Department of Health and Human Services
DEPARTMENTAL APPEALS BOARD
Appellate Division

SUBJECT: California Department of Health Services

Docket No. A-98-30
Control No. CA-98-001-MAP
Decision No. 1670

DECISION

The California Department of Health Services (DHS, California) appealed a determination by the Health Care Financing Administration (HCFA) disallowing $4,058,843 in federal financial participation (FFP) claimed under title XIX (Medicaid) of the Social Security Act (Act). HCFA disallowed the federal share of expenditures for interest on registered warrants claimed for the period July 1 through September 30, 1992. California had paid Medicaid providers with interest-bearing registered warrants when California was temporarily out of cash. HCFA determined that the interest costs incurred when the warrants were later redeemed were neither necessary for the proper and efficient administration of California's State Medicaid plan, as required by the Act, nor allowable under the applicable cost principles. HCFA thus found the interest costs ineligible for FFP.

For the reasons discussed below, we find that there is no basis in law or regulation for allowing FFP for these interest costs. Accordingly, we sustain the disallowance.

Factual Background

The State of California's fiscal year runs from July 1 to June 30. On July 1, 1992, California ran out of cash to operate its government and its programs, including the Medicaid program (known in California as Medi-Cal), due to its failure to enact a budget for the 1993 fiscal year. Because of the budget impasse, California was unable to borrow money to meet its financial obligations. DHS was therefore unable to pay providers of Medicaid services the money to which they were entitled. In order to meet its general fund obligations, including paying such providers, California issued "registered warrants." "Registered warrants" are "promises to pay" issued by the State Controller's Office, stamped "registered," and endorsed on the back by the State Treasurer as "not paid for want of funds." See DHS Ex. C. Under the California Government Code, registered warrants are legal investments for funds of all banks and are negotiable instruments. Registered warrants bear interest at a rate fixed by California law from the date of registration to the date of maturity, or the date upon which the California Treasurer advertises that they are payable upon presentation if they bear no date of maturity. At the end of June 1992, the California State Controller issued a statement that "the majority of financial institutions (banks, credit unions, savings and loans) will cash registered warrants at their full face value upon presentation, with individuals holding registered warrants entitled to interest on the warrant at an annual rate of five per cent." DHS Ex. E.

Although the warrants could thus be cashed by providers at financial institutions as of the end of June 1992, the warrants were not redeemable by the financial institutions until September 2, 1992, when the California Governor signed the budget for the 1993 fiscal year. During the budget impasse when the Medi-Cal providers were being paid with the registered warrants, HCFA did not allow matching federal funds to be drawn down, except in very limited areas not relevant to this dispute. Only when the registered warrants had actually been redeemed with state funds did HCFA make FFP payments available to California. Consequently, in order to pay providers during the budget impasse, California used the registered warrants, in essence, to borrow the federal share of the Medi-Cal payments as well as the state share, incurring additional interest payments attributable to the federal share in the amount of the disallowance at issue.

In January 1993 HCFA notified DHS that it was deferring payment of DHS' claim for FFP for interest costs associated with the registered warrants. On May 7, 1993, DHS responded to HCFA's deferral notification. In a November 17, 1997 letter, HCFA informed DHS that it was disallowing $4,058,843 in FFP. HCFA determined that DHS failed to make timely payments to Medi-Cal providers by virtue of DHS' issuance of registered warrants in lieu of actual payments. HCFA determined that the interest costs resulting from the issuance of registered warrants were not amounts expended for the proper and efficient administration of the Medicaid program as required by the Act and that these costs were unallowable under paragraphs D.5 and D.7 of Attachment B to Office of Management and Budget (OMB) Circular A-87.

Applicable Authority

In regard to expenditures made in connection with the provision of services under the Medicaid program, section 1903(a)(7) of the Act provides that FFP is available in --

an amount equal to 50 per centum of the . . . amounts expended during such quarter as found necessary by the Secretary [of the Department of Health and Human Services] for the proper and efficient administration of the State [Medicaid] plan.

