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Chapter 14 Granof-5e 1

Chapter 14Health Care Providers

St. Luke’s Episcopal Health System


Learning Objectives Understand different organizational forms for providing health

care services.

Know the authoritative accounting literature that governs health care entities.

Understand accounting and reporting issues for healthcare providers such as accounting for:

– Revenues and expenses– Fee for service revenues– Capitation revenues– Bad debts and charity care– Malpractice claims– “Retrospective” insurance premiums

Journalize transactions and prepare the basic financial statements for not-for-profit health care providers.


Health Care Organizations (HCOs)

Types of Services: Clinics and individual (or group) practices Continuing care retirement communities

(CCRC) Health maintenance organizations (HMOs) Home health agencies, e.g., hospice Hospitals Nursing homes Rehabilitation centers

4

Classification of Health Care Organizations

Investor-Owned Health Care Enterprises

Not-for-Profit, Business-Oriented Organizations

Governmental Health Care Organizations

Not-for-Profit, Nonbusiness-Oriented Organizations

Chapter 14 Granof-5e


Health Care Organizations (e.g. hospital)Structures

I:For-Profit:Proprietary

II:Not-for-Profit:

Voluntary

III:Governmental:

Public


Examples of Health Care Organizations

I) For-profit: HealthSouth

II) Not-for-Profit: Gritman Memorial Hospital Sacred Heart Hospital

III) Governmental: M.D. Anderson Cancer Center

For-profit Hospital (LLC)

Chapter 13 7

A For-profit hospital

Owners’ Equity (for-profit hospital operating as LLC)

Chapter 13 8



A not-for-profit hospital



Obviously, has TRNA but it is reported in a separate statement

The rest of Marion General Hospital (NFP)

Chapter 13 11


This is the “stacked” or pancake style permitted under FASB



Chapter 13 13

GASB so SRECNA instead of Operating Statement

Chapter 13 14

The rest of the SRECNA - GASB


Accounting Issues that differ depending upon the Organizational Structure (Government v/s NFP HCO)

reporting entity contributions financial statement display cash flows deposits and investments (similar) operating leases (similar now, future??) compensated absences (very similar) Debt refunding (no in-substance defeasance

under FASB) pensions and other post retirement benefits

(very different)

GAAP for HCOs

• GOVERNMENTAL HCOs:– Now follow GASB Statement No. 34– Considered special purpose governments.– May be accounted for as:

• A) a part of a governmental unit (i.e., as a special revenue, internal service, or enterprise fund) OR

• B) as a stand-alone business-type activity that uses proprietary fund accounting principles.


GAAP for HCOs

• ALL HCOs:– Follow the AICPA industry audit guide, Health

Care Organizations as Category (b) authority after applying all appropriate FASB and GASB Statements.

– This guidance includes: – Using full accrual accounting – Capitalizing long-lived assets and Depreciating those

capital assets


Used for:1) Governmental HCOs2) Internal Accounting purposes

HCOs’ Fund Accounting has: General Unrestricted Funds

-Reports financial resources and fixed assets.

Donor-Restricted Funds (either temporarily and permanently restricted):- Specific Purpose Fund- Plant Replacement and Expansion Fund- Endowments


Fund Accounting


Financial Statements for HCOs

Balance Sheet (Table 14-1A)

Statement of Activities (Table 14-1B) Unlike other NFPs, what to include or excludes

from an operating measure is PRESCRIBED for HCO (ASC 954-225-45-7) but it is still optional

Statement of Changes in Net Assets (Table 14-1C)

Statement of Cash Flows (Table 14-1D)

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Equity of a HCO

NPO — unrestricted net assets; temporarily restricted net assets; and permanently restricted net assets. Unlike other NFPs, HCOs cannot choose to imply a time

restriction that expires over the useful life of a long–lived asset (ASC 954-210-50-1)

Governmental— unrestricted net assets; restricted net assets; invested in Capital Assets net of related debt.

For-Profit — capital stock and retained earnings.



