Focus on Health Care Provider Bankruptcies
The next few years are expected to see a significant increase in the volume of bankruptcy cases filed by health care providers. Thus far in 2017, the number of bankruptcies in health care-related sectors, including hospitals, physicians’ offices and clinics, specialty outpatient facilities, assisted-living facilities, and other providers, has been surpassed only by bankruptcies in the oil and gas, finance, and retail industries. According to Standard & Poor’s Global Ratings, the health care sector has seen a significant jump in the number of distressed companies, although it still ranks behind oil and gas, financial institutions, consumer products, media/entertainment, capital goods, and retail on the agency’s list.
This uptick can be attributed to a number of factors, including continuing uncertainty concerning the possible collapse, replacement, or defunding of the Affordable Care Act; increased competition; the need for investment in additional personnel and technology; the erosion of profitability due to the evolution from a "fee for service" payment model to a "bundle of services" payment model; liquidity problems caused in part by delays or disputes regarding reimbursement from government and private payers as well as the recoupment or setoff of overpayments; operational changes; increased pharmaceutical costs; and rising wages. These and other factors have led an increasing number of financially distressed providers to consider bankruptcy as a vehicle for effectuating closures, consolidation, restructurings, and related transactions.
Health Care Provider Bankruptcy Issues
Certain provisions in the Bankruptcy Code deal specifically with health care debtors. Others apply more generally to nonprofit (eleemosynary) entities, among which are many hospitals and other health care providers. Finally, certain issues arising in bankruptcy cases have special significance for health care providers. These provisions and issues include, but are not limited to:
Disposal of Patient Records. "Patient records" (defined in section 101(40B) of the Bankruptcy Code) are vitally important documents in the health care industry and as such are subject to stringent federal and state confidentiality and disclosure regulations. Section 351 of the Bankruptcy Code, as supplemented by Rule 6011 of the Federal Rules of Bankruptcy Procedure (the "Bankruptcy Rules"), provides specific requirements for the disposal of patient records that apply only if, in the bankruptcy case of a "health care business," the trustee has insufficient funds to pay for the storage of patient records "in the manner required under applicable Federal or State law." The trustee is obligated to provide personal and publication notice that the records will be either entrusted to an appropriate federal agency or destroyed unless claimed within one year.
Section 101(27A) of the Bankruptcy Code defines a "health care business" as:
[A]ny public or private entity (without regard to whether that entity is organized for profit or not for profit) that is primarily engaged in offering to the general public facilities and services for . . . the diagnosis or treatment of injury, deformity, or disease; and . . . surgical, drug treatment, psychiatric, or obstetric care; [and includes, among other providers, hospitals; emergency treatment facilities; hospices; home health agencies; and nursing, assisted-living, and long-term care facilities].
There have been very few reported decisions regarding section 351, which, like most of the health care bankruptcy provisions, was added to the Bankruptcy Code in 2005. See, e.g., In re LLSS Mgmt. Co., 2008 BL 26599 (Bankr. E.D.N.C. Feb. 11, 2008) (applying section 351’s requirements to a chapter 7 trustee’s destruction of medical records where applicable state law did not include any record retention requirement); In re 7-Hills Radiology, LLC, 350 B.R. 902 (Bankr. D. Nev. 2006) (ruling that a chapter 11 debtor was not a "health care business" subject to the "patient care ombudsman" provision (section 333), section 351, or other health care business debtor provisions).
