CMS Final Rule on Transparency Complicates REIT and Private Equity Company Investments in Nursing Facilities

Introduction

On November 15, 2023, in response to governmental concerns over quality of care and operations in nursing facilities owned by private equity companies (“PECs”) and real estate investment trusts (“REITs”), as well as increased scrutiny of health care business investments, the Centers for Medicare and Medicaid Services (“CMS”) issued a final rule that requires Medicare skilled nursing facilities (“SNF”) and Medicaid nursing facilities (collectively referred hereinafter as “nursing facilities”) to disclose certain additional data on their owners, operators and management (the “Final Rule”).¹ Through this national-scale data collection, CMS seeks to increase transparency of nursing facility ownership to facilitate accountability for the quality of care furnished to nursing facility residents. CMS also aims to promote competition among nursing facilities by allowing patients to choose facilities based on the publicly available data of their owners and operators. The disclosure and transparency requirements imposed by the Final Rule will complicate investments by REITs and PECs in nursing facilities.

The Final Rule becomes effective on January 16, 2024. CMS had already updated Form CMS-855A (Medicare Enrollment Application) as of September 2023 to require the disclosure of owners that are PECs or REITs,² but CMS must make further updates to address the disclosure of additional data introduced by the Final Rule, as described in more detail below. Accordingly, based on guidance issued to date, SNFs enrolled in Medicare today do not need to immediately update their information but will need to update it upon the next revalidation, change of information (such as a change in 5% indirect or direct owners) or a change of ownership requiring the submission of a Form CMS-855A. CMS notes that once Form CMS-855A is revised, CMS will commence off-cycle revalidations of SNFs to obtain the requisite data that could not be provided during initial enrollment. Additionally, Medicaid nursing facilities will not be required to disclose the data until the relevant state Medicaid agency has established a process to collect it, which must be established promptly. The collected data will be publicly available within one year of reporting.

Background

In recent years, an increased interest from the real estate and private equity investment community in owning health care businesses, such as nursing facilities, has resulted in a corresponding desire for heightened regulatory scrutiny of such businesses.

Health care facilities, such as nursing facilities, represent an increasingly appealing investment opportunity given investors’ appetite for relatively stable asset classes and increasing public demand for healthcare. For example, since 2022, the confluence of inflation, increased construction costs, global supply chain issues and interest rate hikes have created new challenges in the commercial real estate market. As a result, certain real estate investors are seeking stabilized asset classes that are less impacted by economic cycles. Health care properties have historically been a relatively stable asset class, most recently evidenced by its general resilience through the pandemic. One key factor driving a large influx of private equity capital into the health care space is the rising demand from today’s generation of active and healthy senior citizens for accessible and affordable health care providers. The elder population is forecasted to continue to drive demand for health care real estate as the number of people over 80 years old is expected to balloon by approximately 50% within the next 10 years. Hospital systems have also noticed private equity capital entering the market to build new health care businesses and are looking to form joint ventures with these organizations – and for good reason. Health care made up about 20% of the United States’ gross domestic product in 2020 and is forecasted to increase to 30% by 2030.³

Health care REITs, in particular, continue to be a popular choice for investors for several reasons. REITs are generally desirable investment products because of their “inflation-hedging” characteristics. As prices rise, landlords have the ability to adjust rents in response to inflation. Long-term leases also typically build inflation protection into the lease terms. The inflation protection provided by a REIT can be measured by comparing REIT dividend growth to inflation. Over the last 10 years, REIT dividend growth has averaged 4.5%, well exceeding the annual inflation average of 2.8% during the same period. As a result of this inflation hedging, during the high inflation year of 2021, REITs outperformed the S&P 500 by 12.6%. REITs also continue to be popular among investors because, as an asset class, REITs offer diversification within themselves. Health care REITs may include, among other real estate holdings, hospitals, primary care facilities, research labs and long-term care facilities. REITs can also generate income through a variety of activities, such as owning and operating a nursing facility, owning the underlying land while tenants operate the facility on a net basis and providing additional financing options outside of standard leases. Consequently, health care businesses and REITs form a “mutually beneficial relationship” that allows each business to focus on its respective area of expertise: REITs can care for and develop their properties, and health care businesses can focus on improving patient care and services.⁴