Statements of Cash Flows NFP and For-Profit HCO Governmental HCO

Authority SFAS No. 95 GASB Statement No. 9

Activities Operating Investing Financing

Operating Investing Noncapital financing Capital and related financing

Interest paid and received

Operating, except restricted net asset income (financing)

Investing

PPE Acquisition Investing Capital and related financing

Unrestricted gifts Operating Noncapital financing

Reconciliation schedule

Net assets to operating activities

Operating income(loss) to operating activities

Chapter 13 22

GASB so direct method

Most of the FP and NFP HCOs use the indirect method

HCO Assets• Cash & cash equivalents

– Exclude restricted cash (ASC 954-305-45-1) but not just because it is in a separate bank account classified as TRNA (ASC 954-305-45-3)

• Restricted for use other than current operations• Designated for acquisition/construction of noncurrent assets• Sinking funds for liquidation of long-term debt• Other donor-imposed long-term restrictions

– Cash (and other assets) in agency funds are considered URNA (ASC 954-305-45-4) with an offsetting liability


HCO Assets

• Receivables are presented net of– Allowance for uncollectible amounts– Allowance for expected reductions by third-

party payors, etc.– Disclose explanation for contractual

adjustments and identify estimated amounts• ASC 954-310-45-1 & 50-1


HCO Assets• Investments (most at fair value)

– Governmental entities - GASB 31– Health Care ASC 954-320 & 954-325– Not-for Profit ASC 958-320 & 958-325– For profit entites ASC Topics 320, 323 & 325

• Noncurrent assets (e.g., plant property and equipment)– Property held for investment purposes shall be

presented as part of investments (ASC 954-360-45-1)


26

Financing The health care industry requires capital

investment in buildings and equipment which often results in the need for long term debt financing.

Financing assistance may be available through governmental financing authorities, such as the Health and Education Financing Authority, without regard to the legal structure of the HCO.

Financing agreements may include requirements to set aside funds for repayments, in which case these are called Assets Limited as to Use.


HCO Liabilities• Arbitrage rebate liabilities

• Relates to “conduit debt” the HCO is obligated to pay and IRS rules that tax arbitrage (also discussed in Chapter 8)

• Medicare Settlement Agreements– Settlements regarding allegations of Medicare

fraud may also require future compliance audits

– The future cost of these audits are NOT liabilities to be recorded at the settlement date

– ASC 954-405-25-1 & 25-2Chapter 14 Granof-5e 27

HCO Liabilities• Prepaid Health Care Services (could

include “continuing care communities)– Accrue as services are rendered, including

estimates of cost of services rendered but not yet reported

– Accrue minimum revenue guarantees, bonus, or similar programs that will result in payments to hospitals or physicians throughout the contract (estimated based on relevant factors like experience to date)



Revenues Revenues are categorized as:

– Unrestricted• Patient care revenues• Other revenues

– Temporarily restricted– Permanently restricted

Operating income :- Arises from ongoing major activities, such as service

revenue. Non-operating income:

- Arises from transactions peripheral or incidental to the delivery of health care, such as investment income and unrestricted contributions.


Principle Sources of Revenue for a HCO: Net assets released from restrictions used for operations

--Applies to non-governmental NFP HCOs Patient service revenue Premium revenue from capitation fees

--(i.e. fixed fees per person paid periodically regardless of services provided)

Resident service revenue (e.g., maintenance or rental fees) Other revenue (e.g., sales, fees, rental of facilities,

investment income and gains, unrestricted contributions)


Revenue Patient service revenue is reported net of contractual adjustments

--(i.e., differences between gross charges and the amount to be paid by third party payors).

Prepaid health care plans that earn revenue from agreements to provide service record revenue at the point agreements are made, not when services are rendered.

Payment often comes from third-party payors, Medicare or Blue Cross or private insurance companies according to allowable costs or predetermined (prospective) rates for services.

Donated services and supplies are reported at their fair value, if material and meet criteria.

Charity services to indigent patients for which payment is never expected is not recorded, but may be reported in the Notes to the Financial Statements.

Contracts with 3rd Party Payors• Capitation• Prospective rate setting

– Contract sets rates that third parties will pay before the period when services are rendered (insurance companies, Medicare, etc.)

