 Hello and welcome to this session. This is Professor Farhad and this session we're going to be looking at introduction to accounting for healthcare providers. Sometimes it's called hospital accounting or medical accounting, but that's the overall topic. This topic is covered in a government and not for profit accounting course. It's also covered on the CPA exam, the FAR section. As always, please connect with me on LinkedIn. YouTube is where you would need to subscribe. I have over 1500 plus accounting, auditing and tax lecture. This is my Instagram account. I'm trying to grow my Instagram. If you like my YouTube, please like them, click on the like button, subscribe, share them, put them in the playlist, let the world know about them. If you're benefiting from my YouTube, it means someone else might benefit as well, so share the wealth. This is my Facebook. I have a premium Gumroad account and this is my website. On my website also a few shows you could donate. If you chose to to support the channel, what's with Becker CPA review? Now let's talk about health coverage. The first thing we need to define is a term called indemnity coverage. What is this indemnity coverage? Basically, I'll tell you a story. My grandmother came to this country in the 1950s. They lived here for several decades before I came and I immigrated into this country in the early 1990s. I always remember my grandmother talking about how great this country is and when I asked her why, she would say she's an old lady. She would say because the health coverage is great. She loved working. She worked in the manufacturing industry and they had health coverage. As far as she's concerned, anything that happened to her medically or to her family, which is they had six kids and more than they believe seven kids, typical Catholic family, seven kids, they were covered. She didn't have to pay premium. She didn't have to pay deductible. Once something happened, she go to the doctor and the doctor would treat her. Okay? So this is what indemnity coverage is. Basically, you're covered. Anything covered basically unlimited coverage. So we would build patient for services provided. Bill means the health care provider. They will build the patient for the service provided and the insurance company will pay. And this was the insurance I would say up until the 1990s actually when I came to this country. And think about this system. Think about if we have indemnity system, indemnity coverage. What does that mean? It means the insurance company will pay your bill. Don't worry about it. You have no premium. You have no deductible. And guess what? The doctor at the other side is thinking the same thing. Guess what? If what about I try to build the client as much as possible. So you go in for you for a back pain, the doctor will check your neck will check your back will check your leg will check everything. Why? Because if they can bill you, the insurance company will cover it. So this system has no incentive to control cost by doctors or hospitals because, you know, if you need an x-ray, they'll give you an x-ray. If you need MRI, they'll give you an MRI. Whether it's you really need it or not, but they'll try to provide it to you. Also the patients, they had no deductible. They did not have to pay any premium and their work. Therefore, there was no incentive to control cost. And what do you think happened? Well, as a result, the cost of insurance went up. So the premium, your premium, now the company said we can no longer afford to pay the insurance by ourselves. Now you have to pay. You have to put up some money. This is why where the premium came in. Like my grandmother would not know what a premium is. Okay, luckily she would not know. God does her soul now. She's, you know, she left us a long time ago. But the point is she would not understand the concept of a premium or the concept of a deductible because the insurance was indendery coverage. Basically, you're good to go. Okay. Then what happened? Obviously the insurance company, the doctors and the hospital, they needed to find the solution. Also inflation went up. That's why the cost went up and other reasons. But that's just one of the reasons because the coverage was unlimited. There was no incentive to control cost. Therefore, we introduce a new coverage called capitation coverage. And capitation basically is prepaid. Okay. So what is capitation coverage? Okay. Capitation fee is a prepaid fee. So basically the insurance company, they will go into a contract with the hospital or with the doctor or any healthcare provider in exchange for a prepaid fee. So simply put, the insurance company will pay your doctor a fee. Okay. That fee could be monthly by weekly. Weekly it doesn't matter. So they pay a fee. Whether you go to that doctor or not. Okay. So what does that mean? It means the doctor is getting paid because there is an insurance contract between them and the insurance company that they're going to be paid that fee. Now, when you go to the doctor, they don't pay the doctor again. This is basically the doctor is being paid. So in here, what happened is in a sense under capitation fee to think from an incentive perspective. Now the doctor does not have incentive to treat you in a sense that they're getting paid regardless. But that's, we're not going to go there. But the point is just to show you what the incentive is. Okay. Now the doctor, they will try to give