[Federal Register Volume 67, Number 124 (Thursday, June 27, 2002)]
[Rules and Regulations]
[Pages 43448-43494]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 02-15776]



[[Page 43447]]

-----------------------------------------------------------------------

Part III





Department of Agriculture





-----------------------------------------------------------------------



Food and Nutrition Service



-----------------------------------------------------------------------



7 CFR Part 226



Child and Adult Care Food Program; Implementing Legislative Reforms To 
Strengthen Program Integrity; Final Rule

  Federal Register / Vol. 67, No. 124 / Thursday, June 27, 2002 / Rules 
and Regulations  

[[Page 43448]]


-----------------------------------------------------------------------

DEPARTMENT OF AGRICULTURE

Food and Nutrition Service

7 CFR Part 226

RIN 0584-AC94


Child and Adult Care Food Program; Implementing Legislative 
Reforms To Strengthen Program Integrity

AGENCY: Food and Nutrition Service, USDA.

ACTION: Interim rule.

-----------------------------------------------------------------------

SUMMARY: This rule incorporates in the Child and Adult Care Food 
Program regulations the changes mandated by the Agricultural Risk 
Protection Act of 2000 and the Grain Standards and Warehouse 
Improvement Act of 2000. The changes made by these laws that affect the 
Child and Adult Care Food Program were enacted due to concerns 
resulting from the findings of State and Federal Program reviews and 
from audits and investigations conducted by the Department's Office of 
Inspector General. The changes made by this rule are in several broad 
Program areas: the basic eligibility criteria for participation by 
institutions; procedures for denying institutions' applications and for 
terminating agreements with institutions and day care homes that do not 
meet Program requirements; administrative review procedures for 
institutions and day care homes; State agency and sponsoring 
organization monitoring requirements; limits on the amount of 
reimbursable administrative costs for sponsors of centers; and State 
agency controls on day care home participation. The changes are 
designed to improve Program operations and monitoring at the State 
agency and institution levels.

DATES: The effective date for this rule is July 29, 2002. For 
sponsoring organizations participating in the Program as of the date of 
publication, the provision at Sec. 226.16(b)(1) relating to the 
appropriate level of monitoring staff must be implemented no later than 
July 29, 2003. To be assured of consideration, comments must be 
postmarked on or before December 24, 2002. Comments will also be 
accepted via E Mail if sent to [email protected] no later than 
11:59 p.m. on December 24, 2002.

ADDRESSES: Comments should be addressed to Mr. Robert Eadie, Chief, 
Policy and Program Development Branch, Child Nutrition Division, Food 
and Nutrition Service, Department of Agriculture, 3101 Park Center 
Drive, Room 634, Alexandria, Virginia 22302-1594. Comments will also be 
accepted via E Mail sent to [email protected]. All written 
submissions will be available for public inspection at this location 
Monday through Friday, 8:30 a.m.-5 p.m.

FOR FURTHER INFORMATION CONTACT: Mr. Edward Morawetz or Ms. Melissa 
Rothstein at the above address or by telephone at (703) 305-2620. A 
regulatory impact analysis was completed as part of the development of 
this interim rule. Copies of this analysis may be requested from Mr. 
Morawetz or Ms. Rothstein.

SUPPLEMENTARY INFORMATION:

Background

What Led to the Increased Focus on Program Management and Integrity in 
the Child and Adult Care Food Program?

    In recent years, State and Federal reviews of the Child and Adult 
Care Food Program (CACFP or Program) have found a number of cases of 
mismanagement, abuse, and, in some instances, fraud by institutions and 
facilities participating in the CACFP. (``Institution'' means an 
independent center or a sponsoring organization that holds an agreement 
with the State agency to administer CACFP. ``Facility'' will be defined 
in this rule to mean any center or day care home participating in CACFP 
under a sponsoring organization. ``Center'' will be defined in this 
rule to include child care centers, adult day care centers, and 
outside-school-hours centers). These reviews revealed critical 
weaknesses in State agency and institution management controls over 
Program operations, and examples of regulatory noncompliance by 
institutions and facilities, including improper use of Program funds. 
In addition, audits and investigations conducted by the Department's 
Office of Inspector General (OIG) raised serious concerns regarding the 
adequacy of financial and administrative controls in CACFP and 
documented instances of mismanagement and, in some cases, fraud, by 
Program participants. Finally, the General Accounting Office conducted 
a review of the CACFP which raised questions concerning Federal and 
State administration of the Program.

What Did the Department Do in Response to These Audits, Investigations, 
and Reviews?

    In 1995, we convened a working group of State and Federal Program 
administrators to address the issues raised in these reviews and 
audits. Based on input from this group, that identified the most 
critical and vulnerable aspects of Program management in day care homes 
and child care centers, we developed and disseminated guidance on 
management improvement in the CACFP to all State agencies in 1997 and 
1998. In the meantime, we continued work on proposed regulations 
designed to address the problems identified in State and Federal 
reviews and in audit findings from OIG.

What Was the Legislative Response to the Review and Audit Findings?