Patient Care Ombudsmen. Section 333 of the Bankruptcy Code provides for the appointment of a patient care "ombudsman" within 30 days after the commencement of any health care business bankruptcy case. The ombudsman serves as a "patient advocate," as distinguished from a representative of creditors, entrusted with monitoring the quality of patient care, representing the interests of patients, and reporting to the bankruptcy court every 60 days on the status of patient care. See, e.g., In re Alternate Family Care, 377 B.R. 754 (Bankr. S.D. Fla. 2007) (adopting the widely cited, nonexclusive nine-factor test for determining whether a patient care ombudsman should be appointed); In re Banes, 355 B.R. 532 (Bankr. M.D.N.C. 2006) (denying a motion for the appointment of a patient care ombudsman where the chapter 7 debtor, a former dental services provider, was no longer doing business and was therefore not a "health care business" under section 101(27A)). Bankruptcy Rule 2007.2 sets forth the procedure for appointing a patient care ombudsman. Bankruptcy Rule 2015.1 obligates the ombudsman to file certain reports with the court. Section 330(a) of the Bankruptcy Code provides that patient care ombudsmen are professionals entitled to apply for compensation from the estate.
Duty to Transfer Patients of Closing Health Care Business and Restrictions on Transfers. Sections 704(a)(12) and 1106(a)(1) of the Bankruptcy Code obligate a trustee to use "all reasonable and best efforts" to transfer patients ("patient" is defined in section 101(40A)) from a health care business debtor that is to be closed to an "appropriate" health care business in the vicinity providing substantially similar services and a reasonable quality of care. See, e.g., In re Anderson, 2008 BL 134069 (Bankr. N.D. Cal. June 23, 2008) (ruling that a chapter 7 trustee may abandon a nursing-home facility but must comply with the transfer obligations in section 704(a)(12)). Bankruptcy Rule 2015.2 provides that, unless the court orders otherwise, the trustee in a health care business case may not transfer a patient to another health care business under section 704(a)(12) without giving 14 days’ notice of the transfer to any patient care ombudsman, the patient, and any contacts provided by the patient, subject to applicable patient privacy laws. Section 503(b)(8) of the Bankruptcy Code grants a special administrative expense priority for the expenses of winding up a health care business.
Exemption From Automatic Stay for Exclusion From Medicare Participation. Section 362(b)(28) of the Bankruptcy Code exempts from the automatic stay the "exclusion" of a debtor from participation in Medicare or any other federal health care program by the U.S. Secretary of Health and Human Services. "Exclusion" is a specific remedy contemplated by 42 U.S.C. § 1320a-7. It refers to the prohibition of certain individuals and entities from participation in any federal health care program for a period of one to five years, and it can be either mandatory or permissive. Mandatory exclusion is required for criminal convictions on various grounds. Among the permissive exclusion grounds are convictions relating to fraud or obstruction of an investigation or audit, license revocation or suspension, failure to take corrective action, claims for excessive charges or unnecessary services, and the failure of certain organizations to furnish medically necessary services. See, e.g., MMM Healthcare, Inc. v. Santiago (In re Santiago), 563 B.R. 457, 475 (Bankr. D.P.R. 2017) (noting that "[c]ase law regarding the application of section 362(b)(28) is scant" and refusing to decide on a motion for summary judgment whether the termination of a physician’s provider agreement by health maintenance organizations was covered by section 362(b)(28) exclusion from the automatic stay).
Termination of Provider Agreements. A commonly contested issue in health care provider bankruptcy cases is whether a federal or state agency can terminate a health care debtor’s Medicare or Medicaid provider agreement. The relationship between Medicare or Medicaid programs and providers is expressed in a written provider agreement, which allows providers to participate in the programs’ prospective reimbursement programs.
Medicare and Medicaid were created by the Social Security Amendments of 1965. The programs are subject to certain provisions in the Social Security Act of 1935, as amended, 42 U.S.C. Ch. 7 (the "SSA"), which originally omitted medical benefits, as well as other regulations. The Medicare program is administered by the Centers for Medicare & Medicaid Services ("CMS"). CMS, in turn, contracts with regional providers, called "fiscal intermediaries," to review, process, and pay Medicare claims. Medicaid is generally administered by state agencies through medical assistance programs.
