New York Not-For-Profit Nursing Home Sales are Subject to Increased Scrutiny by the Attorney General

As the New York health care landscape has evolved over the past decade, not-for-profit health care providers, particularly in the long-term care sector, have responded by engaging in strategic transactions of various forms, including affiliations, mergers and sometimes the sale of their assets. One of the hallmarks of a not-for-profit corporation is its obligation to prioritize the use of its assets to further its charitable corporate purposes. On the provider side, this has meant elevating patient care over the provider’s bottom line which, over time, can burden a facility’s financial viability. If you also consider the myriad other challenges health care providers face in today’s market, such as tightening reimbursement, strict regulatory oversight and related audits and the increasing cost of patient care, it should not come as a surprise that many health systems have considered or proceeded with spinning off their underperforming not-for-profit long-term care facilities in an attempt to sustain or revitalize the health system. What has been surprising is the speed at which the not-for-profit skilled nursing facility landscape has transitioned to for-profit operators in New York State over the past five years.

Based on information collected by CMS, 257 of the approximately 635 skilled nursing facilities in New York (about 40.5% of such facilities) were operated by not-for-profit corporations in 2010. In the four years from 2011 through 2014, 18 skilled nursing facilities transitioned from not-for-profit to for-profit ownership. Subsequently, in an explosion of such transactions from 2015 through 2018, approximately 48 skilled nursing facilities transitioned from not-for-profit to for-profit operators (a four year aggregate of approximately 19% of the total number of not-for-profit facilities that existed in 2010), according to information provided by the New York State Office of the Attorney General.

From a purely financial perspective, for-profit operators have certain advantages over their not-for-profit counterparts. They often have larger provider networks and, as a result, can leverage their vendors and other service providers for better prices and otherwise utilize economies of scale to reduce many of the costs associated with operating a health care provider. Additionally, for-profit operators are not subject to the same regulatory oversight as not-for-profit corporations and, among other things, are free to consider – and more likely prioritize – operating the facilities in a manner which maximizes revenue and profits. Not surprisingly, however, given the role of the Charities Bureau of the Attorney General in overseeing the operations and dispositions of assets by not-for-profit corporations in New York, this trend has garnered the attention of the Charities Bureau and has resulted in increased scrutiny of these transactions.

By way of background and in over-simplified terms, two regulatory approvals are required for the sale of all or substantially all of the assets of a New York not-for-profit skilled nursing facility:  one from the New York State Department of Health’s Public Health and Health Planning Council, under the New York Public Health Law, and another from the New York State Supreme Court where the facility has its principal place of business, on notice to the Attorney General, pursuant to the New York Not-for-Profit Corporation Law. The latter approval hinges directly on whether the seller has satisfied the requirements of a “two-prong” test. First, are the terms of the transaction fair and reasonable to the seller; and second, whether the purposes and mission of the seller will be promoted by the sale transaction. See New York Not-for-Profit Corporation Law § 511.

Prior to 2014, the Attorney General routinely supported these applications, so long as the two-prong test for approval was clearly satisfied. Since then, however, as the applications for approval of the transfer of ownership from not-for-profit to for-profit operators has risen, the Charities Bureau has been reviewing these transactions with increased scrutiny, including conducting diligence on the proposed operator, even after the Department of Health has signed off on the change in operators.

This increased scrutiny has ultimately led the Charities Bureau to contest certain proposed sales in judicial proceedings. In late 2017, two not-for-profit operators of skilled nursing facilities petitioned the New York Supreme Court of Warren and Niagara Counties, respectively, to approve the sales of substantially all of their assets to proposed for-profit purchasers on the terms agreed to between the proposed purchasers and the sellers. The New York State Attorney General appeared in court and opposed both sale transactions on the grounds that the purchase agreements did not contain a covenant obligating the proposed purchaser to continue the operation of the facility for a five-year period after consummation of the sale and that, as a result, the sale transaction was not in the best interests of the sellers or their residents. Similarly, in early 2018 and again in 2019, the Attorney General appeared in court to object to the sale of Field Home-Holy Comforter, a not-for-profit skilled nursing facility in Westchester County, and Whittier Rehabilitation and Skilled Nursing Center, a not-for-profit skilled nursing facility in Columbia County. Ultimately, all these courts approved the sale transactions over the Attorney General’s objections.

Consistent with its enhanced scrutiny, the Attorney General has revised its formal guidance document regarding the sale of not-for-profit nursing homes. The document, which is accessible online, begins by discussing the recent uptick in sales of skilled nursing facilities to for-profit corporations and then recommends “best practices” for not-for-profit boards and their advisors in considering the sale of a not-for-profit skilled nursing facility, including, among other things, whether:

• The seller could continue to operate the facility without selling its assets or has considered alternatives to selling its assets (e.g., obtaining financing or merging/affiliating with an existing not-for-profit health care facility or system);

• The seller conducted sufficient due diligence on the proposed purchaser and its owners and directors, including evaluating the CMS ratings of other nursing homes operated by the proposed purchaser; and

• The proposed buyer has made a commitment to continue operating the facility for at least five years after the closing of the sale and how the seller could enforce such covenant post-closing.

At least arguably, the foregoing factors are not relevant to the two-prong test for approval by the Attorney General of the sale of all or substantially all of the assets of a not-for-profit corporation, and would more appropriately be considered by the Department of Health in determining whether to approve a new skilled nursing facility operator under the New York Public Health Law. Nonetheless, the Attorney General’s increased analysis of these types of sale transactions is understandable given the trend in the industry and the fact that fewer New York skilled nursing facilities are now operating with a charitable mission.

Not-for-profit operators that are interested in selling skilled nursing facilities to for-profit operators will need to be prepared for this new scrutiny from the Charities Bureau and should also be ready to proceed to court to secure approval of these transactions, over the objection of the Attorney General, if it appears that the Attorney General is raising issues that are outside of its jurisdiction.

Paul Mourning and Stephanie Marcantonio are partners in the New York office of Crowell & Moring, LLP.  Michael G. DiFiore is a counsel in the New York office of Crowell & Moring, LLP.