    The William F. Goodling Child Nutrition Reauthorization Act of 1998 
(Pub. L. 105-336, October 31, 1998) earmarked a portion of the CACFP 
appropriation for Fiscal Years 1999 through 2003 to provide training 
and technical assistance to State agencies to improve program 
management and oversight (42 U.S.C. 1766(q)(3)). With this funding, we 
developed a formal training package that incorporated and expanded upon 
the written management improvement guidance issued in 1997-1998. In the 
fall and winter of 1999-2000, we conducted sessions around the country 
during which over 500 State agency staff involved in various aspects of 
Program administration received training in these management 
improvement techniques. We also intensified our efforts to monitor the 
CACFP in every State in fiscal years 2000 and 2001. We will use the 
results of these reviews to inform us in developing additional training 
and guidance on the most problematic aspects of Program operations and 
administration, and to help us target areas of State-level Program 
management for more intensive review in the future.
    On June 20, 2000, the Agricultural Risk Protection Act of 2000 
(Pub. L. 106-224, (ARPA)) was enacted. ARPA made a number of changes to 
the CACFP statute (section 17 of the Richard B. Russell National School 
Lunch Act (42 U.S.C. 1766) (NSLA)) designed to improve Program 
integrity. Shortly after that, the Grain Standards and Warehouse 
Improvement Act of 2000 (Pub. L. 106-472, November 9, 2000) (Grain 
Standards Act) modified one of the amendments made by ARPA. The ARPA 
and Grain Standards Act amendments are the basis for this rule and are 
discussed in more detail below.

Why Is the Department Publishing These Changes in an Interim Rule?

    We are publishing this as an interim rule because of the 
requirements of ARPA. Section 263(a) of ARPA required

[[Page 43449]]

the Secretary to publish rules as soon as practicable without regard to 
the notice and comment requirements of section 553 of the 
Administrative Procedure Act, the Secretary of Agriculture's policies 
relating to public participation in rulemaking, and the Paperwork 
Reduction Act. Therefore, we are required to publish a rule 
incorporating these changes to CACFP as expeditiously as possible. The 
amendments made by section 307 of the Grain Standards Act are essential 
to full implementation of the ARPA provisions and we have thus found 
that good cause exists to publish those amendments without first taking 
public comment.

Has the Department Issued Any Guidance on the Amendments Made by ARPA 
and the Grain Standards Act?

    Yes. To help State agencies implement these provisions until a rule 
could be published, we issued the following items:
     July 20, 2000--``Implementing Statutory Changes to the 
CACFP Mandated by the Agricultural Risk Protection Act of 2000 (Pub. L. 
106-224)''
     October 16, 2000--``Monitoring Requirements for Sponsoring 
Organizations in the Child and Adult Care Food Program (CACFP)''
     October 17, 2000--Letter to State agency directors on 
termination of institutions and day care homes
     April 12, 2001--``Effects of the Agricultural Risk 
Protection Act, Pub. L. 106-224, on termination of the agreements of 
day care home providers in the CACFP''
    These items were sent to all State agencies and are also available 
on our website at www.fns.usda.gov/cnd.
    In addition, in December of 2000, we conducted training for all 
Food and Nutrition Service (FNS) regional staff on the ``suspension'' 
provisions in the Grain Standards Act.

What Is the Relationship Between This Rule and the Proposed Rule on 
Improving Management and Program Integrity in CACFP?

    Enactment of ARPA meant that some of the provisions that we had 
originally planned to include in the proposed rulemaking are now 
mandated by Sec. 17 of the NSLA. As a result of ARPA's enactment, we 
deleted provisions that we originally intended to include in the 
proposed rule that was ultimately published on September 12, 2000 (65 
FR 55101). The provisions deleted from the proposed rule, as well as 
other provisions relating to the amendments made by ARPA and the Grain 
Standards Act, are addressed in this interim rule. After we receive 
public comment on this interim rule, we will analyze comments on both 
the proposed and interim rules. We then intend to publish a single rule 
that implements the provisions of the proposed rule and makes any 
necessary changes to the provisions being implemented in this interim 
rule.
    Readers should note that in order to make the changes necessary to 
implement the provisions of ARPA and the Grain Standards Act relating 
to institution eligibility, we had to reorganize the provisions 
relating to State agency approval of institution applications in 7 CFR 
226.6(b) of the current regulations. We had already proposed to amend 
several of these provisions in the September 12, 2000, rule (e.g., 
eliminating the requirements that State agencies notify an institution 
of an incomplete application within 15 calendar days and that State 
agencies provide technical assistance to institutions in completing 
their applications). In order to avoid confusion and to provide us the 
opportunity to evaluate any comments on these proposed changes, we have 
not included the proposed changes in this interim rule. Therefore, in 
making the necessary reorganization of Sec. 226.6(b), we repeated these 
provisions as they exist in the current rules, and not as we proposed 
changing them in the September 12, 2000, rule.
    The same circumstances occurred in other parts of this interim rule 
as well. For the most part, we have avoided incorporating any of the 
changes proposed on September 12, 2000, in this rule unless two 
conditions applied: (a) Commenters on the proposed rule were 
overwhelmingly in favor of the proposed change; and (b) making the 
change in this rule was essential to implementation of the provisions 
of ARPA and the Grain Standards Act. Provisions from the proposed rule 
that have been incorporated in this interim rule are explicitly noted 
in this preamble.

What Is the Department's Role in Ensuring Proper Implementation of the 
Many Changes Mandated by This Rule?

    We will continue to monitor, and provide technical assistance to, 
State agencies to assure proper implementation of this rule's 
provisions. Specific funding for CACFP training and technical 
assistance is being utilized, in part, to conduct more, and more 
comprehensive, management evaluations of State agencies' Program 
administration.
    In Fiscal Years 2000-2001, we conducted reviews in every State, and 
we will continue to conduct intensive monitoring in future years as 
well. As part of this effort, we revised the CACFP management 
evaluation guidance used by regional offices in order to ensure that an 
in-depth evaluation of each State agency's Program administration was 
conducted. The management evaluation guidance will be further revised 
to add compliance with the new provisions of this rule as a key element 
of management evaluations conducted after this rule's publication.