Federal and state officials may terminate a provider agreement if they determine that the provider is not complying with its terms or other legal requirements. See SSA §§ 1396i-3(h)(2) and 1396r(h)(2); 42 C.F.R. §§ 488.406 and 488.408(e). A provider is entitled to written notice of any deficiencies noted in a state survey, a statement of any remedies imposed, and a statement of the provider’s right to appeal. 42 C.F.R. §§ 488.330(c) and 488.402(f). If a sanction is imposed, the provider may generally contest the underlying findings in a formal evidentiary hearing before an administrative law judge. 42 C.F.R. §§ 498.3(b), 498.5, and 431.153(i).
The SSA limits a provider’s ability to pursue claims arising under the law in federal court. Sections 405(g) and 405(h) of the SSA are made applicable to Medicare and Medicaid under SSA §§ 1395ff(b)(1)(A) and 1395ii. Section 405(g) requires the exhaustion of administrative remedies concerning, among other things, a decision by the government to terminate a provider agreement. Section 405(h) provides that, in connection with the government’s actions or decisions concerning Medicare and Medicaid (including the termination of provider agreements), no claim may be brought against the government under 28 U.S.C. § 1331 (federal question jurisdiction) or 28 U.S.C. § 1346 (jurisdiction when the United States is a defendant).
The majority of circuits have adopted the view that, although section 405(h) omits any reference to grants of jurisdiction under 28 U.S.C. § 1334, which governs jurisdiction in bankruptcy cases, the jurisdictional bar nevertheless applies to grants of jurisdiction in bankruptcy cases, meaning that the bankruptcy court lacks jurisdiction to resolve a dispute over the termination of a provider agreement until the provider has exhausted administrative remedies. See Fla. Agency for Health Care Admin. v. Bayou Shores SNF, LLC (In re Bayou Shores SNF, LLC), 828 F.3d 1297 (11th Cir. 2016); Nichole Med. Equip. & Supply, Inc. v. TriCenturion, Inc., 694 F.3d 340 (3d Cir. 2012); Midland Psychiatric Assocs., Inc. v. United States, 145 F.3d 1000 (8th Cir. 1998); Bodimetric Health Servs., Inc. v. Aetna Life & Cas., 903 F.2d 480 (7th Cir. 1990); accord Parkview Adventist Med. Ctr. v. United States, 2016 BL 166858 (D. Me. May 25, 2016). The Ninth Circuit has adopted a contrary position. See Do Sung Uhm v. Humana, Inc., 620 F.3d 1134 (9th Cir. 2010); see also Nurses’ Registry & Home Health Corp. v. Burwell, 533 B.R. 590 (Bankr. E.D. Ky. 2015) (noting in connection with a motion for a stay pending appeal that the court previously ruled that section 405(h) does not preclude the issuance of an injunction and order to continue payments under a provider agreement in a Medicare dispute where administrative remedies have not been exhausted because it omits reference to 28 U.S.C. § 1334; however, the court vacated the order in December 2015 following a settlement and joint request for vacatur).
In Bayou Shores, for example, the Eleventh Circuit ruled that a bankruptcy court does not have jurisdiction to enjoin the federal government from terminating Medicare and Medicaid provider agreements due to Medicare’s jurisdictional bar in section 405(h) of the SSA. The Eleventh Circuit accordingly affirmed a district court order overturning bankruptcy court orders enjoining termination of such a provider agreement and confirming a plan under which the debtor assumed the agreement. The U.S. Supreme Court refused to review the ruling on June 5, 2017. See Bayou Shores SNF, LLC v. Fla. Agency for Health Care Admin., 198 L. Ed. 2d 658 (U.S. 2017).
In Parkview Adventist Med. Ctr. v. United States, 842 F.3d 757 (1st Cir. 2016), the First Circuit acknowledged the majority view on the issue but resolved the case before it on narrower grounds. It considered a bankruptcy court’s determination that, pending a hospital’s exhaustion of administrative remedies, as required by section 405(h), the court lacked jurisdiction over a hospital debtor’s motion seeking a determination that the government’s termination of a Medicaid provider agreement violated the automatic stay (among other things). However, instead of wading into the jurisdictional morass, the First Circuit ruled that termination of the provider agreement was excepted from the automatic stay under section 362(b)(4), which provides that the automatic stay of actions against the debtor does not apply to an action or proceeding by a "governmental unit" to enforce its "police and regulatory power."
