Medicare shared savings accrue when CMS gives notice, not at performance year-end

Plain-English summary

A healthcare business participated through accountable care organizations in the Medicare Shared Savings Program. Chief Counsel concluded that the taxpayer’s right to shared-savings income was not fixed at the end of the year in which patient services were provided. Beneficiary assignments, claims run-out, benchmarks, minimum savings thresholds, outside-provider claims, and quality-performance results remained unresolved after year-end, so neither entitlement nor amount could then be determined with reasonable accuracy. The income became fixed and reasonably determinable when CMS notified the taxpayer of the shared-savings amount, generally seven to ten months after the performance year closed.

Ruling snapshot

• Question: When must an accrual-method taxpayer include Medicare Shared Savings Program income?
• Outcome: Advice given
• Key authorities: IRC § 451; Treas. Reg. §§ 1.446-1(c)(1)(ii), 1.451-1(b); Rev. Rul. 81-176

Full text (IRS public release)

       Office of Chief Counsel
       Internal Revenue Service
       Memorandum
       Number: 201607026
       Release Date: 2/12/2016
       CC:ITA:B02:HFRogers
       POSTF-103283-14

UILC: 451.00-00, 451.05-00

date: October 20, 2015

 to:   Associate Area Counsel (Jacksonville)
       (Large Business & International)

       David D. Duncan
       Attorney (Jacksonville)
       (Large Business & International)

from: Associate Chief Counsel
(Income Tax & Accounting)

       Thomas D. Moffitt
       Branch Chief, Branch 2
       (Income Tax & Accounting)

subject: Whether the amount of income a taxpayer will receive pursuant to the Medicare
Shared Savings Program regulations is fixed and can be determined with reasonable
accuracy.

       This Chief Counsel Advice responds to your request for assistance dated
       July 21, 2014. This advice may not be used or cited as precedent.

       LEGEND

       Taxpayer                            -----------------------------------------------------
       Business                                      -------------------------------------------------------------
       ---------------------------------------------------------------
       A                                            ----------------------------------------------------------
       B                                            -----------------------------------------------
       C                                            --------------------
       D                                            ----------------------------------
       E                                            --------------------------------------------------------
       F                                            --------------

R ------------------
S -----------------
T ----------------------

ak -------
al ------
am ---------------------------------------
Year 1 -------
Year 2 -------
Year 3 -------
Year 4 -------
! --------------

-----

= -------
& ----------
% ---------
$ ---------
^ ----------

• ---

  
  @ ------------

ISSUE

Whether the amount of income the Taxpayer will receive from Medicare pursuant to the
Medicare Shared Savings Program regulations is fixed prior to the year of notification of
shared savings.

CONCLUSION

Due to programmatic factors, the amount of income that the Taxpayer will receive from
Medicare pursuant to the Medicare Shared Savings Program regulations is not fixed at
the end of the taxable year in which patient services are provided. These factors are
resolved and the amount of income is fixed and determinable with reasonable accuracy
when the taxpayer is notified of shared savings, which is approximately seven to ten
months after the close of the taxable year in which patient services are provided.

FACTS

1. T a x p a yer

Taxpayer is in the F business, operating primarily in Business.

During tax years Year 3 and Year 4, Taxpayer started ! B to operate as Accountable
Care Organizations (ACOs) under the Affordable Care Act (ACA) through its C
indirect holding company, A. A is a disregarded entity for federal tax purposes and is
included on Taxpayer’s consolidated federal income tax return.

An ACO, is an organization of health care providers that agrees to be accountable for
the quality, cost, and overall care of Medicare beneficiaries who are enrolled in the
traditional fee-for-service program who are assigned to it. See generally, Notice
2011-20, 2011-16 I.R.B. 652 (addressing the participation of tax-exempt
organizations in ACOs).

Taxpayer established # types of ACOs: B ACOs and a C ACO. For the B ACOs,
there are usually # B in each B: A and an D that has more than + Medicare patients.
Taxpayer established = ACOs with a collective & beneficiaries assigned that have an
R, start date, an additional % ACOs with a collective ^ beneficiaries assigned that
have a S, start date, and an additional $ ACOs with a collective @ beneficiaries that
have a T, start date. For the C corporate ACO, Taxpayer, through A, established a
corporate ACO, E.