How Is the Remainder of This Preamble Organized?

    Because of the overlap between some provisions of the interim and 
proposed rules, we have organized this preamble into three parts, using 
approximately the same organization we used in the proposed rule. This 
organization of the preamble is intended to facilitate the later 
publication of a single rule both finalizing the provisions of the 
proposed rule and making any necessary modifications to this interim 
rule. The preamble is organized as follows:

Part I. Basic Institution Eligibility Criteria, Review and Approval of 
Institutions' Applications; Serious Deficiency Determinations, 
Corrective Action, Suspension, Termination, and Disqualification; and 
Administrative Reviews

A. Basic requirements for institution eligibility
    1. Limits on outside employment (Secs. 226.6(b)(16) and 
226.16(b)(7))
    2. Bonding (Secs. 226.6(b)(17) and 226.16(b)(4))
    3. Tax exempt status (Secs. 226.12(b)(2)(i), 226.15(a), 
226.17(b)(2), 226.19(b)(2) and 226.19a(b)(4))
    4. Past performance (Secs. 226.6(b)(12)-(14), 226.15(b), 
226.15(b)(7)-(8) and 226.16(b))
B. Standards for State agency review of an institution's application 
(Sec. 226.6(b)(18))
C. Additional condition for State agency approval of a new 
sponsoring organization's application (Secs. 226.6(b)(11) 
226.6(b)(18)(ii)(A)
D. Serious deficiency determination, corrective action, suspension, 
termination, and disqualification (Secs. 226.2 and 226.6(c))
    1. Denial of an application from a new or renewing institution 
(Secs. 226.6(c)(1) and (2))
    2. Actions based on serious deficiency determinations 
(Secs. 226.6(c)(1), (c)(2), and (c)(3))
    3. Corrective action timeframes (Sec. 226.6(c)(4))
    4. Suspension of participation for an institution (Secs. 226.2 
and 226.6(c)(5))
    5. FNS determination of serious deficiency (Sec. 226.6(c)(6))
    6. National disqualified list (Secs. 226.2 and 226.6(c)(7))
    7. State agency list (Secs. 226.2 and 226.6(c)(8))

[[Page 43450]]

E. Administrative reviews for institutions and responsible 
principals and responsible individuals (Secs. 226.2 and 226.6(k))

Part II. State Agency and Institution Review and Oversight Requirements

A. Unannounced reviews
    1. Unannounced reviews by sponsoring organizations (Secs. 226.2 
and 226.16(d)(4))
    2. Unannounced reviews by State agencies (Sec. 226.6(m))
    3. Notification requirements (Secs. 226.6(f)(1), 
226.16(d)(4)(v), and 226.18(d)(1))
B. Sponsor monitoring staff (Secs. 226.6(f)(2), 226.16(b)(1), and 
226.16(d)(4))
C. State review cycle (Sec. 226.6(m)(4))

Part III. Other Operational Provisions

A. Definition of institution (Sec. 226.2)
B. Ceiling on administrative reimbursements for sponsors of centers 
(Secs. 226.6(f)(3) and 226.16(b)(1))
C. State agency limits on transfers by family day care homes 
(Secs. 226.6(p) and 226.18(b)(13))
D. Notice to parents/guardians of enrolled participants 
(Sec. 226.16(b)(5))
E. Procedures for recovery of funds disbursed to institutions 
(Sec. 226.14(a))
F. Disqualification and administrative reviews for family day care 
homes (Secs. 226.16(l) and 226.6(l))

Part I. Basic Institution Eligibility Criteria; Review and Approval of 
Institutions' Applications; Serious Deficiency Determinations, 
Corrective Action, Suspension, Termination, and Disqualification; and 
Administrative Reviews

    In order to improve Program management in the CACFP, it is critical 
that an institution (i.e., an independent center or a sponsoring 
organization of day care homes and/or centers) be required to 
demonstrate in its Program application that it is capable of 
administering the Program in accordance with the regulations. 
Similarly, when an institution participating in the Program is found to 
have serious management problems and fails to take corrective action 
within a reasonable period, it has demonstrated that it is not 
qualified to continue participating. In both cases, State agencies must 
have clear minimum Federal guidelines for taking action to deny an 
institution's application or to terminate the institution's Program 
participation. Part I of this preamble discusses the new ARPA and Grain 
Standards Act requirements that are intended to improve State agencies' 
ability to approve or renew only qualified applicant institutions; to 
restrict or eliminate certain institutional practices deemed 
problematic by State and Federal reviews and OIG audits; and to 
terminate institutions' agreements when necessary.

