Accounting Concepts for an Independent Practice Association

January 23, 2017

Cash vs. Accrual

Because of the nature of IPA financial activity, the accrual method of accounting is strongly recommended to more accurately present the IPA’s financial position. For example, most likely the largest balance sheet item on the accrual basis financial statements will be the incurred but not reported (IBNR) reserve. To leave an IBNR liability off of the financial statements would dramatically distort the true financial status of an IPA. Below, I will briefly discuss these two methods:

  • Cash basis: Simply stated, this method only considers two issues – cash in and cash out. Revenue is recognized when received (versus when earned) and expenses are recognized when paid (versus when incurred). Because IPAs are not a ‘cash-in, cash-out’ business, cash basis financial statements will not reflect the true financial status of an IPA.
  • Accrual basis: The accrual accounting method recognizes revenue when earned (versus when received) and expenses when incurred (versus when paid). IPAs typically have significant receivables and accruals which should be represented in the financial statements to present an accurate picture of the IPA’s financial position.

IPAs often receive the bulk of their income in the form of capitation (based on per member per month predetermined rates). Most of the expenses will be provider related such as capitation, claims and stop loss premiums. The capitation revenue is received monthly and the intent is that these funds will cover claims incurred within the same time period. Because it can often take six months to a year to receive all claims which are incurred but not yet reported (IBNR), the accrual methodology is essential to fairly state the IPA’s financial position. To report on a cash basis, thus not notifying the reader of a large claims liability looming, would be very misleading.

Cash and Receivables


A checking account and money market account should be set up for each IPA. In cases where numerous IPAs are being managed, it is highly recommended that cash for each legal entity be maintained in separate bank accounts. This is because co-mingling cash for numerous IPAs can be extremely confusing (from an accounting standpoint) and typically does not sit well with physicians on the individual IPA boards. Both a long-term and short-term cash budget should be maintained and compared to the daily cash balance.

Cash flow can be improved by accelerating inflows and slowing outflows. For example, receiving deposits electronically, leasing or financing capital purchases rather than paying cash, and paying claims at the end of each month rather than throughout the month will improve cash flow.


  • IPA capitation receivables: These represent receivables due from the HMO. An IPA will typically not have a receivable from an HMO since capitation is normally prepaid for a given month. Adjustments relating to prior periods are called retroactive adjustments and will usually appear on subsequent capitation checks. Unless these adjustments for retroactive additions (or deletions) are significant, a receivable (or payable) should not be recorded.
  • Third party receivables: These include amounts due from secondary insurance and workers compensation insurance.
  • Risk pool receivables: Typically risk pool receivables for shared risk income are not recorded on IPA financial statements because accurate information regarding the settlement of the pools are usually not available on a timely basis. Following conservative accounting principles, receivables should not be recorded in the financial statements until they are estimable and realizable.

A shared risk arrangement is simply defined as risk shared by two or more parties. Usually the shared risk agreement is between an HMO or Hospital and an IPA in the sharing of hospitalization risk.

  • Stop loss recovery receivables: These represent the anticipated dollar amount of provider claims to be recovered by the IPA from the HMO (or outside insurer). IPAs typically have stop loss insurance to indemnify them of claims reaching a certain dollar amount. It is recommended that a receivable be booked at the time the stop loss recovery claim is filed with the insurer by the IPA. This receivable should be conservatively reflected, since the claims often get negotiated (reduced). If needed, an allowance should be booked.

Fixed Assets, Intangibles and Depreciation

Fixed Assets and intangibles of an IPA normally include office furniture, equipment, computer software and leasehold improvements. A capitalization policy should be in place and followed. This policy should include the capitalization threshold and depreciation method. All purchases should be approved through the budget process or by the appropriate party. A detailed listing of all asset additions and deletions should be maintained.

Custodial Trust Account

In some cases, an IPA will agree to hold in trust amounts payable for monthly capitation to certain provider panels. These funds will be held by the IPA until the panel decides how to allocate the aggregate capitation to the individual physicians who comprise the panel. The capitation should be expensed on the income statement and the related liability should be recorded at the time the capitation is owed to the panel. Accordingly, the cash required to payout this liability should be segregated on the balance sheet as ‘restricted cash – trust account’. (Note: The custodial cash asset should always equal the custodial trust liability).

Payout from the trust account should occur after the panel head authorizes the payments to the individual doctors who comprise the panels.

Incurred But Not Reported Liability (IBNR)

IBNR liability is an estimate of costs directly associated with the delivery of non-capitated health care services incurred during a financial reporting period but not yet reported to an IPA. Simply put, the health care service has already been provided, but the fee-for-service claim has not yet been received by the IPA. Most of this liability is associated with services provided by non-capitated specialists who are referred patients through the IPA.