you the minimum amount of services because your insurance is a capitation insurance. They're getting paid whether they incur that additional cost or not. So the first thing we need to understand is the difference between the capitation coverage and indemnity coverage. So make sure you know the difference between those two and how they're being built because we're going to talk about how we do accounting for them. Now, let's talk about the revenue for doctors and hospitals. Where do doctors and hospitals get the revenue? Well, patients, but that's not really that much. The revenue comes from third-party reimbursement. And who reimburs doctors and hospitals or healthcare providers? Okay. Three parties. Medicare, which is a federal program. So it's the federal government, Uncle Sam. This program is mainly exists to serve the elderly and the retirees and the disabled if they qualify. Medicaid, Medicaid is for as a state program. And the Medicaid is for low income who cannot afford health insurance. Here we're talking about the welfare system. So basically you cannot afford to have insurance for your kids, for your family, you go and you apply for the state. And the third party is the big one is the insurance company. Here, the insurance company, they might have indemnity insurers, indemnity coverage, capitation coverage. And most of the time, most insurance now is hybrid. For some services, it's indemnity. For some services, it's capitation. They limit you to a certain amount. So let's take a look at the mechanics, how a third party reimbursement work. Okay. So the third party pay the health coverage provider based on a contractual rate. Okay. And this rate is based on the illness. For example, if you're gonna do a hope open heart surgery, we may charge you $300,000. And if you want to remove a ward, they may charge you $3,000. So depending on the illness. Let's work an example to see how this work. At some point in my life, I had my appendix removed. Okay. And what I did is I received the bill from the hospital for $3,850. So the hospital will bill you. Now I was like, whoa, how am I gonna pay this? And specifically, I had my appendix removed right right after I graduated from college. So I was right out of college. So it was like 22 years old. So what happened is I called the doctor and the doctor said you have yet you we do have health insurance for you. We're gonna build the we're gonna build the we're gonna build the hospital and the hospital we're gonna build the ensure your insurance company and they will pay. Then what happened is I received from my from my insurance company, I believe was blue cross blue shield, something called EOB explanation of benefit. And in that benefit, they said they're gonna pay the doctor $2,000. I was like, Oh my God, if they're gonna pay the doctor $2,000, it means I'm still responsible for $1,850. And back then I mean, we're talking in the early in the 1999, which is it's like, I did not that money was worth a lot. It's still worth a lot today. But the point is, I'm right out of college, I was still having I was still paying my credit card that let alone my student loan. And now I have to come up with $1,850 the difference. Well, I called the doctor and the doctor said, No, you're not going to have to pay the $1,850. Although we build you, this is what we would have charged you. But based on our agreement with the insurance company, the insurance company will pay us $2,000. And basically this amount, you don't have to worry about it was like, great. It's like, are you sure because you know, my bill shows I have to pay $1,850. My explanation of benefit. It's basically it says this is, yes, that's what you are responsible for. But that's it. Once they pay us $2,000. That's the agreement between us, the doctor and the insurance company. So this is how it works. So this is called the contractual adjustments. So it's the difference between the amount built to third party and the amount collected to third party. Okay, so that so they, although they build you for $3,850, but they would accept $2,000 from the insurance company. Now, if you did not have insurance, they would build you for $3,850. You might be saying, but that's not fair. Why would they build me if I don't have insurance? Think about it. The insurance company, they might have 1000 appendix removed for that month across the whole country, right? So they'll give them a discount. They're not going to give you a discount if you're on your by yourself. Now, the, you know, hospitals, they do have a lot, they do a lot of charity, but that's beside the point. Okay. So contractual adjustment is recognized for indemnity coverage only. So if you have indemnity coverage, this is where we have the contractual adjustment. This is when we have a contractual adjustment. Okay. So remember, with your health insurance coverage, some of the coverage could be indemnity coverage, some of it could be capitation. So your policy could have for certain illness, you are covered for others, you are limited so on and so forth. So for example, for the appendix, I guess, how many times you're going to remove your appendix, right? Not many times. Okay. So this is how it works. And let's just basically, we'll take a look at the journal entries to see how this all fits together. So indemnity revenues, you would recognize the revenue when the service is provided. So the health insurance company, not the health