A. Basic Requirements for Institution Eligibility

Prior to ARPA, What Were the Basic Requirements for Institution 
Eligibility?
    The NSLA sets forth certain basic eligibility requirements that 
institutions must meet prior to their participation in CACFP. Before 
enactment of ARPA, these were set forth at Secs. 17(a) and 17(d) of the 
NSLA. In addition to requirements specific to different types of 
institutions, the law stated that no institution was eligible to 
participate unless it accepted final administrative and financial 
responsibility for the Program's operation, and had not been seriously 
deficient in its administration of CACFP or other child nutrition 
programs.
What Changes Did ARPA Make to These Requirements?
    Section 243(a)(8) of ARPA added three new eligibility requirements 
for sponsoring organizations: (1) Employment of an appropriate number 
of monitoring staff, based on regulations promulgated by the 
Department; (2) establishment of a policy that prohibits sponsoring 
organization employees from having other employment that interferes 
with their Program responsibilities and duties; and, (3) for new 
sponsoring organizations, compliance with any State law, regulation, or 
policy requiring them to be bonded. In addition, Sec. 243(b) made two 
changes to basic eligibility requirements for all institutions by: (1) 
modifying the tax exempt status provision of the NSLA by eliminating 
the participation of any private nonprofit institution which has not 
yet obtained (i.e., is ``moving towards'') tax exempt status; and (2) 
broadening the requirements for satisfactory past performance by all 
institutions.
    These new eligibility requirements (except for sponsor monitor 
staffing standards, discussed in Part II of this preamble) are 
discussed in this section (Part I(A)) of the preamble. Other 
eligibility criteria pertaining to an institution's viability, 
capability, and accountability, as well as a special requirement 
pertaining to new sponsoring organizations, were added to the NSLA by 
Sec. 243(b) of ARPA and are discussed in Parts I(B) and I(C) of this 
preamble, respectively.
1. Limits on Outside Employment (Secs. 226.6(b)(16) and 226.16(b)(7))
    Section 243(a)(8)(D) of ARPA amended Sec. 17(a) [Sec. 17(a)(6)(E), 
as amended] of the NSLA to require that all sponsoring organizations 
have in effect ``a policy that restricts other employment by employees 
that interferes with the responsibilities and duties of the employees 
of the organization with respect to the program. * * *'' This 
requirement was prompted by several OIG audits which uncovered examples 
of sponsoring organizations' executive directors or other employees who 
received full-time salaries paid out of CACFP administrative funds 
while also being employed in a full-time capacity by another 
organization. This rule adds Sec. 226.6(b)(16), which requires 
sponsoring organizations not participating as of July 29, 2002 to 
submit their outside employment policy to the State agency as part of 
their Program applications, and to have sponsoring organizations 
participating as of July 29, 2002 submit an outside employment policy 
to the State agency not later than August 26, 2002. This rule also 
makes a parallel change to Sec. 226.16(b)(7).
Is the Department Regulating the Content of These Outside Employment 
Policies?
    We will not, except to establish certain broad parameters for State 
agencies' use in reviewing such policies. Outside employment policies 
must apply to all employees of the sponsoring organization who have 
responsibilities relating to the operation of CACFP. We acknowledge 
that these policies do not have to bar sponsoring organization 
employees from holding second jobs; however, a full-time employee 
cannot reasonably be expected to perform his/her Program duties while 
holding a second full-time job. Therefore, in establishing limits on 
outside employment, such policies should take into account the number 
of work hours being charged to the CACFP (e.g., is the employee being 
paid for 8 hours of work per week related to CACFP, or 40?) and the 
nature of the sponsor-related duties the employee performs which are 
paid out of CACFP funds. In addition, such policies must specifically 
restrict any outside employment that constitutes a real or apparent 
conflict of interest.
2. Bonding (Secs. 226.6(b)(17) and 226.16(b)(4))
    Section 243(a)(8)(D) of ARPA further amended Sec. 17(a) 
[Sec. 17(a)(6)(F), as amended] of the NSLA to require that any new 
sponsoring organization applying to enter the program obtain a bond if 
such bond is required ``under State law, regulation, or policy. * * *'' 
Because ARPA refers to State law, regulation, or policy, it is apparent 
that States should be accorded broad discretion in this area. However, 
the law is clear that such bonding requirements

[[Page 43451]]

