With the failed effort to overturn the Patient Protection and Affordable Care Act (a/k/a Obamacare) this week, the expansion of Medicaid coverage in effect since that law’s passage will be around for a while. The bill to repeal Obamacare would have ended federal support for expanded state Medicaid programs, which currently covers 95% of the costs for those with incomes up to 133% of the poverty line.

The survival of Medicaid’s expanded footprint represents a familiar principle of public policy; namely, it is difficult, if not impossible, to eliminate a government benefit once it is created. For lenders, this means that borrowers in the healthcare industry will depend more heavily on government reimbursement both from Medicaid and from Medicare—health insurance for those 65 and over regardless of income--as the nation’s population ages.  

So the time is ripe to review the issues raised by lending against Medicare and Medicaid receivables. 

Medicare and Medicaid receivables are subject to anti-assignment rules that require that such payments go directly to providers and not lenders, so common cash dominion tools such as lockboxes and blocked accounts are verboten.

Official pronouncements of Medicare regulators permit lenders to take “non-possessory” security interests, however. This term is not found in the laws of commercial lending, but translated it means a bank can have a security interest in proceeds of such receivables deposited into bank accounts the borrower can access.  So good news, it can be done; bad news, a lender can’t obtain cash dominion unless the borrower makes voluntary transfers to the bank’s dominion accounts.

More troubling is the requirement that banks waive their right of setoff as to proceeds of Medicare/Medicaid receivables, regardless of the type of account in which they are held. This rule appears nowhere in the Medicare and Medicaid statutes, but was created by healthcare regulators. Thankfully, as with the rule as to non-possessory liens, there is a back door route to the desired result. 

Banks are permitted to take security interests in deposit accounts containing Medicare and Medicaid proceeds despite the prohibition on setoff. How does a security interest in a bank account differ from a right of setoff? Not much. First, a bank must take affirmative steps to perfect such a security interest, while a right of setoff exists any time a bank holds deposits of a borrower. Second, a bank must notify a borrower before exercising its rights in deposit accounts, while no prior notice is required in order to exercise a right of setoff unless a bank has affirmatively agreed to do so in a loan or security agreement.

Medicare and Medicaid receivables in a healthcare borrower’s payor mix thus represent both a risk and an opportunity. They can generate additional availability and interest income if a lender is willing to give up its right of setoff, normally considered the banking equivalent of the family jewels. In this case, however, it’s one you can trade in for another that’s just as good. 

Professionals