• Retrospective rate setting– Interim payments are made and then there is

a final settlement– The future amounts should be estimated and

recognizedChapter 14 Granof-5e 32

33

Diagnosis-related Groups In 1983, Medicare (the largest purchaser of

hospital services) began a system of prospectivepayment to providers based on DRGs.

Average payments for each of approx. 511 DRGs are determined at the federal level and made to providers no matter what the actual cost of treatment.


34

CCRCs provide residential care in a facility, along with some level of long-term medical care that is less intensive than hospital care.

Accounting issues relate to:Entrance fees that include future health care

The obligation to deliver future health services

Periodic fees to cover operating costs

Refundable advance fees

Continuing Care Retirement Communities


Continuing Care Communities• Direct costs of acquiring initial continuing-

care contracts are generally capitalized per ASC 954-340-25-1– Do not capitalize advertising costs,

depreciation, occupancy costs or other overhead items

– Amortize costs straight-line over average expected remaining lives of the residents under the contract or the contract term (whichever is shorter)


Continuing Care Communities• Advance fees received from residents

– Refundable portion is reported as a liability• Adjustments to this liability affects the deferred

revenue from the nonrefundable portion of fees– Nonrefundable portion is payment for future

services accounted for as deferred revenue in liability section

• Amortize to income over future periods based on the estimated life of the resident or contract term, if shorter

– Straight-line method may not be appropriate if future care is expected to be more costly


Continuing Care Communities• When the resident dies or terminates the

contract, any unamortized deferred revenue is recognized as revenue

• Disclosures include:– Method of accounting for advance fees,

refund policy, amortization method, etc. – Method of calculating the obligation to

perform future services– Total amount of contractual refunds

– Amounts refunded are classified as financing cash flows


Continuing Care Communities• Example 1 in ASC 954-320-55-1



Amortization of nonrefundable fees:



Amortization of nonrefundable fees:


Continuing Care Communities

• What if advance fees are insufficient to cover the cost of care?– Estimate obligation and report

additional liability if necessary(ASC 954-440)

– This is a present value computation that includes depreciation on facilities, and other costs less estimates of future fee increases (if permitted under contract)


Continuing Care Communities

• Example – ASC 954-440-55-1



Example 1- Patient Care RevenuesDuring a particular week a hospital records $400,000 in

patient charges. It estimates that 80% (320,000) of the charges will be billed to third-party payers who will, on average, discount the invoiced amounts by 30% (96,000). The remaining 20% (80,000) of the hospital charges will be billed to patients who are uninsured. Of this 20%, 60% (48,000) will be uncollectible.

Entries:To record one week’s patient revenues:

Patient account receivable $400,000Patient revenues $400,000


Example 1(cont’d)

Allowance for contractual adjustments:Revenue from patient services—

--estimated contractual adjustments $96,000Patient A/R—allowance for

contractual adjustments $96,000

To establish allowance for bad debts:Bad debt expense $48,000

Patient A/R—allowance for bad debts $48,000


Health maintenance organizations (HMOs) and preferred provider organizations (PPOs) function as brokers between the consumer (patient) demanding the service and the providers of health care (hospitals and health care professionals).

Accounting issues relate to:-Revenue recognition-Accounting for risk contracts

Prepaid Healthcare Plans


Example 2- Capitation Fee Revenue

A physician group receives $300,000 in capitation fees from the Hartford Insurance Company to provide comprehensive health care to members of the company’s health plan. During the month it provides services for which it would bill, at standard rates, $240,000. In addition, it refers patients to hospitals and other health care providers for which it expects to be billed $18,000.

Entries:To record capitation fees:Cash $300,000

Revenue from capitation fees $300,000

To record liability for patient referrals:Patient referrals (expense) $18,000

Obligations for patient referrals $18,000

Stop-Loss Insurance ReceivablesASC 954-310-05-4

• Often used when HCO is paid under a capitation system– Transfers a portion of their financial risks

under the contract to another entity by purchasing an insurance policy

• Receivables include uncollected amounts recoverable under these policies



Revenue – all HCOs Donated services and supplies are reported at their fair

value, if material and meet criteria (either GASB or FASB).