may only be applied to new (i.e., those that apply for initial 
participation on or after the date of enactment of ARPA: June 20, 2000) 
sponsoring organizations. This provision does not preclude a State 
agency from requiring an institution to obtain a bond as part of a 
corrective action plan.
    Accordingly, this rule adds Secs. 226.6(b)(17) and 226.16(b)(4) to 
require that sponsoring organizations applying for initial 
participation in CACFP on or after June 20, 2000, submit a bond if such 
bond is required by State law, regulation, or policy. In order to 
analyze this provision's impact, Sec. 226.6(b)(12) also requires that 
any State agencies with such a requirement provide to the appropriate 
Food and Nutrition Service regional office (FNSRO) a copy of their 
State's law, regulation, or policy establishing bonding requirements 
for new CACFP sponsors, as well as a list of the organizations that 
have posted a bond as a result of such a requirement.
3. Tax Exempt Status (Secs. 226.12(b)(2)(i), 226.15(a), 226.17(b)(2), 
226.19(b)(2), and 226.19a(b)(4))
    Prior to enactment of ARPA, Sec. 17(d)(1) of the NSLA required that 
nonprofit institutions have tax exempt status under the Internal 
Revenue Code of 1986 or, ``under conditions established by the 
Secretary, [be] moving toward compliance with the requirements for tax 
exempt status. * * *'' A previous amendment to the NSLA had limited to 
180 days the period during which most institutions could participate in 
CACFP in a ``moving towards tax exempt'' status. However, Sec. 243(b) 
of ARPA amended Sec. 17(d)(1) [Sec. 17(d)(1)(B) as amended] to require 
nonprofit institutions to have tax exempt status under the Internal 
Revenue Code of 1986 prior to the start of their Program participation.
    Accordingly, this rule amends Secs. 226.12(b)(2)(i), 226.15(a), 
226.17(b)(2), 226.19(b)(2), and 226.19a(b)(4) to require that nonprofit 
organizations have tax exempt status prior to their participation in 
CACFP.
4. Past Performance (Secs. 226.6(b)(12)-(14), 226.15(b), 226.15(b)(7)-
(8), and 226.16(b))
    Prior to enactment of ARPA, Sec. 17(a)(2)(B) of the NSLA stated 
that, in order to be eligible to participate in CACFP, an institution 
must not have been ``seriously deficient in its operation of the child 
care food program, or any other'' child nutrition program ``for a 
period of time specified by the Secretary.'' Section 243(a)(8)(A) of 
ARPA amended Sec. 17(a)(6)(B) [as amended] by adding that institutions 
must not have been ``determined to be ineligible to participate in any 
publicly funded program by reason of violation of the requirements of 
the program'' for a period of time specified by the Secretary.
    Section 243(c) of ARPA also added Sec. 17(d)(5)(B)(i) to the NSLA, 
which requires us to establish procedures for terminating the 
participation of an institution or day care home provider that, among 
other things, conceals a criminal background. This provision indirectly 
establishes another eligibility requirement with regard to criminal 
backgrounds.
Why Does This Rule Revise the Requirement Concerning Past Performance 
in the Child Nutrition Programs?
    Currently, the requirement that a State agency may not enter into 
an agreement with an institution that has been seriously deficient in 
its operation of the CACFP or any other child nutrition program is 
contained in Sec. 226.6(c). These institutions are placed on what has 
been known as the FNS list of ``seriously deficient institutions'' 
(this list is renamed the National disqualified list by this rule). The 
institution remains ineligible for the Program until FNS, in 
consultation with the appropriate State agency, determines that the 
serious deficiency that resulted in the ineligible status has been 
corrected.
    As discussed further in Part I(D) of the preamble, this rule 
reorganizes Sec. 226.6(c). As part of this reorganization, we moved the 
provision that requires State agencies to deny applications from 
institutions that have been seriously deficient in the CACFP or other 
child nutrition programs to Sec. 226.6(b). This provision is really a 
requirement for Program eligibility rather than a basis for a new 
determination of serious deficiency (that is, if an institution 
applying to participate was determined to be on the National 
disqualified list, its application would be denied, but it would not be 
declared seriously deficient and placed on the list again). As such, it 
is more properly placed in Sec. 226.6(b), which is the section that 
addresses application approval. We have also reworded the provision to 
make it clear that State agencies are prohibited from approving an 
application submitted by an institution that is on the National 
disqualified list. This rule also makes clear that State agencies are 
prohibited from approving an institution's application if any of the 
institution's principals is on the National disqualified list, and are 
prohibited from approving the sponsoring organization's application on 
behalf of a facility if either the facility or any of its principals is 
on the National disqualified list. These prohibitions are in 
Secs. 226.6(b)(12) and (b)(13) of this rule. Related changes are made 
by this rule in Secs. 226.15(b) and 226.16(b). These changes are 
necessary to comply with the requirements of ARPA for establishing a 
National disqualified list that includes disqualified institutions, day 
care home providers, and individuals.
How Does This Rule Incorporate the Requirement Concerning Past 
Performance in Other Publicly Funded Programs?
    This rule places the new eligibility criterion concerning past 
performance in other publicly funded programs in Sec. 226.6(b). In 
order to assist State agencies in evaluating whether an institution is 
ineligible to participate in any other publicly funded program by 
reason of violating that program's requirements, this rule adds new 
Secs. 226.6(b)(13) and 226.15(b)(7) that require, as a part of each 
application, that the institution list all publicly funded programs in 
which the institution and its principals participated in the past seven 
years and that the institution certify that neither it nor any of its 
principals is ineligible to participate in those programs by reason of 
violation of the requirements of those programs during that period. 
Instead of such a certification, the institution may submit 
documentation that the institution or the principal previously 
determined ineligible was later fully reinstated in, or is now eligible 
to participate in, the program, including the payment of any debts 
owed.
What Is the Effect of a Criminal Background?
    As noted above, in order to incorporate the ARPA requirement that 
we establish procedures for terminating the participation of an 
institution or day care home provider that conceals a criminal 
background, we must also establish an application eligibility 
requirement with regard to criminal backgrounds. This rule amends 
Sec. 226.6(b) to prohibit State agencies from approving an 
institution's application if the institution or any of its principals 
have been convicted of any activity that occurred during the past seven 
years and that indicated a lack of business integrity. Convictions 
indicating a lack of business integrity include fraud, antitrust 
violations, embezzlement, theft, forgery, bribery, falsification or 
obstruction of justice, or any other activity indicating a lack of

[[Page 43452]]

