A New York court has held that the State’s regulatory limits on executive compensation and administrative expenses for entities that receive state funds unconstitutionally exceed proper regulatory authority.  The regulations, which implemented a 2012 executive order by Governor Andrew Cuomo and went into effect on July 1 of last year, were promulgated in substantially similar form by thirteen different New York State agencies.  Although other plaintiffs have challenged the regulations, this is the first time a court has held that they are unconstitutional.

On April 9, in Agencies for Children’s Therapy Services, Inc. v. New York Department of Health, the Nassau County Supreme Court held that the Department of Health (“DOH”) “strayed from the administrative into the legislative field” in promulgating the regulations, which, among other things, prohibit the use of more than $199,000 in State funding to compensate certain executives and employees of entities that receive at least 30 percent of their overall in-state revenues from the State.  Using the factors identified in the New York Court of Appeals’ holding in Boreali v. Axelrod, 71 N.Y.2d 1 (1987), to determine whether DOH “had usurped the role of the legislature in making public policy assessments,” the Supreme Court concluded that:

1. DOH, in implementing the regulations, “built a regulatory scheme on its own conclusions about the appropriate balance of trade-offs” without any statutory authority;

2. Rather than “merely fill[ing] in the details of broad legislation,” DOH “wrote on a clean slate its own comprehensive rules” despite the New York State legislature’s express rejection of such rules contained in Governor Cuomo’s proposed 2012-2013 Budget; and

3. The regulations were a “prophylactic approach to costs without the benefit of any evidence of expertise or technical competence” by DOH, and that DOH’s justification that the regulations would “ensure that taxpayers’ dollars are used properly, efficiently, and effectively to improve the lives of New Yorkers” was unsubstantiated.

The court went on to note that the plaintiffs were a group of for-profit corporations, and that there is no statute permitting DOH to regulate how for-profit entities allocate state funds for executive compensation or administrative expenses.  It distinguished a recent Suffolk County Supreme Court case, which involved the same regulations, Concerned Home Care Providers, Inc. v. New York State Department of Health et al., 969 N.Y.S.2d 743 (2013).  The court noted that inConcerned Home Care Providers, the plaintiffs were a group of non-profit corporations, while the plaintiffs in Children’s Therapy Services were all for-profit entities.  In Concerned Home Care Providers, the court determined that the New York Not-For-Profit Corporation Law (“N-PCL”) (specifically, N.Y. N-PCL § 508) provided sufficient “statutory approval of a policy limiting executive retention of funds” for such non-profits to be subject to the DOH regulations.  On the other hand, in Children’s Therapy Services, the N-PCL did not apply to the for-profit plaintiffs, and thus DOH’s reliance on the case was misplaced.

The Children’s Therapy Services court also struck down DOH regulations prohibiting certain conflicts of interests in the provision of services to children enrolled in New York’s Early Intervention program.

The State is expected to appeal the decision.