insurance, the healthcare provider, they will recognize the revenue when the service is provided. When is the service provided? Actually, when I woke up from the operation, right? This is when the service is provided. No net of the contractual adjustment. So they would record the revenue at the gross amount. Okay. Therefore, the contractual adjustment must be shown on the balance sheet and on the income statement. So let me show you what we mean by this. So when that third party, when the doctor built me, they built me, okay, 3850. Actually, it's called third party receivable because they basically build the insurance company, but they also send me a bill. But really, it's a third party receivable, not patient receivable. This is a third party receivable. So they debit receivable and they credit revenue. And this is how we record the revenue and the receivable for the indemnity coverage. Okay. We build a third party. Therefore, we debit a third party receivable, third party revenue. Now we record the contractual adjustment. We're going to debit revenue contractual adjustment, which is a contra revenue account, contra to this one. Okay. So 3850 minus 2000 is what? Is 1850. What's left? Okay. Then they will credit an allowance of 2000. Also, this is a contra account. This is contra to the receivable. This is contra to the receivable. Okay. So the only cash that the health insurance would be paid is $2,000. So they will debit cash when they receive the cash and they will credit the allowance for contractual, they will debit the allowance for contractual adjustment. This account is gone when they get the money and they will credit the third party receivable for 3850. So this is the entry that we make when we receive the cash. So this is we bill at gross, we record the contractual adjustment, then we receive the cash. So this is how it works. Let's take a look at another example. During the week, the hospital bills $3 million, the third party insurers for services provided to patient who have indemnity insurance coverage. Remember, this is indemnity. We have to record that at gross. The hospital anticipate that third party insurance company to pay the amount bill, but at a discount of 40%. So basically the agreement between them and the insurance company is they'll pay 40% of the gross bill. Well, that's how would they record this entry to the hospital? They will debit third party receivable $3 million, they will credit third party revenue $3 million. This is the various revenue expected from various insurance company. Then they would record the contractual agreement. Well, if they're gonna pay only, they're gonna pay 60%, they're gonna have to take 40% off. 40% off, this is times 40%, will give us 1.2 million. Therefore, we debit revenue, we debit revenue, contractual adjustment 1.2 million. We credit allowance for contractual adjustment 1.2 million. Okay? Let's take a look. During the week, the hospital bills $1 million directly to patients for services provided for these for those patients. So here's the difference. The difference here is we are billing. There's no insurance involved here. We are billing the patients themselves. The hospital anticipates 65% of the patient charges are likely to be in collectible. And that's that's a high in collectible, but that's that that's that's typical in a hospital. So how would the how would the hospital record this entry? Okay, we're gonna also record it at gross, which is the gross is 1 million. So we're gonna debit patient receivable. This is different than third, they're both receivable, but this is third party receivable $1 million, credit patient revenue $1 million. Then we have to record that expense, which is a very high bed that expense. We debit 650,000 credit allowance for doubtful account 650,000. You'd say that's a lot. Yes, it is a lot. And that's typical in a hospital situation. Okay. Now let's talk about capitation fee revenue. When do we recognize the capitation fee revenue? Pretty straightforward. You recognize it when the cash is received. When the cash is received. Also, the company might provide charity care. And what is charity care? Somebody come in, somebody pick them up, and they don't have no health insurance coverage. They have no job. They're not homeless, but they don't have any assets. Under that situation, the hospital would say, I'm gonna provide this as a charity care because they don't expect to receive any money from them. Actually, in the US, if you showed up in the emergency room, they have to take you. They have no option. Like, like in other countries, I'm not gonna name any countries, but in some countries, they don't have to. I'll just, you know, I'll just since you're listening, it doesn't matter. For example, my my I come from Lebanon and Lebanon emergency room, they don't take you if you don't have money, they will not accept you in the US emergency room, they have to accept you whether you have money or not. Okay. So if the hospital thinks you cannot pay that money, they would not recognize any revenue from the get go. They would not recognize any revenue. So let's take a look at this example. The hospital received 7 million dollar of capitation fees from insurance company with which it has contract. During the year it provided services for which it built 9 million at standard rate. So they build the customers, not the customers, the patients. Yes, the customers. Yes, but let's call them patients. 