A Seventh Circuit panel refused to rule on the jurisdictional question in Home Care Providers, Inc. v. Hemmelgarn, 2017 BL 221083 (7th Cir. June 27, 2017). It held instead that the appeal of a bankruptcy court’s injunction preventing the federal government from terminating provider agreements was moot because the agreements expired before the district court ruled that the bankruptcy court lacked jurisdiction under section 405(h). The health care provider petitioned for en banc reconsideration of the ruling on July 11, 2017.
Special Problems Regarding Recoupment and Setoff. Under Medicare and Medicaid’s periodic interim payment system, reimbursement payments under provider agreements are made before the government agency has determined whether the provider is fully entitled to reimbursement. See 42 C.F.R. § 413.60. Section 1395g(a) of the SSA provides that:
[t]he Secretary shall periodically determine the amount which should be paid under this part to each provider of services with respect to the services furnished by it, and the provider of services shall be paid, at such time or times as the Secretary believes appropriate . . . the amounts so determined, with necessary adjustments on account of previously made overpayments or underpayments.
The provider is legally obligated to return any overpayments.
If a provider files for bankruptcy before remitting overpayments to CMS or a regional agency, the automatic stay may or may not prevent actions by CMS or the agency to recover the overpayments. Most courts have concluded that a provider’s participation in the Medicare program involves a single, integrated, and ongoing transaction between the government and the provider, such that the government’s recovery of overpayments is a "recoupment" rather than a setoff. See, e.g., In re Slater Health Ctr., Inc. (Slater), 398 F.3d 98 (1st Cir. 2005); In re Holyoke Nursing Home, Inc., 372 F.3d 1 (1st Cir. 2004); In re Doctors Hosp. of Hyde Park, Inc., 337 F.3d 951 (7th Cir. 2003); In re TLC Hosps., Inc., 224 F.3d 1008 (9th Cir. 2000); United States v. Consumer Health Servs. of Am., Inc., 108 F.3d 390 (D.C. Cir. 1997). But see In re Univ. Med. Ctr., 973 F.2d 1065 (3d. Cir. 1992) (reasoning that because each government payment provides compensation for services performed in a set time span, each payment concerned different services rendered and thus constituted a separate transaction).
The distinction is important, because any post-bankruptcy setoff of mutual pre-bankruptcy claims arising from separate transactions under section 553 of the Bankruptcy Code is subject to the automatic stay (see 11 U.S.C. § 362(a)(7)), whereas recoupment—involving a single transaction—is not. See Fischbach v. Ctrs. for Medicare & Medicaid Servs. (In re Fischbach), 464 B.R. 258, 262 (Bankr. D.S.C. 2012) (citing In re Univ. Med. Ctr., 973 F.2d 1065 (3d Cir. 1992)), aff’d, 2013 BL 76232 (D.S.C. Mar. 22, 2013).
The doctrine of recoupment is not applied uniformly in all jurisdictions when it comes to health care bankruptcy cases. For example, courts disagree as to whether different provider "cost report years" are part of the "same transaction or occurrence" for purposes of determining whether the government can recoup overpayments from future Medicare reimbursement payments. Compare Sims v. U.S. Dep’t of Health & Human Servs. (In re TLC Hosps., Inc.), 224 F.3d 1008, 1013 (9th Cir. 2000) (for purposes of recoupment, "[t]he fact that the overpayments and underpayments relate to different fiscal years does not destroy their logical relationship or indicate that they pertain to separate transactions"), with Univ. Med. Ctr. v. Sullivan (In re Univ. Med. Ctr.), 973 F.2d 1065, 1080 (3d Cir. 1992) ("reimbursement payments made for any one year arise from transactions wholly distinct from reimbursement payments made for subsequent years").
