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Physicians can improve cash flow at their practices by financing their accounts receivable, but practices should use diligence before accepting terms
Cash flow is the lifeblood of any business. Financing the provider’s patient accounts receivable is one way to generate needed capital. Instead of waiting to receive reimbursement from third-party payers for healthcare services or goods provided, receivables financing allows providers to get a portion of that money sooner, thus accelerating cash flow.
Providers considering receivables financing should become familiar with the structure and how it might impact their cash flow. This article will provide an overview of receivables financing for healthcare providers.
Accounts receivable financings are secured by the provider’s patient accounts receivable. In a loan secured by equipment or real property, with which providers may be more familiar, the provider usually borrows a set amount of money in one lump sum. So long as the provider repays the loan as required, the lender takes a relatively hands-off approach and does not closely monitor the provider’s business. Accounts receivable financings generally function differently.
Since the lender’s collateral is constantly changing as receivables are collected and new receivables are generated, the provider’s ability to borrow adjusts accordingly.
For this reason, these financings are generally structured as lines of credit, where the provider can borrow, repay the loan, and re-borrow as new receivables are generated. In order for the lender to determine the borrowing availability continually, the lender must have access to up-to-date receivables information.
Usually providers are able to borrow up to the lesser of the maximum amount of the facility and the “borrowing base.”
The borrowing base is the lender’s calculation of the provider’s borrowing ability based on the amount the provider is expected to collect on its eligible receivables, which amount is discounted to provide a cushion for the lender.
For example, a lender may consider all patient receivables that are less than 90 days old and that are owed by third-party payers (for example, managed care organizations, Medicare, and Medicaid) to be eligible for purposes of the borrowing base calculation. The provider would be able to borrow a percentage, such as 80%, of the amount the provider is expected to collect on these receivables.
Understanding the borrowing base calculation is important for several reasons. First, the provider should be aware that despite the maximum value of a facility, it will only be allowed to borrow up to its borrowing base.
Second, lenders commonly charge a fee for the “unused” portion of a facility, or the difference between the maximum amount and the borrowing base.
Therefore, a provider should negotiate a maximum facility amount that does not significantly exceed its projected borrowing base.
Third, because the borrowing base is a percentage of eligible receivables, the provider should focus on the eligibility criteria.
While it is expected that lenders will reserve some discretion in loan documents, wide discretion in this area could result in the provider’s borrowing availability being substantially lower than the provider expected.
Another crucial aspect of an accounts receivable financing is cash management. Since the lender’s main collateral is cash collections, which is easily disposable, the lender may want to monitor its collateral.
Lenders will often require the provider to have its third-party payers send payments on receivables directly to the lender. The lender then automatically retains monies owed to it, and returns any excess cash to the provider. As the provider needs additional cash it re-borrows and the cycle continues.
Implementing this cash management system allows the lender to exercise control over its collateral. If the provider defaults under the loan documents and a balance is outstanding, the lender may repay itself without the provider’s cooperation. However, there is one important limitation on this system.
Payments from Medicare and Medicaid must be made directly to the provider of services, except in limited circumstances. Thus, a healthcare provider may not direct these payments to be sent directly to a bank account that is controlled by the lender.
This limitation is designed to prevent fraudulent billing practices. Because of this limitation, lenders generally require that payments from governmental entities be sent to a lockbox controlled by the provider.
The provider then instructs the bank to sweep all of the funds to the lender periodically. These instructions must be revocable; however, the provider can agree in the loan documents not to change or revoke the instructions. If the provider does redirect the funds, it is considered an event of default under the loan documents.
A cash management system of this type gives the lender the maximum permissible control over the provider’s cash collections.
Another issue that both providers and lenders need to focus on when healthcare receivables are involved is the confidentiality of patient information.
In the course of reviewing information about the provider’s accounts receivable, a lender typically will have access to patient health information. The federal law dealing with patient confidentiality is the Health Insurance Portability and Accountability Act (HIPAA) of 1996. HIPAA limits uses and disclosures of patient information by the provider.
Under HIPAA, the lender is likely to be viewed as a “business associate” of the provider. Providers may disclose patient information to business associates so long as a HIPAA-compliant business associate agreement exists between the provider and the business associate.
Business associate agreements must contain certain provisions designed to ensure that the business associates maintains the confidentiality and security of the patient information disclosed to them by the provider. State confidentiality laws may also apply to this situation.
In addition to the foregoing transactional issues, providers should be aware that it may be difficult to get out of an accounts receivable financing.
By its nature, accounts receivable financing is structured so that the provider is continuously dependent upon the lender for capital, as the provider borrows and its collections are applied to pay down the existing loan.
Thus, if a provider consistently borrows the full availability under its loan facility and spends substantially all of the proceeds, the provider may not have sufficient funds to satisfy all outstanding obligations, either at the maturity of the loan or earlier.
If feasible, the provider could try to wean itself off the facility by gradually decreasing its borrowings. By doing so, cash collections may accumulate to fund all or a portion of a payoff. Alternatively, the provider will need to refinance the debt.
Accounts receivable financings are a viable alternative for healthcare providers to raise capital, but it is essential for a provider to understand how these financings function in order to evaluate both the financial benefits and the impact on the provider’s cash flow.
Christina Van Vort, JD, is a partner at Garfunkel Wild, P.C. in Great Neck, New York. She specializes in areas of healthcare law including regulation, HIPAA compliance, and financing.