9 million dollar or it would have built them 9 million dollar for those services. But based on the agreement between them and the in the insurance company, they would receive 7 million. Now, do we report the 9 million or do we report the 7 million? Remember, for capitation coverage, we record things when cash is received. Therefore, we received 7 million, we only have 7 million of revenue. Therefore, we debit cash, credit, capitation, revenue, 7 million, which is a revenue account. So we don't, we don't have to go there and say our standard rate would have been 9 million. Well, maybe if there was no insurance, you would have built the client 9 million, but we're talking about capitation revenue. So be careful. And the problem is capitation revenue, it means record the cash. Don't worry about what the, what they would have built on. Okay. Let's assume the hospital treated charity cases at a standard rate, it would have built them 85,000. So for the month, they have, they service, you know, so many people and as a result, they would have built them 85,000, but they don't think they can get money from those people. Therefore, it's considered a charity. What journal entry do we make? Easy. There's no journal entry. No revenue recognized because if you don't think you're going to get paid, don't put the revenue in and take it out. Just right from the get go, no revenue is recognized. Okay. Let's look at more examples. Healthcare provider, healthcare provider provided direct care services to patient, billing them 400,000. This is direct care of which, of which, of this amount we receive 120, but as a consequence of bad debt, expect to collect a total of 330,000. So we, we service 400,000 worth of, we provide 400,000 worth of services. We think we can collect 330, and we already received 120. So what are the journal entries for something like this? Well, we built a client 400,000, debit receivable, credit revenue, and we hope to get every penny of it, but we think we can only get 330, therefore debit bad debt expense, credit allowance. You might be saying, why don't we just debit receivable 330, and credit revenue 330? Why, why, why debit bad debt expense? This is an estimate. This is how much you think you are not going to be able to collect. You may collect more than 330, you may collect less than 330, which is different than charity. Charity care, you're not going to get anything. You're not expecting anything. You're expecting zero. So that's why we reported at gross and we write it down. Then when we receive the cash, we debit cash and credit receivable, just like any other entry we debit cash, credit receivable. Let's take a look at another example. A healthcare provider provided direct care to patient covered by insurance. Now here, the patients, they're not paying themselves, we're going to be billing third party. Who are members of various health plans for which at standard rate it would have cost us 650. However, owing to contractual agreement with the payer, we're actually going to build them only 480. So if those individuals did not have health insurance, we would build them 650, because they have health insurance, we would build them 480. How do we book the entries for contractual agreement? Okay, remember for contractual agreement, we still have to build it at gross, which is 650 third party receivable, third party revenue, not patient receivable, not patient receivable. This is not patient receivable. We're not expecting it from the patient, we're expecting it from the third party, that's why we say third party receivable. Then we record the contractual adjustment. The contractual adjustment is 170,000. We debit the contract revenue, we debit the contract receivable. Then when we receive the money, we debit the cash, we remove this receivable, we remove this receivable and we debit the cash and we credit these and we remove this receivable too. sorry, we move, sorry, this contra receivable and this receivable when we receive the cash, okay? The other two, the revenues and the contra revenue will go on the income statement and they'll be closed out. Provided a charity care for which we build them, we would have built them 82,000, what's the entry? Again, no journal entry, no journal entry. Let's take a look at a capitation example. Healthcare provider provided capitation fees of 1.4 million from healthcare plan and provided services to member of those plan for which it would have built 1.6. We would build them 1.6 but with the capitation fees we're only gonna get 1.4. We don't do anything until we receive the cash. So once we receive the cash, we debit cash 1.4, we credit capitation revenue 1.4. Basically, clean cut, capitation fees are clean cut entries, debit cash, credit revenue, okay, versus the contractual agreement which we have to have two adjustments, two entries then receive the cash, basically three entries. Let's take a look at indemnity revenue, okay? Remember, we recognize revenue when the service is provided. No net to contractual agreement. Just basically a review, just to kind of remind you. If you have any questions about this topic, please email me. If you happen to visit my website for additional lectures, please consider donating. If you're studying for your CPA exam, as always, study hard, it's worth it. In the next session, I will take a look at another topic which is cost reimbursement for hospital. Good luck and study hard.