2. Accountable Care Organizations & Medicare Shared Savings Program

Taxpayer, through A and its various ACOs, is participating in the Medicare Shared
Savings Program (Shared Savings Program) described in § 3022 of the Patient
Protection and Affordable Care Act, Pub. L. 111-148, 124 Stat. 119 (ACA), enacted
on March 23, 2010.

Section 3022 of the ACA amends Title XVIII of the Social Security Act (SSA) (42
U.S.C.1395 et seq.) by adding new § 1899, which directs the Secretary of the
Department of Health and Human Services (HHS) to establish the Shared Savings
Program to promote accountability for care of Medicare beneficiaries, improve the
coordination of Medicare fee-for-service (FFS) items and services, and encourage
investment in infrastructure and redesigned care processes for high quality and
efficient service delivery. Under § 1899(b)(1) of the SSA, groups of health care service
providers and suppliers that have established a mechanism for shared governance and
that meet criteria specified by the Secretary are eligible to participate as ACOs under
the program.

The Shared Savings Program is a voluntary program in which ACOs accept
responsibility for the overall quality, cost and care of a defined group of FFS
beneficiaries for at least a three year agreement period. Under the program, ACOs
are accountable for a minimum of 5,000 FFS beneficiaries. The ACO must define
processes to promote evidence-based medicine and patient engagement, monitor
and evaluate quality and cost measures, meet patient-centeredness criteria and
coordinate care across the care continuum. Medicare service providers and
suppliers participating in an ACO will continue to receive FFS payments in the same
manner as such payments would otherwise be made; however, an ACO that meets
quality performance standards established by the Secretary and demonstrates that it
has generated savings against an appropriate benchmark of expected average per
capita FFS expenditures will be eligible to share in savings earned, if the generated
savings meet or exceed the minimum savings threshold under § 1899(d)(2) of the
SSA. Quality reporting occurs after the performance year, as described later.
Section 1899(i) of the SSA also authorizes the use of other payment models that the
HHS Secretary determines will improve the quality and efficiency of items and
services of Medicare.
Section 1899(d)(1)(B)(ii) of the SSA requires the Secretary to establish and update
the “benchmark for each agreement period for each ACO using the most recent
available 3 years of per-beneficiary expenditures for parts A and B services for
Medicare fee-for-service beneficiaries assigned to the ACO.” This section also
requires the benchmark to “be adjusted for beneficiary characteristics and such other
factors as the Secretary determines appropriate and updated by the projected
absolute amount of growth in national per capita expenditures for Parts A and B
services under the original Medicare fee-for-service service program, as estimated by
the Secretary.” A new benchmark is to be established consistent with these
requirements at the beginning of each new agreement period.

Section 1899(d)(2) of the SSA provides that, if the ACO meets the quality performance
standards established by the Secretary, “a percent (as determined appropriate by the
Secretary) of the difference between such estimated average per capita Medicare
expenditures in a year, adjusted for beneficiary characteristics, under the ACO and
such benchmark for the ACO may be paid to the ACO as shared savings and the
remainder of such difference shall be retained by the program under this title.” This
percentage is referred to as the “savings rate.” This section also requires the
Secretary to establish limits on the total amount of shared savings that may be paid to
an ACO. This limit is referred to as the “sharing cap.”

Thus, to implement the provisions of section 1899(d) of the SSA for determining and
appropriately sharing savings, the Secretary must make a number of determinations
about the specific design of the shared savings methodology described by the
statute. The Secretary promulgated regulations, after notice and comment, to
implement these determinations.

   3. The Shared Savings Program Regulations

On November 2, 2011, the regulations concerning the Shared Savings Program were
finalized at 42 C.F.R. § 425, effective January 3, 2012, in order to implement the
provisions set forth in section 3022 of the ACA1. The regulations set forth the rules and
regulations necessary for Centers for Medicare and Medicaid Services (CMS) to
establish the Shared Savings Program and provide the calculation for the earned
shared savings payments. In the regulations, the Secretary addressed the following
programmatic factors for ACOs.

First, the Secretary must establish an expenditure benchmark, which involves
determining: (1) the patient population for whom the benchmark is calculated; (2)
appropriate adjustments for beneficiary characteristics such as demographic
factors and/or health status that should be taken into account in the benchmark;
(3) whether any other adjustments to the three-year benchmark are warranted so
as to provide a level playing field for all participants; and (4) appropriate methods
for trending the three-year benchmark forward to the start of the agreement period

1
These rules were updated June 9, 2015, and modified Track 2 MSR/MLR, added a new Track 3, and
modified the way the benchmark is reset at the beginning of a second or subsequent agreement period if
the ACO chooses to renew. The basic benchmarking methodology remains the same.
and for subsequently updating the benchmark for each performance year during
the term of the agreement with the ACO.