According to textbook, Charity services to indigent patients for which payment is never expected does notneed to be recorded, but may be reported in the Notes to the Financial Statements. In looking at actual examples, I generally found charity

services deducted from gross patient revenues (at full billing rate).

This means that charity care is NOT being reported in net patient revenue but it is apparently being recorded!


Example 3- Charity Care

Question: A hospital values care provided to indigent patients at $300,000, based on standard billing rates. However, it anticipates collecting none of its services.

Answer: In this case, the hospital does not make any entry to record the value of the charitable care. However, it should explain its policies and report the total value of the care provided in notes to the financial statements.

In actual examples, it appears that charity care is being deducted from gross patient revenues by most hospitals!

Chapter 13 50

A not-for-profit hospital Note that bad debts are notdeducted from patient service

revenue

Chapter 13 51

Even for-profit hospitals do charity care!


See next slide for recent changes in ASC 954-605-50-3

Charity Care• Charity care is DISCLOSED (not recognized as

revenue)• Effective for years beginning after 12/15/10 per

ASC954-720-30-1– Disclose policies

• for providing charity care• the level of care provided• the basis for measuring the cost


Deaconess Health System (NFP)


Charity Care• Effective for years beginning after 12/15/10 per

ASC954-720-30-1– Measurement should be based on direct and

indirect costs of providing the care• If costs cannot be determined, may need to be

estimated:• Example: calculate a ratio of cost to gross charges,

and then multiplying that ratio by the gross uncompensated charges associated with providing care to charity patients.

– Separately disclose funds received to subsidize charity care (gifts or grants)



ALL reported within the unrestricted category.

Use full accrual basis of accounting. Expenses classified by function or object (aka

natural) Functional classification (e.g. inpatient services and fiscal and

administrative services) Object classification (e.g. line items such as salaries and

supplies)

Expenses –nonprofit HCO

FP and NFP HCO - Expenses (cont.)

Bad debts is an expense (NOT a reduction of gross revenue, as it had been in the past). And it isn’t necessarily “charity” either! Institution must have a policy on how it differentiates

charity care from bad debts




Chapter 13 58



This GASB hospital does NOT show bad debts as an expense!

All the government hospitals I looked at did the same thing so I assume it is acceptable!

Expenses (cont’d)

• Depreciation is recorded on capital assets and reported by all 3 types of HCO

• Stop loss insurance– Premiums are health care costs– Recoveries are reported as reductions of

health care costs



malpractice claims

risk contracting

third-party payor payments

obligations to provide uncompensated care

contractual agreements with physicians

as well as others incurred in any business

Commitments and Contingencies

Malpractice Claims• The liability has been presented

net of expected insurance recoveries• This is no longer GAAP - Effective for

years beginning after 12/15/10• ASC 954-450-25-2 & 25-3

– The liability shall not be presented net of expected recoveries

– Instead, recognize an asset for expected insurance recoveries



Example 1 – Malpractice ClaimsIssue: A hospital has been charged with negligence in the death of a

patient. Although no claim has yet been filed, past experience indicates that the hospital is almost certain to be sued.

Answer: The hospital would be required to charge an expense (a loss) in the period of the incident only if it were able to make a reasonable estimate of the amount. If unable to estimate the amount, it would be required to disclose the details of the incident. Assuming that the hospital was able to estimate the amount of loss ($500,000), the following entry will be made:

To record the estimated cost of settling a potential claim:

Anticipated legal claims (expense) $500,000Commitments and contingencies (liability) $500,000

Retroactively Rated Premiums for Insurance

• New for years beginning after 12/15/2010• Relates to insurance recoveries from

policies whose ultimate premium depends on the HCO’s loss experience– Account for the minimum premium over the

period of coverage– Insurance recoveries are not recognized until

they exceed the maximum premium


FINANCIAL & OPERATING ANALYSIS



Decision makers evaluate HCO for different reasons:

Managers are accountable for performance. Financial analysts determine the creditworthiness of

organizations issuing debt. Third-party payors determine appropriate payment for

services. Patients assess quality of health care services,

such as success rate of certain procedures.