business integrity as defined by the State agency. As with the 
requirement concerning past performance in other publicly funded 
programs, the rule adds to new Sec. 226.6(b)(14) a requirement that 
institutions include with their applications a certification concerning 
the criminal backgrounds of the institution and its principals. A 
related amendment is made in Sec. 226.15(b)(8).
Are There Any Other Changes to the Program Application Resulting From 
These ``Past Performance'' Provisions Mandated by ARPA?
    Yes. We have also amended Sec. 226.6(b)(13) and (b)(14) to require 
that the Program application include, as part of these two 
certification requirements, language stating that institutions and 
individuals providing false certifications will be placed on the 
National disqualified list and will be subject to any other applicable 
civil or criminal penalties. This language will help to deter the 
submission of applications by ineligible institutions and individuals, 
and will also provide the institution and individuals with notice 
regarding the consequences of submitting false certifications.
Why Did the Department Establish Seven Years as the Period of Time for 
the Past Performance and Criminal Background Eligibility Criteria?
    Prior to this rulemaking, an institution that had its participation 
terminated as a result of an uncorrected serious deficiency in its 
operation of any FNS Child Nutrition Program was placed on the National 
disqualified list. Once on the list, an institution was barred 
indefinitely from participating in the CACFP. Removal from the list 
occurred only when FNS, in consultation with a State agency, determined 
that the original serious deficiency had been corrected. In 
establishing criteria for participation for this rule, we considered 
whether an indefinite ban on participation accomplished the goal of 
ensuring Program integrity. We also considered whether an indefinite 
ban was a reasonable consequence of serious past performance problems 
by an individual or organization, and whether it was reasonable for 
those with a criminal background.
    We examined similar regulations providing a bar to participation, 
the government-wide nonprocurement suspension and debarment provisions, 
codified for the Department at 7 CFR part 3017. Companies and 
individuals may be debarred when determined not presently responsible 
based on actions such as criminal convictions or civil settlement 
agreements for fraud, antitrust violations, violation of terms of a 
public contract, and similar acts. Under the debarment regulations, 
companies and individuals may be debarred--banned--from participating 
in both procurement and nonprocurement transactions with Federal 
agencies, grantees and subgrantees, for a period of 3 years and, in 
some circumstances, 5 years. This suggested that a more time-limited 
ban on Program participation by an institution would be reasonable 
under the new regulations for the Program. However, we also concluded 
that being placed on the CACFP National disqualified list differed from 
the debarment provisions in impact due to the breadth of a debarment 
action's effect. While debarment prevents an entity from entering into 
any transactions with any Federal agency and many grantees and 
subgrantees, being placed on the CACFP list merely affects 
participation in FNS Child Nutrition Programs. Debarment's impact is 
potentially more significant than a ban on participation from a single 
program or set of programs.
    On balance, we established the seven-year ban to underscore the 
importance of ensuring Program integrity--the fundamental focus for 
Congress in creating the statutory provisions we are implementing in 
this rule. At the same time, we wanted to afford individuals and 
institutions with a ``second chance'' to participate in CACFP following 
a predictable period of time. We determined that a seven-year period 
gives institutions terminated from Program participation an opportunity 
to correct deficiencies and re-apply for Program participation. Within 
seven years, institutions interested in reapplication could re-pay 
Federal funds, institute fiscal and food service changes, retain and 
train sufficient staff, and establish a proven record of business 
integrity. This rule establishes a seven-year period for both the past 
performance and criminal background eligibility criteria. (Note: 
Placement on, and removal from, the National Disqualified list is 
discussed in Part I(C)(6) of this preamble, below.
Will State Agencies Routinely Be Required To Research the Past 
Performance of Institutions in Other Publicly Funded Programs, or To 
Perform Criminal Background Checks?
    No. State agencies may rely on the institution's certification as 
to its participation in publicly funded programs and its criminal 
convictions, and the participation in publicly funded programs and 
criminal convictions of its principals. Although State agencies are not 
required to conduct background checks or otherwise investigate the past 
performance of institutions and their principals, nothing in this rule 
prohibits such efforts. Further, if a State agency has reason to 
believe that the institution or one of its principals may have been 
determined ineligible for a publicly funded program, 
Sec. 226.6(b)(13)(iii) requires the State agency to follow up with the 
entity administering the publicly funded program to gather additional 
information. Also, if a State agency later discovers that either 
certification made by the institution is false, the State agency must 
declare the institution seriously deficient for providing false 
information on its application (see Secs. 226.6(c)(1)(ii)(A), 
226.6(c)(2)(ii)(A), and 226.6(c)(3)(ii)(A), which are discussed in more 
detail in Part I(D) of the preamble).

B. Standards for State Agency Review of an Institution's Application 
(Sec. 226.6(b)(18))

Prior to ARPA, What Other Criteria Did Institutions Need To Meet in 
Order To Be Approved for Program Participation?
    The statutory language mentioned in Part I(A) of this preamble, 
above (that no institution was eligible to participate in the Program 
unless it ``accepts final administrative and financial responsibility 
for management of an effective food service. * * *'') required State 
agencies to analyze each institution's administrative and financial 
capability to successfully operate the CACFP. The Program regulations 
at Secs. 226.6(b), 226.6(f)(3), 226.7(g) and 226.15(b)(3) pertaining to 
the content and review of the budgets annually submitted by all 
institutions, and at Secs. 226.6(b)(5) and 226.6(f)(2) pertaining to 
the management plans submitted by all sponsoring organizations, 
provided the bases for State agencies to make this determination of 
financial and administrative capability.
How Did ARPA Modify the Requirements for State Agency Assessment of an 
Institution's ``Administrative and Financial Capability''?
    The results of recent reviews and audits suggest that the existing 
criteria for application review have not provided specific enough 
guidance to State agencies for their use in determining whether an 
institution's application demonstrates its capability to administer the 
Program in accordance with the regulations. To that end, ARPA made 
changes designed to reinforce the

[[Page 43453]]

