Facilities News Spotlight

2024-01-02 Spotlight: U.S. Nursing Home Finances: Spending, Profitability and Capital Structure

This study, United States’ Nursing Home Finances: Spending, Profitability, and Capital Structure, was issued by the Long Term Care Community Coalition.  The entire text, including footnotes, can be accessed at the above link.

By Charlene Harrington, Richard Mollot, and Dunc Williams, Jr.
Sage Journals, December 19, 2023

Little is known about nursing home (NH) financial status in the United States even though most NH care is publicly funded. To address this gap, this descriptive study used 2019 Medicare cost reports to examine NH revenues, expenditures, net income, related-party expenses, expense categories, and capital structure. After a cleaning process for all free-standing NHs, a study population of 11,752 NHs was examined. NHs had total net revenues of US$126 billion and a profit of US$730 million (0.58%) in 2019. When US$6.4 billion in disallowed costs and US$3.9 billion in non-cash depreciation expenses were excluded, the profit margin was 8.84 percent. About 77 percent of NHs reported US$11 billion in payments to related-party organizations (9.54% of net revenues). Overall spending for direct care was 66 percent of net revenues, including 27 percent on nursing, in contrast to 34 percent spent on administration, capital, other, and profits. Finally, NHs had long-term debts that outweighed their total available financing. The study shows the value of analyzing cost reports. It indicates the need to ensure greater accuracy and completeness of cost reports, financial transparency, and accountability for government funding, with implications for policy changes to improve rate setting and spending limits.

Studies over many years have documented poor quality care and inadequate staffing in nursing homes (NHs) in the United States. While the public focus is generally on care and conditions of long-term residents, who are typically among the oldest and most frail individuals, even short-stay Medicare NH residents have a high rate of adverse events and deaths, and high rates of hospital readmissions for common and preventable problems. In light of these longstanding and widespread problems, the National Academics of Science, Engineering and Medicine recently issued a report calling for immediate action to initiate fundamental changes to improve the quality and lives of nursing home residents.

Poor NH quality has been associated with low nurse staffing levels, particularly low registered nurse (RN) staffing. In 2017–2018, about 75 percent of NHs almost never met the Centers for Medicare & Medicaid Services (CMS) expected RN staffing levels based on resident acuity. Other studies show that most NHs failed to meet the CMS 2001 recommended minimum staffing levels in 2019 (4.1 total nurse staffing hours per resident day, including 0.75 RN hours per resident day) and staffing levels recommended by experts based on acuity in 2017. In addition to putting residents at risk, heavy workloads, low wages and benefits, and poor working conditions have been associated with persistent staff dissatisfaction, shortages, and high staff turnover levels.

NHs are primarily funded by the government (59%), including Medicare, which pays for short-term, rehabilitation care, and Medicaid (funded jointly by the state and federal governments) which pays for long-term care. Medicare’s prospective payment system is adjusted for the estimated staffing needs to meet facility-reported resident acuity, while giving NHs wide discretion in spending. State Medicaid reimbursement methodologies and rates vary widely; some states conduct audits and have imposed requirements for financial accountability.

In 2019, the Medicare Payment Advisory Commission (MedPAC) reported that the Medicare fee-for-service programs spent about $27.8 billion (all dollar amounts in U.S. dollars) on free-standing NH services for about 1.5 million Medicare beneficiaries in 15,000 NHs. In addition, Medicaid spending was about $39 billion. While MedPAC reported that the total NH profit margin for all payers including Medicaid was 0.6 percent, the 2019 profit margin on Medicare spending was 11.3 percent and has remained over 10 percent for the past 20 years. Medicare rates for post-acute care are higher than Medicare managed care rates and Medicaid rates for long-stay residents. MedPAC has long reported that Medicare is overpaying for NH services.

The American Health Care Association, the country’s largest association of NH providers, has long claimed that Medicaid reimbursements cover only 70–80 percent of NH costs and that more than half of NHs operate at a loss. The Medicaid and CHIP Payment and Access Commission, however, reported that median 2019 state Medicaid facility-allowed base rates were 86 percent of reported facility costs, with some states providing supplemental rates. Medicaid residents tend to be long-stay residents with less intensive needs than Medicare post-acute residents. NHs with very high Medicaid resident days generally have lower staffing levels. A recent study found that California NHs had increased profits between 2019 and 2020 and that the percentage of Medicaid resident days were not associated with lower profits until Medicaid resident days were higher than 70 percent of total days.

The American Health Care Association has also claimed that the low Medicaid reimbursement has put many NHs at financial risk of closing. There are, however, many reasons for NH closures, including low occupancy rates associated with the increasing percentage of Medicaid dollars spent on home and community-based services, which is now greater than institutional spending. Increased enrollment in Medicare and Medicaid managed care organizations (that have financial incentives to reduce nursing home use) have also played a role in the decreasing numbers of U.S. NHs. To a far lesser extent, actions taken by government regulators against individual facilities for poor quality have also resulted in NH closures. The fragmented payment system and payment policies have been the subject of debate in terms of how to improve NH care and financial transparency. . .