Sale or Closure of Health Care Business—Assumption and Assignment of Provider Agreements. Many distressed health care providers with little prospect for improvement of their financial condition have only two options: shutter the business or attempt to sell it in bankruptcy free and clear of liabilities, including overpayment claims. The viability of a bankruptcy sale depends on a number of factors, including whether the debtor’s Medicare or Medicaid provider agreements or provider numbers can be sold or assigned. Other issues impacting a sale may include zoning or regulatory restrictions, potential successor liability for medical malpractice claims, and the impact that a nonprofit health care debtor’s charitable mission has on determining the "highest and best" offer for assets. See In re United Healthcare Sys., Inc., 1997 BL 8656 (D.N.J. Mar. 27, 1997); In re HHH Choices Health Plan LLC, 554 B.R. 687 (Bankr. S.D.N.Y. 2016).
Section 363(f) of the Bankruptcy Code authorizes the trustee or chapter 11 debtor-in-possession ("DIP") to sell property of the bankruptcy estate "free and clear of any interest in such property of an entity other than the estate" under certain specified conditions. If the health care business debtor is an operating nonprofit, section 363(d)(1) provides that the trustee or DIP may use, sell, or lease the debtor’s property "only in accordance with nonbankruptcy law applicable to the transfer of property" by such debtor. See In re Gardens Reg’l Hosp. & Med. Ctr., Inc., 567 B.R. 820 (Bankr. C.D. Cal. 2017) (because a closed nonprofit hospital does not qualify as a "health facility" under California law, the debtor was not required to obtain the California attorney general’s consent prior to selling a material portion of its assets). In addition, pursuant to section 541(f), the assets of a nonprofit corporation debtor may be sold to a for-profit corporation only under the same conditions that govern under applicable nonbankruptcy law. See Ky. Emps. Ret. Sys. v. Seven Cntys Servs., Inc. (In re Seven Cntys Servs., Inc.), 511 B.R. 431 (Bankr. W.D. Ky. 2014) (sections 363(d)(1) and 541(f) did not mandate that a nonprofit debtor remain a member of the state retirement system).
Section 365 of the Bankruptcy Code governs the assumption and assignment of provider agreements. Section 365(b) provides that, with certain exceptions and conditions, an "executory" contract, such as a provider agreement, can be assumed only if the trustee or DIP cures all monetary payment defaults under the agreement. Section 365(f) permits the assignment of an assumed contract if certain additional prerequisites are met.
The monetary cure costs of assuming a provider agreement can be high if the debtor has received significant overpayments. Thus, the ability to sell a provider agreement free and clear of liability for such overpayments can result in significant savings. Few reported decisions have actually addressed whether provider agreements are executory contracts (requiring cure as a condition to assumption and assignment) or assets of the estate that can be sold free and clear of liabilities. Most bankruptcy courts considering the issue, however, have concluded that the Medicare provider agreement is an executory contract. See In re Vitalsigns Homecare, Inc., 396 B.R. 232, 239 (Bankr. D. Mass. 2008) (citing and discussing cases).
However, in In re BDK Health Management, Inc., 1998 WL 34188241 (Bankr. M.D. Fla. Nov. 16, 1998), the bankruptcy court held that Medicare provider agreements are statutory entitlements which can be sold free and clear of claims and interests. The court reasoned that: (i) the rights and duties of health care providers and CMS are set forth in statutes and regulations, rather than contracts; and (ii) a provider must initiate administrative proceedings rather than sue for breach of contract to contest CMS’s reimbursement decisions.
By contrast, the bankruptcy court in Vitalsigns ruled that Medicare provider numbers arise out of executory contracts which cannot be assumed and assigned to buyers as part of a sale without curing the associated liabilities. Requiring the provider agreement to be assumed, the court reasoned, "harmonizes both the Medicare and Bankruptcy statutes" without rendering either a nullity (because Medicare statutes and regulations expressly provide for recoupment of overpayments and the Bankruptcy Code expressly authorizes free-and-clear asset sales). Vitalsigns, 396 B.R. at 240–41.