Management Improvement Training FNS provided to State agencies on how 
they must review a Program application in order to assess an 
institution's qualifications to operate the CACFP.
    Section 243(b)(1) of ARPA amended Sec. 17(d) of the NSLA by 
requiring that all institutions demonstrate that they meet three broad 
criteria documenting their ability to operate the Program. These 
criteria, which must be documented in the Program application, are that 
``the institution--
    (i) is financially viable;
    (ii) is administratively capable of operating the program 
(including whether the sponsoring organization has business experience 
and management plans appropriate to operate the program) described in 
the application of the institution; and
    (iii) has internal controls in effect to ensure program 
accountability.''
    State agency staff will recognize these as the same criteria--
viability, capability, and accountability (or ``VCA'')--that were 
described in the Management Improvement Training FNS provided to them 
during the fall and winter of 1999-2000.
In Light of ARPA's Addition of These Criteria to the Law, How Are You 
Changing the Requirements for State Agency Review of Institution 
Applications?
    The existing application process does not always provide State 
agencies with a clear enough way of determining whether an institution 
meets the law's VCA criteria. Current regulatory requirements at 
Sec. 226.6(b), which only list the minimum information that must be 
included in an application, may have inadvertently encouraged some 
State agencies to adopt a ``checklist approach'' to application review. 
Such an approach stressed checking to ensure that all of the required 
components were in the application, but did not always result in a 
critical analysis of the content of some vital parts of the 
application, especially the budget and (for sponsoring organizations) 
the management plan.
    In order to implement ARPA's intent that only institutions which 
have VCA be approved for participation, this interim rule requires at 
Sec. 226.6(b)(18) that all institutions demonstrate in their 
applications that they will meet, or are meeting, the three 
``performance standards'' addressed in FNS's Management Improvement 
Training and added to the law. New institutions with no recent record 
of CACFP performance would be required to show that they have 
management systems in place and business/management experience which 
would enable them to operate in accordance with the performance 
standards. Renewing institutions would be required--through their 
application and through the most recent State evaluation of their 
Program operations--to continue to operate in conformance with the 
performance standards. The definitions of ``new'' and ``renewing'' 
institutions which were proposed in the rule published on September 12, 
2000 (65 FR 55101) are promulgated in this rule to facilitate 
implementation of these ARPA requirements.
What Are ``Performance Standards'', and How Will They Improve the 
Application Review Process?
    Recently-completed reviews and audits of CACFP institutions have 
demonstrated conclusively that the mere submission of certain documents 
with the application provides little assurance that an applicant is 
capable of administering the Program in accordance with regulations. 
The requirement to measure the application's content against specific, 
performance-based measurements (``performance standards'') should 
change the focus of the State agency's application review process from 
checking to see that certain documents have been submitted to 
evaluating the applicant's understanding and ability to implement the 
Program's requirements, based on the substantive information contained 
in those documents.
    For example, institutions are currently required to submit an 
administrative budget with their applications. A ``performance 
standard'' which states that all items in the budget must conform to 
government-wide, Departmental, and Program-specific financial 
management requirements emphasizes, both to institutions and to State 
agency budget reviewers, that each item of cost in the budget must be 
reasonable, necessary and allowable, and that the budget as a whole 
must demonstrate that the applicant will devote sufficient resources to 
ensure the proper, efficient, and effective management of the Program.
What Are the Three ``Performance Standards'', and How Do They Relate to 
the Process of Establishing in the Application That Each Institution Is 
``Viable, Capable, and Accountable''?
    These three standards are based on the NSLA's requirement that only 
institutions which have VCA may participate. The standards--which 
differ slightly according to whether the institution is a sponsor of 
day care homes and/or centers, or is an independent center--are 
designed to help a State agency to measure an institution's potential 
ability to deliver the Program's benefits to children in accordance 
with generally accepted business practices and all applicable 
regulations and guidance. We wish to emphasize that these standards do 
not replace existing regulatory requirements on institutions' 
applications; rather, they supplement these requirements and provide 
State agencies with a better means of fully evaluating an institution's 
ability to participate in CACFP in accordance with Program regulations.

First Standard: Financial Viability/Financial Management

    The first standard for evaluating an institution's application 
measures whether it is financially viable, and whether it will expend 
and account for funds according to financial management requirements 
set forth in Program regulations, the Department's Uniform Financial 
Management Requirements (7 CFR parts 3015 and 3016), and FNS 
Instruction 796-2, ``Financial Management--Child and Adult Care Food 
Program.'' This rule requires State agencies to evaluate institutions' 
applications as to whether:
    (1) A new sponsoring organization has documented in its management 
plan that there is a need for its services. This means that its 
participation will help ensure the delivery of Program benefits to 
otherwise unserved facilities or participants, in accordance with 
criteria developed by the State agency pursuant to paragraph (b)(11) of 
this section. All sponsoring organizations must demonstrate that they 
will use appropriate practices for recruiting facilities, consistent 
with paragraph (p) of this section and any State agency requirements;
    (2) The institution has adequate financial resources to operate the 
Program on a daily basis, based on Program administrative earnings and 
non-Program resources (if any) the institution plans to devote to 
Program administration, and can document financial viability (e.g., 
through audits and financial statements); and
    (3) Costs in the institution's budget are necessary, reasonable, 
allowable, and properly documented.
    The determination of whether the institution is ``financially 
viable'' will be based upon its budget (and, for a sponsoring 
organization, its management plan), and will vary based on the size of 
the institution, the number of facilities it proposes to serve, the 
number of staff it needs to carry out all Program responsibilities, and 
the non-CACFP resources (if any) to be used