Key Findings

  • Nursing homes had total net revenues of $126 billion and a profit of $730 million (0.58%) in 2019.
  • However, when excluding $6.4 billion in disallowed costs and $3.9 billion in non-cash depreciation expenses, the average nursing home profit margin was 8.84 percent.
  • Overall spending for direct care was 66 percent of net revenues, including 27 percent on nursing, in contrast to 34 percent spent on administration, capital, other, and profits. . .

This study found that U.S. NHs had net inpatient revenues of $117.70 billion and total net revenues of $126.25 billion (average of $10.75 million per NH) in 2019. NHs reported a loss on inpatient operations of $7.37 billion but a net profit of $730 million on their operations. The NH net profit margin for all payers including Medicaid was 0.58 percent in 2019, which was the same amount reported by MedPAC for 2019.

When disallowed costs (including related-party disallowances) were excluded from expenditures, the total margin was 5.66 percent. Further, when the disallowances and depreciation expenses were excluded, the 2019 total margin was 8.84 percent. This total margin showed a wide range of profits (up to 83% profit) and losses (up to 161%), after the winsorization process adjusted for outliers.

The disallowed costs of $6.42 billion, including related-party disallowances, were 5.08 percent of total net revenues. As noted, the Medicare disallowed expenses were for expenses not related to patient care. This would include association dues, legal fees, and related-party disallowances that exceed the fair market value of comparable goods and services in the marketplace. It should be noted, however, that not all disallowed expenses are profits. For example, 44 states had mandatory state provider taxes for nursing facilities in 2022 (to increase their federal Medicaid matching funds), but the amount of these state provider taxes was not reported.

The Medicare prospective payment system neither requires NHs to return disallowed costs nor CMS to make facility-specific rate adjustments for the coming year that take into account prior year disallowed costs. Because disallowed expenses are not required to be paid back to Medicare and the NH has discretion over these expenditures, they should be excluded to more accurately reflect NH income margins. Because CMS does not require facilities to return disallowances, overall Medicare reimbursement rates are inflated. This policy appears to result in compounding the inflation of rates on an annual basis. It is worth noting that, in respect to Medicaid, some states may adjust for disallowances. For example, the California Medicaid program conducts audits and makes adjustments for disallowances in its facility-specific rates for the coming year but does not require disallowed expenses to be returned to Medicaid.

NHs can legally do business with related-party organizations. Approximately 77 percent of NHs in this study reported $11 billion (9.54% of revenues) in related-party payments in 2019. NHs reported $1.95 billion in disallowed related-party expenses because payments exceeded the fair market value of comparable goods and services in the marketplace. The Medicare cost reports do not require NHs to submit detailed reports on related-party service expenses, profits and losses, or administrative costs that can be used to verify the disallowed costs. Therefore, some profits and administrative costs may not be identified, and some related-party organizations may not be identified. The accuracy of the self-reported related-party disallowances cannot be determined without an audit.

In 2023, the National Academics of Science, Engineering and Medicine Committee concluded that NHs may be using related-party and unrelated party entities to hide profits. They identified the underlying problems of inadequate financial transparency and inaccurate and incomplete cost reporting and urged policy changes to improve transparency and accountability. One study of California NHs found that NHs with related-party transactions were more likely to report lower profit margins, suggesting that the use of related-party organizations may be a successful way to hide profits.

Related-party transactions are facing increased scrutiny by state and federal regulators to determine if federal regulations are followed and if funds are diverted away from resident care. For example, the New York State Attorney General recently filed a lawsuit against four NHs alleging for multiple fraudulent schemes to divert government funds through related-party real estate arrangements, unnecessary and exorbitant loans with inflated interest rates, phony fees paid to companies they and their family members own, and paying themselves inflated salaries for work that was not performed. The lawsuit alleges that the diversion of funds led to shortages of staffing and significant resident neglect, harm, and humiliation. The findings from our study suggest the need for more transparency of related-party transactions.

This study examined how NHs spend their revenues. NH net expenses, without disallowed costs and depreciation, were 27 percent on inpatient services and nursing, 10 percent on ancillary services, 21 percent on support services, and seven percent on employee benefits in 2019. Of total net revenues, about 66 percent was spent on direct care services.

Administrative expenses were 14 percent, capital expenses were approximately 10 percent, and other expenses one percent for a total of 25 percent of total net revenues, and the total margin was reported to be about nine percent profit, after excluding disallowances and depreciation.

Expenditures were about 66 percent on direct services compared to 34 percent for administration, capital, and profits. This finding suggests that NHs may be able to shift some spending from administration, capital, and profits toward staffing, wages and benefits, and resident services. Medical loss ratio legislation, adopted in the Patient Protection and Affordable Care Act, requires health insurance companies to spend a certain proportion of premiums on medical claims and activities rather than on administration and other profits. If the government required a certain percentage of total NH revenues to be spent on direct care, this could improve both financial accountability and quality of care.