Regulations at 42 C.F.R. . 430.2(b) provide that regulations applicable to state Medicaid programs shall include those set forth at 45 C.F.R. Part 74. In turn, 45 C.F.R. . 74.171(a) (1992) states that the "principles to be used in determining the allowable costs of activities conducted by governments are contained in OMB Circular No. A-87 . . . ."

During the period at issue in this appeal, OMB Circular A-87 provided that --

Interest on borrowings (however represented), bond discounts, cost of financing and refinancing operations . . . are unallowable except as provided for in section C.2.1 of this Attachment [referring to rental costs]. Attachment B, paragraph D.7.

Discussion

There is no dispute over whether FFP is available in the amounts expended by California for the medical assistance services rendered by Medi-Cal providers that were paid for by registered warrants during the period of the budget impasse. Once the registered warrants were redeemed, HCFA made FFP available to DHS for its expenditures for services. The issue presented is whether FFP at the administrative cost rate of 50% is available for California's expenditures for interest that accrued on the registered warrants while California was temporarily out of cash.

I. FFP is not available for California's expenditures for interest paid on registered warrants issued during the 1992 budget impasse.

DHS' primary argument was that it timely paid Medi-Cal providers for their services, albeit with registered warrants rather than its usual method of disbursing funds, yet HCFA wrongfully failed to provide the federal share as required by the Act and regulations. DHS maintained that California was forced to borrow funds from banks via the mechanism of issuing negotiable instruments known as registered warrants to cover both the state and federal share of Medi-Cal payments, because HCFA refused to allow California to draw down federal funds to match projected state expenditures for the quarter beginning July 1, 1992. DHS argued that the facts of this case are not covered by the OMB Circular A-87 prohibition on interest costs, because in this case HCFA withheld FFP deliberately with no justification in the law or regulations, and California had no choice but to borrow money and incur interest costs in order to make the necessary provider payments. DHS contended that HCFA's refusal to allow California to draw down federal funds was contrary to HCFA's own regulations in effect during the period at issue. DHS cited 42 C.F.R. . 433.45, which provided that --

Public funds may be considered as the State's share in claiming FFP if . . . the public funds are appropriated directly to the State or local Medicaid agency, or transferred from other public agencies . . . to the State or local agency and under its administrative control . . . .

DHS argued that the registered warrants, being negotiable notes redeemable by providers at financial institutions for cash, were the equivalent of funds appropriated to the Medicaid agency and under its control. DHS insisted that, contrary to HCFA's arguments, California's inability to produce a timely budget for the 1993 fiscal year was not an unusual occurrence and that its borrowings were necessary and reasonable in light of HCFA's withholding of the federal share. DHS contended that equity requires the federal government to make California whole for a federal decision which is subsequently determined to be wrong and which caused the borrowing.

HCFA took the position that interest on borrowings is unallowable under the provisions of OMB Circular A-87. HCFA also argued these costs were not necessary and that under the Act FFP was only available in administrative costs necessary for the proper and efficient administration of the program. HCFA further contended that it properly withheld FFP because state funds were not available for expenditure until the registered warrants were redeemed. Moreover, HCFA argued that regulations require that a State Medicaid agency, in submitting its estimate of its quarterly expenditures, certify that it has State funds actually on hand and available for expenditure. HCFA reasoned that since California admittedly did not have funds on hand available for expenditure due to its budget impasse, HCFA was not obligated to provide FFP until such time as the warrants were redeemed by California.

