Health care lenders and others evaluating or relying on the financial strength of a healthcare provider need to think about the potential recoupment and setoff of claims against Medicare/Medicaid receivables of the provider. 


Recoupment, which is the netting of two related claims which is the function of a single, unitary transaction between the parties, occurs in the normal course of business and is not stayed by the automatic stay in a bankruptcy proceeding. For example, if Party A sells 100 widgets to Party B, and Party B discovers that four of the widgets were not delivered, Party B will deduct (recoup) the invoice amount of each unit in making payment to Party A.

In dealing with Medicare/Medicaid recoupment issues in bankruptcy, two general approaches have been taken by the Circuit Courts of Appeal with respect to the netting of overpayments against accounts due to the provider.

In the Third Circuit, which includes Delaware, the Court has applied an integrated transaction test, which means generally that any recoupment of Medicare/Medicaid payments is viewed as yearly payments and therefore the government can only recoup overpayments against payments due for a single year. Most of the Circuit Courts have adopted a “logical relationship test” in which Medicare/Medicaid overpayments and any payments due are all part of the same transaction even if they are not in the same year or the services are not rendered to the same patients. States are also permitted to recoup amounts owed for hospital and bed taxes by withholding certain Medicare/Medicaid payments otherwise due. Some courts have gone so far as to provide that Medicaid recoupments can be made across service categories, such as nursing service overpayments being recouped from payments due for laboratory services.


Unlike recoupment, which occurs in the ordinary course of business, Section 362 of the Bankruptcy Code provides an automatic stay against any act to setoff. While the right of setoff is codified in Section 553 of the Bankruptcy Code, before a setoff may occur, relief from the automatic stay must be obtained from the Bankruptcy Court. Setoff, as opposed to recoupment, involves the mutuality of obligations owed between the parties rather than analysis of a single, unitary transaction between the parties. For example, if Party A borrows money from Party B bank, and Party A deposits funds with Party B in an account, there are two debtor/creditor relationships which are established. The bank (Party B) can setoff on the funds owed to Party A against the loan owed by Party A to Party B. 

In the context of insolvency, whether inside or outside of bankruptcy, the Courts have generally treated claims of the United States as a single creditor and, therefore, the U.S. can setoff debts owed to a health care provider by one agency against claims that another agency has against the provider. Thus, for example, under the single creditor or unitary payment doctrine, the U.S. can offset taxes owed by a Medicare/Medicaid provider against payments due to the provider.

There appears to be a split of case law on whether the unitary setoff right of the government has priority over a security interest even if the secured creditor has provided the relevant federal or other governmental units with actual notice of the security interest held by the secured party.


In Chapter 11 bankruptcy cases, debtor-in-possession lenders often will try to obtain an assignment of and a security interest in Medicare/Medicaid accounts, and thereby limiting or eliminating the recoupment or setoff rights of the government. Section 362(B)(28) of the Bankruptcy Code provides that the automatic bankruptcy stay does not preclude the Secretary of Health and Human Services from excluding a specific provider from participation in the Medicare program or any other federal health care program. Thus, if lenders try to “prime” or otherwise create rights with respect to Medicare/Medicaid receivables, ultimately the Secretary of Health and Human Services can exclude the debtor-in-possession from participation in Medicare or other federal health care programs and thereby negate any priming or other provisions in favor of DIP lenders in a Court order which are inconsistent with the rights of the government.


As in most ongoing, normal business relationships, there are routine adjustments made based upon over or under shipments, quality issues, mistakes in billing and various forms of credits and allowances. Lenders to Medicare/Medicaid providers need to be acutely aware of the recoupment rights under those programs. In addition, there is always the risk that the Medicare/Medicaid receivable could be offset by the U.S. government based upon the tax liability or other sums due and owing by the health care provider to the government. In the bankruptcy context, the rules may vary on recoupment depending upon the judicial circuit the bankruptcy case is pending in. There also exists the possibility that, under certain circumstances, states may recoup for obligations owing and certainly both the federal government and state governments have setoff rights which are expressly acknowledged both in and out of the bankruptcy context. Finally, orders entered in bankruptcy cases in favor of a debtor-in-possession lender to a health care provider which would result in an assignment of or security interest in the provider’s Medicare/Medicaid receivables can be overridden by the simple act of excluding the provider from participation in federal health care programs.