Insolvent but Not Invisible: The RAC Audit Hangover in Distressed Healthcare Transactions

There’s no gentle way to say it: when your healthcare facility is facing insolvency, it feels like the house is on fire – and the fire marshal just showed up to issue a zoning citation.

Bankruptcy or receivership might sound like the end of your worries, but in healthcare, it’s often just the intermission. State licensure boards, the Centers for Medicare & Medicaid Services (CMS), Medicaid agencies, and – yes – our old friends, the Recovery Audit Contractors (RACs), are still very much in the building. You may be insolvent, but you’re still on the hook for regulatory compliance, and possibly, a multimillion-dollar extrapolated overpayment based on a sample size smaller than a wine tasting.

RAC Audits: The Gift That Keeps on Recouping

In recent years, state and federal governments have implemented strict transaction notice and review laws, particularly for healthcare mergers, acquisitions, and closures. These laws apply equally, if not more stringently, to distressed transactions. Why? Because when a hospital or clinic is going under, regulators want to ensure the next owner won’t make the same mess (or worse).

Unfortunately, many distressed providers are already knee-deep in RAC audits when the financial spiral starts. One RAC audit leads to a statistical extrapolation, which leads to an alleged $12 million overpayment – based on 30 claims. Providers dispute it, of course, but appeals take years, and the Medicare Administrative Contractor (MAC) starts withholding payments next Tuesday.

Can’t Bankruptcy Fix That?

If only. Bankruptcy may stop creditors at the door, but it doesn’t stop CMS from scrutinizing your provider enrollment, nor does it waive licensure or change-of-ownership (CHOW) rules. You can’t “sell” a license or a provider number like you would a used MRI machine. They’re non-transferable. The new owner must apply, and if you’re under audit, they’ll inherit the scrutiny – or worse, the delay.

Take Astria Health in Washington State. They filed for Chapter 11 in 2019, hoping for a quick §363 asset sale. But CMS and the state licensing board weren’t on the same schedule. Pending overpayments and audit flags delayed approval, stalling the buyer’s ability to operate. Imagine trying to resuscitate a hospital while holding your breath for CMS to review a CHOW packet.

What Regulators See (and What Buyers Should Fear)

Regulators look at more than just spreadsheets. When a provider is in distress, they ask: “What happened?” If the answer is “a RAC audit we’re still fighting,” that becomes part of the file.

Buyers, too, should be wary. Audit liabilities may not be discharged in bankruptcy. If the provider number survives, so does the audit history. If the number doesn’t survive, the new entity starts from scratch – new provider enrollment, new credentialing, and likely, no payments for months.

In Medicaid, it’s worse. Many states require recredentialing with every CHOW. And if the provider is under sanction or suspension, that status might delay or deny the new owner’s application, regardless of how squeaky-clean they are.

Survival Tips for Distressed Transactions (with RAC Drama)

Get regulatory counsel involved early – not your buddy from law school. Someone who knows CHOWs, CMS-855A forms, and how to explain extrapolation-induced insolvency with a straight face.

Disclose everything, assume nothing – regulators will find the RAC audits. Better to bring it up, explain your plan, and show that the new owner has safeguards.

Negotiate audit liability allocation – use indemnities, escrows, or even purchase price adjustments. Buyers should not get surprise bills for someone else’s “improper documentation.”

Talk to CMS and Medicaid directly – early communication can sometimes lead to conditional approvals or parallel review. Regulators like being in the loop.

Expect delays. Plan accordingly. Licensure and enrollment don’t move faster because you’re insolvent. Build realistic timelines.

Conclusion: Broke Isn’t Invisible

Healthcare may be the only industry where going bankrupt increases the paperwork. Regulatory compliance doesn’t stop just because the money did. And RAC audits? They’re the bad houseguest that keeps hanging around long after the party’s over.

But with good planning, legal guidance, and transparency, it’s possible to close a distressed deal, protect patients, and give the new owner a clean(ish) slate. Just don’t expect the auditors to send flowers.