Second, the Secretary must compare the benchmark to the assigned beneficiary
per capita Medicare expenditures in each performance year during the term of the
agreement in order to determine the amount of any savings.

Third, the Secretary must establish the appropriate minimum savings rate (MSR), as
required by the statute to account for normal variation in expenditures based upon the
number of FFS beneficiaries assigned to an ACO; then, the Secretary must determine

the appropriate sharing rate for ACOs that have generated savings against the
benchmark and meet or exceed the MSR. While the ACOs can generate savings,
they can only realize them if they meet the quality performance standard.

Finally, the Secretary must determine the required sharing cap on the total amount
of shared savings that may be paid to an ACO.

The programmatic factors adopted in the regulations and impacting the status of a
taxpayer’s right to a shared savings payment and the determination of the amount
of the payment, if any, on December 31 of the performance year are as follows:

   1.   Timing of data used for retroactive reconciliation impacts knowledge of the
        final sharing rate and performance payment.
        a. The beneficiaries used to determine an ACO’s performance are a
            subset of those FFS beneficiaries seen by ACO practitioners and are
            assigned retroactively, after a three month claims run-out for the
            performance year.2 In the June 9, 2015 rule, Track 3 was implemented
            with “prospective” assignment. There is minor reconciliation at the end of
            the year of the prospective list (e.g., removing beneficiaries that are not
            FFS beneficiaries anymore.)
        b. The MSR in Track 1 is dependent on the number of assigned
            beneficiaries and knowable only after the final number of assigned
            beneficiaries is determined. ACOs must meet or exceed the MSR in
            order to be eligible to share in savings generated. * In the June 9, 2015
            rule, the MSR was not modified for Track 1. For Track 2, the MSR/MLR
            was modified. The ACOs in Tracks 2 and 3 have a menu of symmetrical
            choices.
        c. The CMS Office of the Actuary provides data (e.g., the statutory update
            amount to the benchmark) approximately six months after the performance
            year has ended.
        d. The beneficiary per capita costs for the performance year are determined
            retrospectively, after a three month claims run-out.

   2. ACOs are not closed systems.

2
The 2012 regulations provided for two Tracks of ACO’s. Track 1, the shared savings track, and Track 2
a shared savings and loss track. CMS published a proposed rule on December 8, 2014, for the Medicare
Shared Savings Program. This rule was finalized June 9, 2015.
a. Because FFS beneficiaries are likely to receive care outside the care
rendered to them by ACO practitioners, the ACO may not have knowledge
of all FFS claims billed for their assigned beneficiaries. While CMS
shares a great deal of claims data with the ACO throughout the course of
the year, including claims from providers unaffiliated with the ACO so that
the ACO can get a more complete picture of the beneficiary’s care
throughout the course of the year, claims are not necessarily complete by
December 31. There is a claims run out to make them complete and CMS
is required to withhold certain claims, plus the availability of the claims is
dependent on when the providers submit them.

3. Quality performance impacts the final savings rate.
    a. CMS derives a sample of beneficiaries on which the ACO must report
       quality. The ACO receives this sample after the performance year ends.
       The ACOs quality report is submitted in February or March. They cannot
       qualify for savings, even if generated, unless they meet the quality
       standard. CMS assesses that after the reporting is over.
    b. In performance years 2 and 3, the sharing rate depends on the ACO’s
       performance on certain measures. CMS determines the final sharing rate
       based on quality performance approximately six months after the
       performance year has ended.

4. Taxpayer’s Position

Taxpayer states that the actual amount of the Shared Savings Program payment is
contingent upon factors that are not ultimately determinable until the end of the
contract term.

Additionally, Taxpayer does not believe the information currently provided by CMS is
sufficient and reliable for purposes of calculating Shared Savings Program payments.
The reason for Taxpayer’s uncertainty includes: The beneficiary population is subject
to change; the final performance year benchmark for the ACOs is subject to change;
the actual average per capita performance year Medicare expenditures for the
beneficiary population for the ACOs is subject to change; the achievement of
performance quality standards is unknown until after the tax year ends; the impact of
the opt out beneficiaries on the calculation is unknown until after the tax year ends;
the actual per capita expenditures for the beneficiary population related to claims for
drug and alcohol is subject to change; and the information received from Medicare
has contained errors and been unreliable.