As explained below, HCFA's arguments are persuasive. DHS' position that HCFA improperly withheld FFP until it had redeemed the warrants is premised on the assumption that California's issuance of the registered warrants constituted state expenditures within the meaning of section 1903(a) of the Act. We find, however, that California did not incur expenditures for the services in question until the registered warrants were redeemed. The registered warrants issued by California were promises to pay, not actual payments. In DHS' own words, the registered warrants were for "projected State expenditures under the Medi-Cal program for the quarter beginning July 1, 1992." Response Br. at 3 (emphasis added). While the Medi-Cal providers did receive payments if they cashed in the warrants at financial institutions, the payments were provided by the financial institutions and not by California. State funds were not actually expended until the warrants were redeemed by the financial institutions or other holders, as there was no removal of funds from the California State treasury.

Section 1903(a) authorizes FFP in the "total amount expended under the State plan as medical assistance," not in the amount the state merely promises to pay for medical assistance. The Medicaid program uses a system of quarterly awards to make federal funds available to the states. These awards are supported by reports which estimate expenses for a future quarter and verify amounts expended for a prior quarter. 42 C.F.R. . 430.30(b) and (c). Based on a state's estimate, federal funds are awarded and a state is authorized to draw federal funds each quarter "as needed to pay the Federal share of disbursements." 42 C.F.R. . 432.30(d). In its quarterly estimate, a state must certify both the amount of state funds currently available to cover the non-federal share of projected expenditures and the source and time available for funds not then on hand. See Section 2600 of the State Medicaid Manual (SMM). For purposes of the Medicaid Program, "[a]n expenditure occurs when cash or its equivalent is actually paid" by a state. SMM, Section 2560.4(G)(1). Therefore, the Act and the regulations do not provide for FFP for amounts projected or promised to be expended by a state rather than actually expended. See, e.g., District of Columbia Dept. of Human Services, DAB No. 1617, at 15-17 (1997).

California neither had funds on hand after July 1, 1992 nor could it do more than speculate about when cash would actually be available since it was unclear when it would again be operating under a budget. California did not even assert that it made the cash availability certifications necessary to support the quarterly draw down of federal funds. Accordingly, we find that there is no merit to California's assertions that a registered warrant's promise to pay was the same as an actual expenditure for FFP purposes and that HCFA improperly withheld FFP.

Moreover, DHS' attempt to assign to HCFA the responsibility for California's borrowing funds is unwarranted. Clearly HCFA had no role in the events that resulted in the budget impasse. California's inability to produce a timely budget plan was the sole cause of the situation presented by this appeal. DHS' assertion that California has traditionally failed to enact its budget in a timely manner does not excuse it from the effects of creating the budget impasse, running out of cash, and issuing the registered warrants. Therefore, we find that HCFA is not responsible for California's need to "borrow" funds to pay its providers.

With some exceptions not relevant here, a state is entitled under section 1903(a) of the Act to FFP at the 50% rate for expenditures found necessary for the proper and efficient administration of the Medicaid program. California's inability to produce a timely budget caused it to incur the interest costs at issue. As the regulations governing the quarterly grant award process make clear, proper and efficient administration of the Medicaid program requires a state to have cash available to meet its non-federal share obligations on a current basis. Therefore interest costs incurred because California was out of cash and could not meet its obligations are not necessary costs of Medicaid program administration. Thus, even if interest costs were otherwise allowable under federal cost principles, the interest costs associated with California's borrowing to pay providers were not necessary for the proper and efficient operation of the State plan under section 1903(a) of the Act.

However, the cost principles set forth in OMB Circular A-87 are explicit that interest is an unallowable cost. The Board has upheld disallowances of interest costs even where it was reasonable or cost-effective for grantees to incur these costs. See, e.g., California Dept. of Social Services, DAB No. 770, at 13 (1986). There is no basis here for finding that the interest payments were an exception to the cost principle prohibition. As we noted above, these circumstances render the interest costs California's responsibility since these costs were incurred as a consequence of its own untimely budget process.