Lender Issues. A health care provider’s accounts receivable are frequently pledged as collateral for a loan. However, government accounts receivable, such as Medicare and Medicaid reimbursement payments, are subject to federal and state "anti-assignment rules" that require the payments to be deposited in accounts controlled solely by providers. See 42 U.S.C. §§ 1395g(c) and 1396a(32). As a consequence, government accounts receivable serving as collateral are generally deposited directly into a provider’s bank account, from which the funds, in accordance with a "double lockbox" structure, are swept into an account under the lender’s control on a daily basis. If the provider files for bankruptcy, the automatic stay prohibits the cash sweep, obligating the debtor and the lender to negotiate a cash-collateral agreement providing for, among other things, "adequate protection" payments to the lender.
Recent Case Study: Gardens Regional Hospital
One of the challenges commonly faced by health care providers that file for bankruptcy protection was the subject of a ruling handed down by the U.S. Bankruptcy Court for the Central District of California in In re Gardens Reg’l Hosp. & Med. Ctr., Inc., 569 B.R. 788 (Bankr. C.D. Cal. 2017).
Gardens Regional Hospital and Medical Center, Inc. (the "debtor") operated a general acute-care hospital in California. In 2014, the debtor entered into an agreement to provide Medicaid services under the California Medical Assistance Program, more commonly known as "Medi-Cal," which is administered by the California Department of Health Care Services (the "DHCS"). The debtor provided health care to Medi-Cal beneficiaries on a fee-for-service basis and, as a result, was entitled to receive Medi-Cal fee-for-service payments. The debtor was also entitled to receive supplemental hospital quality assurance payments ("HQA payments") on account of certain services provided to Medi-Cal beneficiaries.
As a condition to participating as a Medi-Cal provider, the debtor, like other acute-care hospitals, was obligated under California law to pay a quarterly hospital quality assurance fee (an "HQA fee").
In March 2015, the debtor stopped paying its quarterly HQA fees, and it filed for chapter 11 protection in the Central District of California on June 6, 2016. As of the petition date, the debtor owed nearly $700,000 in HQA fees. After the bankruptcy filing, to recover the unpaid prepetition fees, the DHCS began withholding 20 percent of the Medi-Cal payments owed to the debtor, as well as an unspecified percentage of the HQA payments owed to it.
By July 18, 2016, the DHCS had recovered all of the unpaid prepetition HQA fees as a result of its withholding. However, the DHCS continued withholding because the debtor failed to pay postpetition HQA fees. During the case, the DHCS withheld a total of approximately $4.3 million in HQA payments and Medi-Cal payments and applied the withheld funds to unpaid HQA fees. Even with the withholding, the debtor still owed more than $2.5 million in postpetition HQA fees.
The debtor sought a court order compelling the DHCS to disgorge the approximately $4.3 million in payments it had withheld, claiming that the withholding was a setoff which represented an ongoing willful violation of the automatic stay by the DHCS. The debtor further argued that the DHCS could not have effectuated the setoff even if it had obtained stay relief because section 553 of the Bankruptcy Code does not permit postpetition obligations to be set off against prepetition debt.
The DHCS countered that the withholding was a recoupment rather than a setoff because the HQA fees, the HQA payments, and the Medi-Cal payments all arose from the same transaction. In response, the debtor argued that its HQA fee obligation did not arise from the same transaction as its entitlement to HQA payments and Medi-Cal payments because: (i) the HQA fee liability exists whether or not a provider participates in the Medi-Cal program; and (ii) different statutory formulas are used to calculate the HQA fees and the entitlements to HQA payments and Medi-Cal payments.