Based on Taxpayer’s understanding, the ACOs would not receive the final
determination of savings or receive any payment until sometime in ak or al of Year 1
for the savings generated in the first performance year, which includes the short period
of am. In Year 3, the benchmarks were not yet set by Medicare for the ACO, so there
was no way to determine if Taxpayer had generated any savings. Taxpayer
recognized no income in Year 3. In Year 4, Medicare established benchmarks;
however, as detailed above, based on the uncertainty of the amount, Taxpayer will not
include any income from these operations in their financial statements for Year 4, nor
shared savings income on the B returns for Year 4. Taxpayer intends to report the
MSSP payment on its Year 1 federal income tax return (the year of receipt of
payment).

LAW AND ANALYSIS

Section 451 of the Internal Revenue Code provides the general rule that the amount of
any gross income shall be included in gross income for the taxable year in which
received by the taxpayer, unless such amount is to be properly accounted for in a
different period. Accrual method taxpayers recognize income “when all the events have
occurred that fix the right to receive the income and the amount of the income can be
determined with reasonable accuracy.” Section 1.446-1(c)(ii) of the Treasury
Regulations. Due to the programmatic factors set forth above, we do not believe that all
events have occurred which fix the Taxpayer’s right to receive the income during the
performance year. Further we do not believe the Taxpayer can determine the amount
with reasonable accuracy at the end of the performance year due to the programmatic
factors.

Legal analysis

     1. Fixed right to receive the income

Ordinarily, a taxpayer’s right to income is fixed under the “all events test” when either
the amount is unconditionally due or the taxpayer has performed. The general rule
states that all the events that fix the right to receive income occur when (1) the required
performance takes place, (2) payment is due, or (3) payment is received, whichever
happens first. See Schlude v. Commissioner, 372 U.S. 128, 133, n.6 (1963); Rev. Rul.
84-31, 1984-1 C.B. 127. In order to be fixed, any material contingencies on the
taxpayer’s eventual receipt of income must have been removed. Standard Lumber Co.
v. Commissioner, 35 T.C. 192, 198 (1960), acq. on this issue, 1961-2 C.B. 5, aff’d on
another issue, 299 F.2d 382 (9th Cir. 1962).

Health care service providers and suppliers participating in an ACO continue to receive
FFS payments in the same manner as such payments would otherwise be made.
Therefore, they will continue to be paid for their services in the same way they had
always been. However, in order to be eligible to receive payments for Medicare share
savings, the income at issue, an ACO must meet quality performance standards
established by HHS/CMS and demonstrate that it has achieved savings against an
appropriate benchmark of expected average per capita FFS expenditures.

Because of the first two programmatic factors, the Taxpayer cannot be assured at the
end of its taxable year that it will have achieved the necessary savings to participate in
the Shared Savings program. For instance, the beneficiaries used to determine an
ACO’s performance are assigned retroactively, after a three month claims run-out. The
MSR is dependent on the number of assigned beneficiaries and, during the tax years at
issue, knowable only after the final number of assigned beneficiaries is determined.3
The benchmark of expected average per capita FSS expenditures is determined
3
This remains true for Track 1. This is not accurate for Track 2 and 3 after the June 9, 2015 rule.
approximately six months after the performance year ends. The beneficiary per capita
costs for the performance year are determined retrospectively, after the three month
claims run-out, and can include FFS claims billed by other practitioners if the FFS
beneficiaries received care outside the care rendered to them by the ACO practitioners.
At the conclusion of their tax year, the ACO practitioners may not have knowledge of all
of the other FFS claims.

Because of the above programmatic factors, at the close of its taxable year, the
Taxpayer is unable to determine if it will have achieved the necessary savings to
participate in the Shared Savings Program. The amount is not fixed as it is not
unconditionally due.

 2. Amount can be determined with reasonable accuracy

The second requirement for accrual under the all events test is that the amount of
income be determinable with reasonable accuracy. It is not necessary that the exact
amount be known, income is accruable if a reasonable basis for calculation exists.

