The CMS Administrator properly determined that the statutory merger between a hospital and a nonprofit medical center was not a bona fide sale because the medical center did not receive reasonable consideration for its assets, according to the U.S. District Court for the District of Columbia. Therefore, the hospital could not recover a loss on the depreciable assets that the hospital claimed was recognized in the merger.
No bona fide sale
On January 1, 1997, the medical center's assets passed to the hospital and the hospital became responsible for the medical center's liabilities. Subsequently, the hospital submitted a cost claim representing depreciation on the medical centers assets that had not been claimed in annual depreciation allowances. The intermediary denied the claim on the ground that the merger was not a bona fide sale. Although the Provider Reimbursement Review Board (PRRB) reversed the intermediary's decision (see ¶81,877), the CMS Administrator overruled the PRRB decision (see ¶81,947). The hospital then appealed the Administrator's final determination.
Allowable depreciation requirements
The court first reviewed the regulations governing allowable depreciation and the Secretary's policies regarding the treatment of statutory mergers. The hospital contended that (1) the Secretary's interpretation making statutory mergers subject to the bona fide sale requirement was contrary to the regulations and (2) the Secretary had departed from the policy in effect at the time of the merger, which was that all statutory mergers automatically trigger the reassessment of depreciable assets.
Medicare pays for depreciation allowances annually by taking the cost incurred by the present owner in acquiring the asset, dividing the purchase price by the asset's useful life, and dividing it again by the percentage of the asset's use devoted to Medicare services (see 42 C.F.R. §413.134(a), (a)(3) and (b)(1)). At the end of any given year, the asset has a net book value, which is the purchase price minus depreciation from previous years. According to the court, in theory, the net book value represents the fair-market price an asset could get if sold or treated as an asset in a merger. At the time of this merger, when a capital asset was disposed of, either Medicare or the provider could recoup the Medicare-related difference between the value realized and the disposition and the net book value, the court said.
Under 42 C.F.R. §413.134(k), when two unrelated entities combine pursuant to a statutory merger any realizations of gains or losses are subject to the provisions of §413.134(f), which provides that gains and losses from the disposition of depreciable assets are treated differently depending on the manner of disposition and allows for the realization of gains or losses only upon a “bona fide sale.”
On October 19, 2000, CMS (then HCFA) issued a Program Memorandum (A-00-76) that clarified the Secretary's interpretation of §413.134(k) explaining that applying the bona fide sales requirement to statutory mergers was necessary because “many mergers are not driven by the ownership equity interests to seek fair market value for the assets involved in the transaction.” The Secretary emphasized that mergers that involve nonprofit entities must be arm's length transactions for reasonable consideration if gains or losses on depreciable assets are to be realized.
The court concluded that the Secretary's interpretation of the regulation, however, was supported by the text of the regulations, the policy clarified in the Program Memorandum was permissible under the statute, and the Secretary provided good reasons for the policy.
No bona fide sale
The court then determined whether the merger was a bona fide sale that resulted in a gain or loss for Medicare purposes by examining whether the purchase price paid was greater or less than the net book value. The court found that there was a sizable gap between the purchase price and the value of the medical center's assets. At the time of the merger, the medical center's current and monetary assets were nearly double the value of the liabilities assumed and the total assets were more than five times the price. Therefore, the CMS Administrator properly ruled that the merger was not a bona fide sale.
St. Luke's Hospital v. Sebelius, U. S. District Court for the District of Columbia, Sept. 29, 2009, ¶303,136
For more information on this and related topics, consult the CCH® Medicare and Medicaid Guide.
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