However, the influx of private capital into the nursing facility sector has generated increased public concern regarding the value of patient care. Responding to these concerns, the Biden-Harris Administration (the “Administration”) signaled its desire to regulate the nursing facility industry during President Biden’s 2022 State of the Union Address, where he stated that “as Wall Street firms take over more nursing homes, quality in those homes has gone down and costs have gone up.”⁵ Consequently, in the February 2022 Fact Sheet (the “Fact Sheet”), the Administration raised concerns regarding deficiencies in the quality of care received by residents of private equity-owned nursing facilities and corresponding increased costs to federal health care programs. In response, CMS planned to implement certain initiatives to enhance accountability and oversight, increase facility ownership transparency, create pathways to well-paying jobs and ensure pandemic and emergency preparedness in nursing facilities.⁶ More specifically, the Fact Sheet sets forth a blueprint for how the Administration sought to scrutinize corporate ownership of skilled nursing and Medicaid nursing facilities—e.g., by tracking and identifying owners and operators, enhancing Nursing Home Care Compare, implementing Affordable Care Act requirements requiring transparency in corporate ownership, improving staffing and workforce sustainability, and examining the role of private equity—which have become effectuated through subsequent efforts⁷ as well as the Final Rule.

Summary of the Final Rule

The Final Rule furthers the directives set forth in the Fact Sheet and accompanies research studies released on November 15, 2023 by the U.S. Department of Health and Human Services (“HHS”) Office of the Assistant Secretary for Planning and Evaluation (“ASPE”).⁸ Under current law,⁹ Medicare providers and suppliers are already required to disclose in Form CMS-855A any direct or indirect ownership interests of 5% or greater in a nursing facility (except partnerships, which do not have a minimum threshold) and must identify whether any organizations with an ownership interest in or managing control over the nursing facility is a PEC or REIT. Additionally, current law requires that SNFs provide in Form CMS-855A a diagram identifying the organizational structures of the facility’s owners, including owners not required to be disclosed under Section 6 of Form CMS-855A.¹⁰ With respect to these requirements, the Final Rule merely codifies the definitions of PEC,¹¹ REIT,¹² and “organizational structure”¹³ and encourages state Medicaid agencies to collect data identifying whether an organization reported pursuant to current statutory requirements¹⁴ is a PEC or REIT.

Importantly, however, the Final Rule requires SNFs to now disclose to CMS the below additional data upon initial enrollment, revalidation and reactivation (i.e., when form CMS-855A is required), and that Medicaid nursing facilities disclose the same data to the applicable state Medicaid agency upon initial enrollment and revalidation. Furthermore, the Final Rule requires that SNFs also report such data listed below to CMS as part of any change of ownership under 42 C.F.R § 489.18 and report any change to this data within the timeframe specified in 42 C.F.R. § 424.516(e).

1. Each member of the facility’s governing body, including the name, title and period of service;
2. Each person or entity who is an officer, director, member, partner, trustee or managing employee of the facility, including the name, title and period of service for each such person or entity;
3. Each person or entity who is an additional disclosable party of the facility;
4. The organizational structure of each additional disclosable party of the facility; and
5. A description of the relationship of each such additional disclosable party to the facility and to one another.

Notably, the inclusion of “additional disclosable parties” makes the disclosure burden more expansive and captures any person or entity exercising operational, financial or managerial control over the facility (e.g., parent companies), leasing or subleasing real property to the facility, owning 5% or more of the real estate, or providing management, administrative, clinical consulting, accounting, cash management or financial services to the facility.

CMS plans to issue guidance to explain the new requirements to industry stakeholders, including (i) whether the data will link to other CMS information such as nursing facility quality measures or cost reports, (ii) examples of potential operational control, (iii) the specific requirements for reporting PEC and REIT data and (iv) specific examples of the types of data that must be disclosed. CMS will also update Form CMS-855A and provide additional information regarding the timing, manner and content of the published data.

Implications

In 2024, SNFs that are enrolling in Medicare or are revalidating will need to use the updated Form CMS-855A and disclose ownership data, and those enrolled or who are enrolling in Medicaid will disclose such data in the means prescribed by the state Medicaid agency. However, the Final Rule has broader implications than just filling out additional paperwork. By collecting and publishing the ownership data required by the Final Rule, CMS seeks to allow “families to make more informed choices about the care of their loved ones,” and “determine which environments are more likely to deliver better care for residents and patients.”¹⁵ The Final Rule is designed to make public which nursing facilities are owned by PECs or REITs. It follows, therefore, that the Fact Sheet’s directive for increased oversight and accountability of nursing facility ownership may consequently lead to increased targeted audits of PEC- and REIT-owned nursing facilities by the federal government. Taken together, these consequences add an additional calculus to a traditionally attractive investment opportunity for PECs and REITs.

If you have any questions about interpreting or complying with the Final Rule or preparing for its implications, please do not hesitate to contact one of the authors or your Ropes & Gray advisor.