As part of his 2012-2013 Executive Budget, Governor Andrew Cuomo proposed to limit the State’s reimbursement for the administrative costs of not-for-profit and for-profit service providers, as well as the reimbursement used to fund the compensation paid to executives. Just one day later, the Governor issued an executive order that — with minor differences — tracks the legislative proposal.

The Governor’s Budget documents note that although “one-third of the State budget goes to non-profit and for-profit agencies to provide services on behalf of the State ..., there are inadequate controls to protect against excessive executive compensation, administrative costs, and profit.” Moreover, the Executive Order asserts that “in certain instances providers of services that receive State funds or State-authorized payments have used such funds to pay for excessive administrative costs and outsized compensation for their senior executives, rather than devoting a greater proportion of such funds to providing direct care or services to their clients.”

To address this concern, the Governor’s Budget proposal and Executive Order direct various New York State agencies, including the Office for People with Developmental Disabilities, Office of Mental Health, Office of Alcoholism and Substance Abuse Services, Office of Children and Family Services, Office of Temporary and Disability Assistance, Department of Health, Office for the Aging, Division of Criminal Justice Services, and the Office of Victim Services, to promulgate regulations by the middle of April. These regulations address the following:

1. Limit State reimbursement for compensation paid to any executive in excess of $199,000.This carefully worded provision directs State agencies to limit to $199,000 the “reimbursement ... provided for compensation paid or given to any executive” of a provider that contracts with the State. On its face, this proposal does not place a direct cap on how much an organization may pay its executives, but it does limit how much of that compensation would be reimbursed by the State. The commissioners of each agency are granted some discretion in determining whether this reimbursement cap may be adjusted, but in no instance is the reimbursement for executive compensation to exceed “Level I of the federal government's Rates of Basic Pay for the Executive Schedule promulgated by the United States Office of Personnel Management.” Commissioners are, however, authorized to develop a waiver process.

When identifying which entities are within the scope of the restriction, it appears that the term “provider” is intended to mean, at a minimum, those entities that provide health or human services on behalf of the State. It is unclear whether this regulation also would apply to vendors who do not provide “care” services — e.g., information technology vendors, consultants, janitorial companies, etc.

Regardless, this provision does not appear to prohibit these providers from compensating their executives an amount in excess of $199,000 to the extent funding of such compensation is based on non-State revenue. Thus, this provision is likely to have a larger impact on those providers who rely largely on funding from the State, as opposed to entities that also receive private or federal dollars. However, even for entities with multiple sources of revenue, the proposal creates significant allocation and reporting challenges.

2. Require that no less than 85 percent of all dollars paid to a provider be used for direct care or services, not administrative costs. In addition to capping the reimbursements that would be applicable to expenses for salaries over a certain amount, the proposal places a cap on the administrative expenses that a provider may incur. Specifically, the agency is to require that no more than 25 percent of the state funds paid to the provider be used for “administrative costs.” This threshold will increase by 5 percent each year until 2015, at which point the provider is prohibited from spending more than 15 percent of the state funds on anything other than “direct care or services.”

3. Provide for certain enforcement mechanisms. Agency commissioners would be authorized, at their sole discretion, to terminate or non-renew the provider’s contract, should the provider fail to meet these compensation and administrative expense caps. The proposal does leave open the opportunity for providers to be granted a waiver from complying with these limitations, but there is no guidance as to the basis on which a waiver will be granted.

There are two notable distinctions between the proposal in the Budget and the Executive Order. Although not included in the Executive Order, the Governor’s Budget proposal directs the same agencies to develop a system of metrics that could be used to annually adjust State payments to providers. At a minimum, the agencies are to consider (i) the actual costs of providing the services; (ii) the amount of administrative expenses that the service provider incurs; and (iii) the compensation that the service provider pays its executives. Based on these and other factors that the agencies identify, the State may decide to change how much certain service providers are paid. By contrast, the Executive Order directs the commissioners to collect data from their providers to ensure compliance with these new requirements.

Potential Issues and Impacts

It appears that the proposal will have the greatest impact on those organizations that are solely or largely reliant on state funding to pay for the organization’s costs. If such an organization pays one or more executives more than $199,000, it is conceivable that the provider would have to reduce the executives’ compensation or find an alternative means of funding. Similarly, entities may be required to reevaluate their administrative structure and the amounts spent on administrative functions. Additionally, this new regulatory structure will force State agencies to review how they function, with regards to procuring services and determining reimbursement methodologies. Finally, due to the metrics proposal included in the Budget, providers would have to be prepared for potential annual fluctuations in the payments received from the State, based on the new measures established by the agencies.

There are many aspects of this proposal that are unclear:

• There is a lack in specificity in the terms that are used, and no definitions are provided. When the agencies promulgate the regulations, the rules will have to be carefully analyzed to determine who is a “provider,” what are considered “administrative costs” and “direct care or services,” who is an “executive” and what constitutes “compensation.”
• What impact will the Executive Order have if the legislative proposal is not included in the enacted version of the budget or is amended? Would State agencies still have the legal authority to proceed with promulgating regulations?
• If regulations are promulgated, will the agencies release them on an emergency basis — thereby having an immediate effect — or will the agencies follow the standard State Administrative Procedure Act notice and comment process?
• What will the agencies rely on as the justification for their proposed regulations? Will the New York State Not-For-Profit Entities Task Force, created by Governor Cuomo last August to conduct a comprehensive review and audit of compensation levels of organizations, issue a report that will form the basis for the regulations?
• Will certain regulations require a Medicaid State Plan amendment and CMS approval?
• What will the waiver process look like?
• Will any agency look to further restrict the compensation and expenditures incurred by service providers?
• Which agencies, in addition to those specifically referenced in the proposal, will opt to promulgate regulations?

The Budget proposal and Executive Order make clear that Governor Cuomo is intent on limiting State reimbursement related to executive compensation and administrative expenses. Nonetheless, the application of the broad rules included in the Governor’s proposal to specific types of reporting and reimbursement methodologies used by different State agencies raises many challenging financial, operational and legal issues. In order to avoid unintended consequences, service providers and vendors should carefully analyze and, where appropriate, respond to the proposal.