Unique Revenue Recognition Challenges for Hospitals, Healthcare Providers Under New Standard by Melissa Fleitas, CPA

Posted on November 06, 2019 by Melissa Fleitas

The past two years have marked significant changes in the way in which businesses and non-profit entities, including hospitals, report their financial performance. Under accounting standards codification 606 (ASC 606), these entities must adopt new methods for recognizing the timing, amount and uncertainty of revenue from and expenses related to contracts with customers.

While healthcare providers are accustomed to operating in an ever-changing environment of strict regulations, the new standard for revenue recognition requires management teams to exercise professional judgment when implementing the new principles-based approach. In general, ASC 606 requires all businesses in all industries and geographic locations to follow the same five-step model to determine when and how much revenue they can report from customer contracts:

  1. Identify each contract with a customer;
  2. Identify the “distinct performance obligations” or separately identifiable goods and services promised in the contract;
  3. Determine the transaction price(s) they “expect to be entitled to” under the terms of the contract;
  4. Allocate the transaction price to each separate and distinct performance obligation; and
  5. Recognize revenue at the time they satisfy each separate performance obligation.

The impact of these new procedures on financial statements varies from one industry to the next. However, all businesses must prepare to educate employees and make changes to policies, processes, systems and controls, including how they gather, document and disclose information. Following are some of the ongoing issues that CPAs can help your hospital or other healthcare organization manage when adopting the new model for revenue recognition.

In the healthcare setting, the customer is a patient who receives care from a provider under an often implied contract, for which both parties commit to fulfill their obligations. In order for a contract to exist, the provider delivering care must consider the customer’s ability and intention to pay and be reasonably assured that it will “probably” collect “substantially all” the consideration or amount to which it is entitled under the contract. Consideration is further defined as the net realizable amount providers “expect” to collect based on several factors (i.e. insurance reimbursement, patient out-of-pocket costs, etc.), rather than the gross amounts they charge for their services. If collectability is unknown, a contract may not exist, and the provider is precluded from recognizing revenue.

Hospitals and outpatient surgery centers that provide multiple goods and services to individual patients may bundle together these items as one single performance obligation that a patient can satisfy at the time of discharge or over a period of time. For example, a hospital contract for an overnight patient stay may include costs for a room, food, nursing care, diagnostic tests, medications, physical therapy, durable medical equipment and other required items that the patient can be expected to satisfy upon discharge. By comparison, healthcare providers that see patients on a regular schedule may instead identify each patient visit as a separate performance obligation for which they would recognize revenue after each individual session.

One of the more unique challenges of revenue recognition in the healthcare sector is the variety of different pricing arrangements that can fluctuate based on providers’ contracts with insurers, patients’ insurance coverage or lack of coverage, and other price concessions to account for each patients’ financial circumstances and (in)ability to pay. Providers’ negotiated rates with insurance companies and government payors, such as Medicare, make it fairly simple to determine the transaction price, or net amount of variable consideration they can expect to receive. But, what happens when a customer is a self-pay patient or uninsured, and the amount the provider actually can expect to collect from the patient is not certain?

For one, healthcare providers may elect a practical expedient to combine groups of contracts with similar characteristics into separate “portfolios” for the purpose of applying the new revenue recognition standard and meeting the “substantially all” collectability threshold. As an example, a hospital may create portfolios based on services, such as in-patient or outpatient, or based on department or insurance (i.e. portfolios for self-pay patients, Medicare-only and the uninsured) and recognize revenue according to those characteristics. However, creating portfolios of this kind can be done only when a provider is certain that doing so would not cause a material change in its financial statements and disclosures.

The new standard for recognizing revenue does not change the existing accounting treatment of receivables. Moreover, because providers must consider collectability in ASC 606’s first step of determining if a contract exists, bad debt will not apply until step three, when businesses must determine the transaction price and the variable factors and concessions that can affect these numbers. To account for the risk that uncollectable patient accounts have on provider’s financial statements, hospitals may record an impairment charge for bad debt rather than making price concessions that may reduce revenue.

Another unique challenge for healthcare entities is a more intensive financial statement disclosure requirement for which enhanced disclosures for disaggregation of revenues and how performance obligations are met will require management teams to exercise professional judgment in describing such methods. Moreover, management must ensure these disclosures are consistent with their policies and practices.

Healthcare providers adopting the FASB’s new model of revenue recognition from contracts with customers should recognize that it is an ongoing process that will require frequent assessment and reevaluation throughout their organizations. Under certain circumstances, it may even require a complete overhaul of existing policies, practices and training procedures for revenue recognition. Working with experienced CPAs can help providers efficiently manage these processes and maintain compliance with ever-changing financial reporting and disclosure requirements.

About the Author: Melissa Fleitas, CPA, is an associate director of Audit and Attest Services with Berkowitz Pollack Brant Advisors + CPAs, where she provides accounting, auditing and consulting services to a wide range of companies in the healthcare and manufacturing and distribution sectors. She can be reached at the firm’s Miami office at (305) 379-7000 or