Furthermore, DHS' reliance on 42 C.F.R. . 433.45 as support for its position is misplaced. First, the regulation as cited by DHS was no longer in effect on July 1, 1992, since it was superseded by a September 12, 1991 revision, with an effective date of January 1, 1992. 56 Fed. Reg. 46,386. Second, section 433.45 addressed the specific situation where a state was using as its state share of Medicaid expenditures public funds presumably other than its general revenues, which was not the case here. In this case, the funds came from banks, not from any state-controlled accounts. For these reasons, the regulation is not applicable to the facts of this case.

As we have found that the problem was due to California's actions, not HCFA's, DHS' argument that as a matter of equity California is entitled to be made whole because of HCFA's action in holding back FFP lacks any merit. Moreover, this Board cannot provide equitable relief. See, e.g., Bedford-Stuyvesant Restoration Corporation, DAB No. 1404, at 34 (1993). Rather, the Board is bound by all applicable laws and regulations. 45 C.F.R. . 16.14. As discussed above, there is no basis in either the Act or the regulations for providing FFP in the circumstances of this case.

II. DHS was not prejudiced in its appeal of this disallowance because of the time that elapsed between the payment of the interest and HCFA's disallowance determination.

DHS argued that HCFA's unexplained delay in issuing the disallowance was excessive, prejudiced DHS and should result in the dismissal of the disallowance action. DHS contended that HCFA violated its own deferral and disallowance regulations by waiting three and a half years from DHS' response to HCFA's deferral notices to issue a disallowance. DHS referred to 42 C.F.R. . 430.40(c)(5), which states that "the Regional Administrator has 90 days, after all documentation is available in readily reviewable form, to determine the allowability" of a claim which has been deferred. DHS maintained that in this instance HCFA deferred payment for years with no explanation and no request for additional information from DHS. DHS argued that this delay by HCFA unfairly prejudiced DHS' interest and its ability to present its case before this Board. DHS contended that individuals with relevant information have retired or left State service and that documents have become difficult to retrieve and interpret. DHS Ex. K, Declaration of Elizabeth Richardson, . 10.

We do not find that DHS was in any way prejudiced by HCFA's delay in issuing a disallowance, because HCFA gave more than adequate notice to DHS prior to the disallowance that its claims for FFP for the interest at issue were being questioned. In a September 24, 1992 letter, HCFA informed DHS of federal regulatory prohibitions on the payment of FFP in interest payments. DHS Ex. A. On December 22, 1992, HCFA's regional office notified DHS that, after review of the Statement of Expenditures for Medical Assistance Payments submitted for the quarter ended September 30, 1992, it was recommending to its Central Office that the payment of FFP in interest on registered warrants be deferred. Id. On January 25, 1993, HCFA wrote DHS that payment of FFP in interest on registered warrants was being deferred. Id. Given this oft-stated HCFA concern about the propriety of claims related to DHS' issuance of the registered warrants as payment to Medi-Cal providers, it would have been reasonable and prudent for DHS to have taken steps to maintain all relevant documents relating to the deferred interest payments. Moreover, given that we have found that DHS' claim for FFP had no basis in law or regulation, we question what possible documentation or testimony DHS could have produced that would have been of assistance in the presentation of its appeal.

Furthermore, the fact that HCFA may not have adhered to the provisions of 42 C.F.R. . 430.40(c)(5) in timely issuing its disallowance determination is not material, in light of our finding above that the interest costs on the borrowings were not eligible for FFP because such interest costs are not reimbursable by statute or regulation. The Board has held that a failure to follow the deferral regulations does not necessarily affect the validity of a disallowance. New York State Dept. of Social Services, DAB No. 807, at 4 (1986). The primary basis for the disallowance is that the interest payments in question were not allowable under federal law and cost principles, and thus the interest payments were ineligible for FFP. Any delay by HCFA in making its determination does not make an unallowable cost allowable and thus eligible for FFP.

Conclusion

For the reasons discussed above, we sustain the disallowance.

_____________________________
Donald F. Garrett

_____________________________
M. Terry Johnson

_____________________________
Cecilia Sparks Ford
Presiding Board Member