue, MSO control over how many patients physicians must see, or MSO involvement in peer review decisions may indicate CPOM violations.

Frequently Asked Questions

Can my non-physician spouse own shares in my medical corporation? +
No. Only licensed persons (physicians and specific allied health professionals) can own shares directly. However, in California's community property system, your spouse may have a community property interest in shares acquired during marriage, even without being a direct shareholder. This distinction matters for divorce and estate planning.
What happens if a shareholder loses their medical license? +
The shareholder becomes immediately ineligible to own shares. Under properly drafted bylaws, they must transfer shares to an eligible licensed person within 90 days (or as specified). Failure to transfer violates CPOM, risking Medical Board discipline and potentially invalidating professional liability insurance coverage.
Can I convert my existing LLC to a medical corporation? +
Generally no. Direct conversion isn't available. You'd need to form a new professional medical corporation and transfer assets from the LLC. More importantly, if you've been practicing medicine through a non-compliant LLC structure, you may already be violating CPOM and should consult with a healthcare attorney immediately.
Do I need both a CPA and an attorney for formation? +
Yes, both professionals serve distinct roles. CPAs handle tax planning, S-corp election timing, payroll compliance, and annual returns. Attorneys focus on entity formation documents, bylaws, regulatory compliance (CPOM, Stark, Anti-Kickback), and risk management. Medical practice formation involves enough complexity that specialists in each discipline prevent costly mistakes.
What's the difference between C-corp and S-corp for my medical corporation? +
C-corp means double taxation (8.84% California rate + federal corporate tax, then shareholder dividend tax). S-corp election provides pass-through taxation (only 1.5% California rate, income flows to personal return). Most medical corporations elect S-corp status. Election must be filed within 75 days of formation on IRS Form 2553 and California Form 3560.
Can I pay myself whatever salary I want from my medical corporation? +
If you elected S-corporation tax status, the IRS scrutinizes physician-shareholder salaries to ensure they meet "reasonable compensation" standards. You must pay yourself a reasonable salary before taking distributions. Setting an unreasonably low salary (to minimize payroll taxes) while taking large distributions is a red flag that triggers IRS audit.

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