George K. Herman Chevrolet, Inc. v. Commissioner, 39 T.C. 846, 850 (1963) (“while the
word ‘accuracy’ means exactness or precision, when used with ‘reasonable’ it implies
something less than an exact or completely accurate amount”) Adjustments are made
in the year of actual receipt. Section 1.451-1(b).

The determination of whether amounts are accruable under the all events test is made
on the basis of information available to the taxpayer at the end of the year. This is a
factual determination. See Crescent Wharf & Warehouse Co. v. Commissioner, 518
F.2d 772, 775 (9th Cir. 1975). If there is agreement on the general basis under which
the amount due is to be calculated, accrual is generally required. The following are
some cases where it was determined that income had to be accrued. Continental Tie &
Lumber Co. v. United States, 286 U.S. 290 (1932) [railroad had to accrue income in
1920 when a Congressional act gave railroads in its situation the right to compensation
based on a formula comparing its results from operations during the period concerned
with it results from operations during a base period); Food Machine & Chemical
Corporation v. United States, 286 F.2d 177 (Ct. Cl. 1960) (tentative agreement on
formula to calculate compensation due for cancellation of contract); Cappel House
Furnishing Co. v. United States, 244 F.2d 525 (6th Cir. 1957) (amount of insurance
award for lost business based largely on past experience was reasonably
determinable); Marquardt Corporation v. Commissioner, 39 T.C. 443, 457-58 (1962)
(amounts due under contracts providing for negotiation as to reasonable compensation
and complete adjustment of payment after audit of all amounts due were reasonably
ascertainable).

However, where there is a dispute over the method of calculation, or if there is no
objective standard to be used in making the calculation, the amount is not ascertainable
with reasonable accuracy. See Globe Corporation v. Commissioner, 20 T.C. 299, 304
(1953), acq., 1953-2 C.B. 4 (where contracts called for later fixing of a “fair and
equitable amount,” the amount was too uncertain to accrue because there was no
formula, method or particular data which both could accept as the basis of the final
agreement); Blake v. Commissioner, 615 F,2d 731 (6th Cir. 1980) (no accrual on patent
infringement claim when special master had not determined a reasonable royalty rate).

If the facts from which a calculation can be made are established as of the end of the
tax year, the amount is accruable even though the calculation may not be made until
afterwards. Rev. Rul. 81-176, 1981-2 C.B. 112, demonstrates this principle in a case
involving Medicaid payments. In Rev. Rul. 81-176, the taxpayer ran a nursing home
and was entitled to Medicaid payments. The taxpayer was entitled to compensation
equal to the “reasonable costs” incurred by the taxpayer in rendering nursing home care
plus a ten percent return on equity capital as a profit factor. The taxpayer billed the
government monthly on the basis of a tentative rate based upon the projected
“reasonable cost” of providing patient care during the year. After the close of the year,
the taxpayer submitted cost reports to the government. Any refund owed the
government needed to be submitted with the cost report. Any amount due to the
taxpayer was made upon settlement of a desk audit performed by the health
department. The Service ruled that the amounts eventually claimed on the cost sheets
should be reflected in the taxpayer’s income for the year because all the facts
necessary for the computation were fixed as of the close of the tax year.

In the instant case, the facts from which a calculation could be made were not knowable
at the end of the tax year. At the end of the tax year, the Taxpayer did not know the
beneficiaries used to determine its performance as those beneficiaries were not
assigned until after a three month claims run-out after the close of the performance
year. The MSR is dependent on the number of assigned beneficiaries and knowable
only after the final number of assigned beneficiaries is determined. The performance
benchmark is determined approximately six months after the performance year ends.
The beneficiary per capita costs are determined after the three month claims run-out.
The Taxpayer is given the sample of beneficiaries for whom it must report quality
performance on certain measures after the close of the performance year and this
quality performance impacts the final savings rate.

Thus, at the close of its taxable year, the amount of income, if any, the Taxpayer will
receive from the Shared Savings Program is not fixed. Further, the amount cannot be
determined with reasonable certainty.

Please call (202) 317-7011 if you have any further questions.

                                   Andrew J. Keyso, Jr.
                                   Associate Chief Counsel
                                   (Income Tax & Accounting)



                                   _________________________
                                   Thomas D. Moffitt
                                   Branch Chief, Branch 2
                                   Office of Associate Chief Counsel
                                    (Income Tax & Accounting)