Four states (New Jersey, New York, Massachusetts, and Pennsylvania) have passed legislation requiring a percentage of NH revenues to be spent on direct care services, with limitations on administrative costs, property costs, and profits. For example, New York’s legislation requires at least 70 percent of total operating expenses for direct care, including 40 percent for resident-facing staffing, and limited profits to no more than 5 percent of expenses. These states require NHs to return funds that exceed the state limits.

In terms of the NH capital structure, the study found that the average debt-to-capital ratio was 3.20 percent. Ratios of >1 show that debt exceeds equity. NHs also reported a debt-to-equity ratio (52.45%). There are many reasons for NHs to take on debt such as to finance expansion and improvement, deduct debt from taxable income to reduce tax burden, maintain control over an organization rather than bringing in other owners or investors, or earn more on investments than the cost of the debt. Too much debt, however, is associated with a higher risk of insolvency.

Private equity (PE)-owned NHs have been criticized for loading companies with excessive debt, selling off assets and real estate of acquired companies, taking advantage of tax loopholes, and charging high management fees. Such financial schemes may have consequences for NH quality and costs. A recent national cohort study found that long-stay residents of PE firm–owned nursing homes were more likely to have an ambulatory care-sensitive emergency department visit and hospitalization after acquisition compared with residents of non-PE firm–owned, for-profit nursing homes. The PE firm-owned nursing homes also had higher total Medicare costs.

A few NHs reported small or no assets or debts. One possible reason might be the segregation of assets and liabilities, where the operational aspect of a NH (i.e., care provision, staffing, etc.) is kept separate from the real estate and property aspect, which may be owned by a related-party or a different entity altogether. This arrangement can serve to protect the property assets from operational liabilities and lawsuits.

Studies have reported that many NHs have placed their land and buildings in separate property companies that are related-party or un-related organizations. Other NHs have sold or placed property into real estate investment trusts (REITs), which may or may not be related parties. One recent study reported that REITs owned 12 percent of NHs and had $116.8 billion in NH assets in 2019.

Additionally, some NHs might have paid off any initial startup or acquisition loans a long time ago, and they may currently operate without needing to incur additional debts. However, the lack of reported debts can also be indicative of financial strategies to optimize balance sheets for various reasons, such as attracting investors or for tax benefits. It is also plausible that certain reporting nuances or accounting practices allow for the deferment or restructuring of debt, making it appear as low in certain reports. While the cost reports do not provide a direct linkage between NHs reporting few debts and their affiliations with separate property entities or REITs, it is important to consider how such structures might serve protective, operational, or financial optimization purposes.

In terms of limitations, we used Medicare NH cost reports, which have been shown to have inaccuracies. Medicare cost reports, however, are the only publicly available source of information about NH financial revenues and spending nationally. Although this study implemented extensive cleaning procedures to improve accuracy, there may be missing and inaccurate data. Another potential limitation is that, due to NH-specific fiscal year reporting periods, some cost reports covered March through June of 2020 at the beginning of the COVID-19 pandemic, which could have impacted revenues and expenditures during that period.

A U.S. General Accountability Office (GAO) study of NH cost report data from 2011–2014 found that CMS does little to ensure the accuracy and completeness of the data. The GAO recommended that CMS should make data accessible to the public and ensure data reliability because of the importance of this data source. Despite these recommendations in 2016, CMS NH cost reports do not have computerized accuracy checks for simple math errors, and cost reports are not required to be audited or validated by an accounting professional before they are submitted to CMS. In addition, the cost report data only show the amount of cash at the end of the year and not the total cash removed by NH owners throughout the year. As noted above, the cost reports do not require sufficient information to verify disallowances, especially on the profits and administrative costs on related-party transactions. Because CMS claims to use NH cost report data for determining its Medicare rates annually, there is a clear need to improve the accuracy and completeness of the reports.

Medicare may conduct financial audits in situations where fraud may be suspected or to confirm provider charges for bad debts resulting from Medicare deductible and coinsurance amounts which are uncollectible from Medicare beneficiaries. As a general rule, however, CMS does not conduct Medicare financial audits on NHs. CMS has no requirements for consolidated cost reports that provide information on corporate chains or entire companies that own NHs. Moreover, CMS has no penalties for false reporting, even though this could improve the accuracy and transparency of cost reports.

In conclusion, this study provided an in-depth report on U.S. NH financial status for 2019. When disallowances and depreciation were excluded, total income margins increased from less than one percent to approximately nine percent. Most NHs (77%) reported related-party transactions that accounted for about 10 percent of net revenues, suggesting these transactions require further study as to whether they are accurately reported and whether funds are diverted away from needed resident care. Disallowances, including those from related parties, are not required to be returned to Medicare, thereby increasing NH income margins. Finally, approximately 66 percent of net expenses were for direct care compared to 34 percent for administration, capital, and profits. Policy changes may improve the proportional spending on direct care and patient quality. Overall, the study findings illustrate the value of analyzing NH financial performance using cost reports. They also suggest that there are potential policy options that could be implemented to improve rate setting, reimbursement methods, the accuracy, and the transparency of cost reports, including related-party transactions, and the accountability for spending government funds.