The IBNR is a complex and fairly difficult liability to estimate since the IPA must rely primarily on trends from historical data to project a liability, which can take more than six months to reach completion.

Accrued Distributions

Accrued distributions represents the excess funds available to be disbursed to providers and/or management services organizations primarily as a result of effective managed care methodologies. These distributions are typically a part of a physician incentive or bonus program.

Capitation Revenue

Capitation revenue is the per capita monthly payout that an IPA receives from an HMO. In exchange, the IPA agrees to provide a specific menu of health services to a defined population over a set period of time. IPAs will normally receive, in advance, a negotiated monthly payment from an HMO. This payment is the same regardless of the amount of services rendered.

Risk Pool Revenue

Risk pool income is typically recognized on the financial statements of an IPA when it is received. This is because accurate and timely information regarding risk pool settlements is often difficult to obtain.

One recommendation is to acknowledge the potential risk pool income in a footnote disclosure to the financial statements and to then record the income on the financial statements when the cash is received. Risk pool income is one of the few transactions of an IPA that is typically recorded on the cash basis method of accounting.

Risk pool income should be reflected as “other income” on the financial statements of an IPA (versus recordation in the revenue section).

Provider Expenses – Capitation

Capitation expense represents the “per-member per-month” fees paid to physicians and other health care providers. The intent of capitation is to prepay a provider based on a predetermined estimate of the volume of services to be performed over a specific period of time.

For those Physicians or other health care providers that can effectively manage patient care through early diagnosis and treatment, capitation can provide better reimbursement than fee for service. The advantages for a provider can include increased and consistent cash flow and the elimination of tracking accounts receivable (and write downs) for their capitated patients.

The most successful provider reimbursement systems will encourage and reward the practice of managed care through physician bonus incentive programs.

 Provider Expense – Fee for Service Claims (FFS)

The fee for service claims expense category on the financial statements will be comprised of two expense items: claims paid and the change in IBNR. Fee for service refers to paying providers according to a fee schedule set for each service and/or procedure. The payment to a physician will vary by the number of services/procedures actually performed. The claim (for payment) must be submitted by the provider to the IPA. It can take months for claims to be submitted to the IPA. Because of this lag in the receipt of the claims, claims expense must be, in part, accrued for financial statement purposes.

Stop Loss Insurance (Reinsurance)

To provide an element of fiscal protection to the IPA, the IPA should obtain stop loss insurance. A stop loss insurance contract indemnifies an IPA by guaranteeing that medical cases above a specific dollar threshold will be insured as a risk of the insuring party. Some forms of stop loss segregate specific types of medical conditions (i.e., transplant cases, or AIDS).

Often, the HMO will include stop loss provisions within the medical service agreement between the IPA and the HMO. The HMO usually charges for providing this service by deducting a “per-member per-month” (PMPM) rate, or a predetermined percentage from the monthly capitation check. In cases where the HMO does not offer stop loss coverage, it is absolutely recommended that the IPA seek coverage from another insurance carrier.

When stop loss coverage is a deduction of the capitation revenue, the IPA’s financial statements should provide for recognition of the stop loss premium costs. One recommendation is to “gross up” the capitation revenue and show an offset called “stop loss withhold” as a reduction of capitation revenue. When an IPA pays insurance premiums directly to an outside insurance carrier, these amounts should also be shown as a reduction of capitation revenue to consistently reflect the cost in the same area of the financial statements (to compare ‘apples to apples’.)

Stop loss recoveries should be reported as a reduction to claim expense. The recording of a receivable for the anticipated recovery is acceptable when there is reasonable certainty of the amount to be recovered and that the insurance carrier has acknowledged this liability. Often times, recovery claims filed by the IPA will be negotiated or reduced by the HMO so the actual amount of recovery may change a few times. Again, I recommend that anticipated recoveries be reviewed with an ‘accountants skepticism’ to avoid the write down or write off of a receivable.

General and Administrative Costs

General and administrative costs, if applicable, should be expensed when incurred. These costs will include (but are not limited to):

  • Payroll and related costs
  • Rent and occupancy costs
  • Physician stipends
  • Office supplies
  • Copying and printing
  • Depreciation expense

These costs should be included in the general and administrative expense category of the income statement following provider expenses.

Reed Tinsley, CPA is a Houston-based CPA, Certified Valuation Analyst, and Certified Healthcare Business Consultant. He works closely with physicians, medical groups, and other healthcare entities with managed care contracting issues, operational and financial management, strategic planning, and growth strategies. His entire practice is concentrated in the health care industry. Please visit

Previous post:

Next post: