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In 2013, Orthopedic surgeon extraordinaire, Dr. Callie Torres, had the once in a lifetime opportunity to perform a Petersen resurfacing hip joint procedure on the Olympic gold-medalist snowboarder, Travis Reed. The experimental procedure was performed "by the book" with the exception of the development of a pulmonary embolus, which forced Dr. Torres to close Mr. Reed at a rapid pace. This procedure resulted in a sponge negligently left behind at the incision site. In post-op, it was discovered that the incision was terribly infected, which led to an additional surgery. The infection was too deep, and the entire hip joint needed to be removed, which left the Olympic gold-medalist snowboarder without a hip. Ultimately, Mr. Reed became a double amputee, and his Olympic career was essentially over.
Because of a sponge. Because of an experimental procedure. Because we put trust in our doctors to care for us. But this isn't real life. This is Grey-Sloan Memorial Hospital on Grey's Anatomy, and this story-line is intentionally overly dramatic. Because the audience has a need for ongoing drama to stay engaged with the show.
But medical malpractice is not uncommon: medical negligence is the 3rd leading cause of death in the U.S. The sponge scenario – while seemingly overly dramatic – has actually happened!
Accordingly, healthcare entities (HCEs) should be prepared for potential medical malpractice lawsuits. Not only because such lawsuits may affect the public's perception of your HCE, but also because of the financial and accounting implications.
At this point, the HCE might say: "Jill – we have purchased malpractice liability insurance, what more is there to know?!"
Well, HCE, thank you for giving me the opportunity to make a list.
Under occurrence basis coverage, your policy will generally cover all incidents that have occurred during the policy period – whether or not they've been reported to the insurance carrier – and you will not need to worry about accruing any extra amounts associated with claims that have been incurred but not reported (IBNR). In this case, you're right HCE! You've purchased malpractice liability insurance, and there probably isn't much else to know! But occurrence basis coverage is expensive - over time you're probably paying as much for that insurance as you would pay for an extreme malpractice litigation case. Is it worth it?
Under claims-made coverage, incidents are only covered if they have been reported while the policy is in effect. This leaves out claims that have been incurred and not reported. It also presents an added pressure of ensuring that your policy is always up-to-date. On the other hand, at least it's not as pricey as occurrence basis coverage!
But don't forget, under either type of insurance, a HCE should also consider whether they may have a liability for deductibles on reported claims.
Let's say Dr. Torres left the sponge in Mr. Reed's incision, and an infection did not immediately occur. In fact, Mr. Reed didn't realize that his leg was slowly turning gray and losing functionality until three years later. The incident was incurred in 2013, but not reported until 2016. When Mr. Reed filed the $50 million claim in 2016, Grey-Sloan Memorial was not prepared. They had never budgeted for such a loss: an actuary had never been hired to assist management in estimating the potential accrual, and ultimately, Grey-Sloan Memorial went out of business.
Hiring an actuary can help an HCE estimate the potential future liability for IBNR claims, and thus in determining the accrual that should be recorded for estimated future payouts. This estimate can and probably will be adjusted each year depending on activity, history, and exposure. And don't forget the matching principle: the HCE needs to accrue the ultimate cost of IBNR claims as of the end of the reporting period.
Financial Accounting Standards Board (FASB) Accounting Standard Codification (ASC) 954-450-25-2 states that "…the ultimate costs of malpractice claims, which include costs associated with litigating or settling claims, should be accrued when the incidents that give rise to the claims occur… (and) an accrual for malpractice losses shall be based on estimated ultimate losses and costs associated with settling claims." In addition, FASB ASC 954-450-30-1 makes it clear that "…The accrual includes an estimate of the losses that will result from unreported incidents, which are probable of having occurred before the end of the reporting period…"
Check out FASB ASCs 954-450-25-2 and 954-450-30-1 for additional GAAP guidance.
These are only three items that HCEs should be considered in connection with a medical malpractice accrual in the financial statements. I know the scenario above is fictional, so if those ramifications aren't convincing enough, check out these actual Medical Malpractice Verdicts.
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