Financial and Operational Analysis


These measures can be categorized by:

Patient volume (e.g., occupancy rate or daily census and average length of stay)

Patient and payout mix (e.g., Medicare, commercial, private pay)

Productivity and efficiency (e.g., personnel per average daily census)

Debt covenant ratios

HCO Performance Measures


SEA for HCO


70

Concluding Comments Health care accounting and auditing is

complex. Complexity is due in large measure to “patient

service revenue” being provided by third party payors. Competency in managerial cost accounting is

critical for managers of health care providers. There are numerous mergers and acquisitions

in the health care industry – involving HCOs of all types (new material in next slides)


MERGERS AND ACQUISITIONSNew guidance issued January 2010 for NFP


Merger of NFP Entities(new standard for mergers after Dec. 2009)

• Glossary Denition:A transaction or other event in which the governing bodies of two or more not-for-profit entities cede control of those entities to create a new not-for-profit entity.

• Use the “carryover method” • This is rather like the old “pooling of interests”

method for consolidations of business entities• See ASC 958-805


Merger of NFP Entities (new standard for mergers after Dec. 2009)

• Features of the “carryover method”– Combine the assets and liabilities recognized

in the separate financial statements of the entities

– Generally, classified the same way as before • Designations and donor restrictions

– No recognition of new assets such as intangibles for internally developed assets

– No goodwill



• Other acquisitions of NFP or FP business entities use the “acquisition method” which you learn about in Advanced Accounting– Identification of acquirer guidance is different

(ASC 958-805-25-15 & 25-16)– Goodwill has some differences as compared

to purely business combinations (ASC 958-805-25-27 thru 25-30)

– There may be an inherent contribution (ASC 958-805-25-31 & 958-805-30-8 thru 30-9)



• Donor lists– May meet separability criteria for recognition

as intangible– However, not recognized if it cannot be sold

or leased due to confidentiality concerns or other agreements



• Goodwill recognition depends on whether the acquired NFP is funded largely from contributions and investment income– If not, goodwill is recognized– If yes, the net assets acquired are offset by a

contribution reported on the statement of activities (or sometimes an expense)

• This is best understood through examples FASB provides



• Collection items– If the acquirer does not capitalize collection items,

only items that can be sold would be part of the identifiable net assets acquired

– In Example 1, there are 500 paintings that are considered “not suitable” and can be sold since there are no donor restrictions on them



• Collection items – Example 1– Assuming the acquirer paid NOTHING in cash for the

identifiable net assets:• Recognize contribution of $1,500 in its statement

of activities (to offset adding the net assets below)

• debit credit• Assets 1,700

Liabilities 200Contribution 1,500



• Collection items– Sometimes, it might not be clear if the collection items

are an acquisition or a contribution– ASC Example 2 (958-805-55-51)

• Assume museum has noncapitalization policy• Acquirer transfers $1,600 to a foundation so is there $900 of

Goodwill?



• Example 2 - $1,600 paid to a foundation– If value of unrecognized paintings is greater

than the $900 difference, no goodwill and no contribution would be recognized

• debit credit• Assets 900

Liabilities 200Expense (items acquired) 900Cash 1,600



• Example 2 - $1,600 paid to a foundation– What if the paintings are worth only $300?

• This assumes that the acquiree does not qualify for immediate write-off of goodwill because so much of its support comes from something other than contributions and investment returns

• debit credit• Assets 900

Liabilities 200Goodwill 600Expense (items acquired) 300Cash 1,600



• Example 2 - $1,600 paid to a foundation– If acquiree is predominately supported by

contributions and investment income• debit credit• Assets 900

Liabilities 200Expense (items acquired) 300Excess consideration paid* 600Cash 1,600

*Appears on statement of activities – see ASC 958-805-55-60 example (next slide)


Presenting “negative goodwill” instead of a contribution


An NFP Hospital can have a noncontrolling interest in a NFP or FP (ASC 958-810-55-23)


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