The bankruptcy court ruled that the doctrine of recoupment allowed the DHCS to withhold the HQA payments without obtaining stay relief. The court explained as follows:
[R]ecoupment is an equitable doctrine that exempts a debt from the automatic stay when the debt is inextricably tied up in the post-petition claim. Unlike setoff, recoupment is not limited to pre-petition claims and thus may be employed to recover across the petition date. The limitation of recoupment that balances this advantage is that the claims or rights giving rise to recoupment must arise from the same transaction or occurrence that gave rise to the liability sought to be enforced by the bankruptcy estate. . . . For recoupment purposes, a transaction may include a series of many occurrences, depending not so much upon the immediateness of their connection as upon their logical relationship, . . . provided that the "logical relationship" test is not applied so loosely that multiple occurrences in any one continuous commercial relationship would constitute one transaction.
2017 BL 213538, at *4 (internal quotation marks and citations omitted).
The court found that a logical relationship existed between the HQA fees and the HQA payments because, without HQA fees, the DHCS could not collect federal matching funds in an amount sufficient to make HQA payments. It noted that courts in the Ninth Circuit have given the term "transaction" a "liberal and flexible construction," requiring only that obligations be "sufficiently interconnected so that it would be unjust to insist that one party fulfill its obligation without requiring the same of the other party." Id. (citing Aetna U.S. Healthcare, Inc. v. Madigan (In re Madigan), 270 B.R. 749, 755 (B.A.P. 9th Cir. 2001)). According to the bankruptcy court, even though different statutory formulas are used to calculate HQA fees and HQA payments, a "fundamental logical connection" exists between them.
The bankruptcy court also determined that the DHCS properly recouped the HQA fees by withholding the Medi-Cal payments. The court explained that the debtor’s eligibility to participate in the Medi-Cal program was conditioned on compliance with its provider agreement, including the statutory obligation to pay HQA fees, failing which the DHCS was expressly authorized to deduct unpaid fees from Medi-Cal payments. Thus, the court found that the provider agreement "create[d] a sufficient logical relationship" between the debtor’s HQA fee liability and its Medi-Cal payments. Id. at *6.
Gardens Regional Hospital is emblematic of the challenges currently faced by many financially distressed health care providers. Even so, the recoupment/setoff distinction is only one of many issues that may be implicated if a provider files for bankruptcy. Others besides those addressed in this article may arise.
For example, because the "absolute priority rule" in section 1129(b)(2) of the Bankruptcy Code may not apply to nonprofit debtors, a health care provider organized as a nonprofit may be able to obtain confirmation of a cramdown chapter 11 plan that retains the pre-bankruptcy ownership structure without paying creditors in full. See In re Whittaker Memorial Hospital Ass’n, 149 B.R. 812 (Bankr. E.D. Va. 1993); In re Independence Village Inc., 52 B.R. 715 (Bankr. E.D. Mich. 1985); see also In re Corcoran Hosp. Dist., 233 B.R. 449, 458 (Bankr. E.D. Cal. 1999) (stating in a hospital case under chapter 9 that "[i]n a reorganization of a municipality under Chapter 9 or of a non-profit corporation under Chapter 11, the [absolute priority] requirement must be interpreted somewhat differently"). This obviously would be an important consideration in a nonprofit company’s pre-bankruptcy planning.
Another issue that arises in health care provider bankruptcy cases is whether quality assurance fees levied by state agencies administering Medicaid (such as the HQA fees addressed in Gardens Regional Hospital) are entitled to priority as excise taxes under section 507(a)(8) of the Bankruptcy Code. See In re Ridgecrest Healthcare, Inc., 2017 BL 297740 (Bankr. C.D. Cal. Aug. 24, 2017) (ruling that such fees meet the Ninth Circuit’s five-factor test for determining whether a fee is an excise tax).
In addition, although nonprofit health care entities are eligible to file for protection under chapters 7 and 11 (and chapter 9, under certain circumstances), they are not subject to involuntary bankruptcy petitions (see 11 U.S.C. § 303(a)), nor can the chapter 11 case of a nonprofit debtor be converted to a chapter 7 liquidation without the debtor’s consent. See 11 U.S.C. § 1112(c).
Still another thorny issue in cases involving distressed nonprofit health care providers is directors’ and officers’ fiduciary duties, which typically are owed to a charitable mission rather than shareholders when the company is solvent.
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