[[Page 43454]]

in the organization's operation of the CACFP.
    With regard to recruitment practices, readers should note that this 
standard will require State agencies to review the facility recruitment 
practices of any sponsoring organization, whether it administers the 
Program only in homes, only in centers, or in both homes and centers. 
Although sponsors of centers rarely recruit new facilities in the same 
manner, or with the same rapidity, as sponsors of day care homes, the 
results of some of the OIG audits have led us to re-examine the 
recruitment practices utilized by some center sponsors. Therefore, if a 
sponsor proposes to recruit child care or adult day care centers, this 
rule requires State agencies to apply the recruitment element to them 
as well.
    With regard to the recruitment of day care homes by a sponsoring 
organization already participating in CACFP, we wish to emphasize that 
``appropriate recruitment practices'' are those designed to add non-
participating day care homes to the Program, not those that are 
designed to encourage participating homes to change sponsorships. From 
time to time, some day care home providers may wish to change sponsors 
for valid reasons. However, a sponsoring organization's costs related 
to marketing their sponsorship to providers already participating in 
CACFP under another sponsorship are not allowable Program costs, under 
the ``reasonable and necessary'' requirements of government-wide cost 
principles and FNS Instruction 796-2, ``Financial Management--Child and 
Adult Care Food Program.'' We also wish to remind State agencies that 
they must ensure that a non-participating provider understands that it 
may choose among approved sponsors if more than one sponsor serves the 
area of the State in which the provider resides.

Second Standard: Administrative Capability

    The second standard for evaluating an institution's application 
measures whether it is administratively capable and can effectively 
manage the Program. Appropriate and effective management practices must 
be in effect to ensure that the Program operates in accordance with 
regulations. State agencies will review all institutions' applications 
to determine whether, once they are operating the CACFP, they:
    (1) Have an adequate number and type of qualified staff to ensure 
operation of the Program in accordance with this part;
    (2) If a sponsoring organization, document in their management plan 
that they employ staff sufficient to meet the ratio of monitors to 
facilities set forth in Sec. 226.16(b)(1) and the factors established 
by the State agency pursuant to Sec. 226.6(f)(2); and
    (3) If a sponsoring organization, have written policies and 
procedures that assign Program responsibilities and that ensure 
compliance with civil rights and other Program requirements.

Third Standard: Program Accountability

    The third standard requires the State agency to review the 
application of any institution to determine that the institution can 
ensure the accountability of Program funds, as well as the nutritional 
adequacy of the Program meal service. To this end, all institutions 
will be required to document that:
     There is adequate oversight of the Program by the 
institution's governing board of directors;
     There is a financial management system in place with 
management controls specified in writing;
     Program records are maintained that are sufficient to 
document compliance with Program requirements, including budgets, 
approved budget amendments, and audited financial statements; and
     They will follow practices that result in the operation of 
the Program in accordance with the meal service, recordkeeping, and 
other requirements of this part.
    In addition, when the institution is a sponsoring organization, the 
State agency will also review the sponsoring organization's management 
plan to determine whether the sponsoring organization:
    (1) Maintains on file valid and complete facility applications and 
other appropriate records of provider operations;
    (2) Will adequately train sponsoring organization and facilities in 
proper operation of the Program;
    (3) Will monitor each facility's compliance with Program 
requirements at Sec. 226.16(d)(4);
    (4) If a sponsor of day care homes, will correctly classify tier I 
and tier II day care homes;
    (5) Has a financial system and management controls specified in 
writing that assure fiscal integrity and accountability for all funds 
and property received, held, and disbursed; assure the integrity and 
accountability of all expenses incurred; assure that funds and property 
are used, and expenses incurred, for authorized Program purposes; 
describe a system of safeguards and controls in place to prevent and 
detect improper financial activities by sponsoring organization 
employees; and ensure the timely and accurate payment of claims to all 
sponsored facilities; and
    (6) Has a system that assures that sponsored facilities will comply 
with the Program meal pattern, licensure/approval, civil rights, 
claims, and recordkeeping requirements.
    The third standard primarily measures whether the applications of 
independent centers and sponsoring organizations assure that they will 
accountably and appropriately operate the Program to provide nutritious 
meals to participants and meet all other Program requirements.
Will the Department Provide More Detailed Descriptions of the 
Individual Elements of the Three Performance Standards in This 
Proposal?
    No. Including detailed guidance in this rulemaking would make the 
preamble and regulatory language too cumbersome. Additionally, we could 
not take into account all of the State-level factors that will affect 
implementation. Instead, we have presented guidance to State Program 
administrators in the Management Improvement Guidance issued in 1997-
1998 and the training conducted during the fall and winter of 1999-
2000. In addition, we will continue to issue Program guidance, and to 
provide management improvement training, to State agencies on an 
ongoing basis. State agencies, in turn, are also required to 
disseminate this written guidance to their institutions, and to train 
institutions on management improvement regulations and guidance as 
quickly as possible.
    An exception to the statement that we will not provide detailed 
explanations of the standards in this rule relates to the establishment 
of sponsor staffing standards for monitoring. Such staffing standards 
were recommended in the OIG audits and are now statutorily mandated as 
a result of ARPA. The rationale for these standards is discussed in 
greater detail in Part II(B) of this preamble, below; the new 
regulatory requirement appears in Sec. 226.16(d) on sponsors' 
monitoring responsibilities, and is only cross-referenced in the second 
performance standard.
What if an Institution's Application Does Not Demonstrate That It Will 
Meet These Performance Standards?
    Unless the State agency determines that an institution has 
demonstrated its ability to fully meet each of these

[[Page 43455]]

standards, the institution's application must be denied and the 
institution must have the opportunity to request an administrative 
review of the denial, as specified in Sec. 226.6(k). This new language 
strengthens the Program's long-standing requirement that, prior to 
approving an institution for Program participation, the State agency 
must make a positive determination that the institution's application 
demonstrates its ability to properly manage and operate the Program.
    Accordingly, to provide greater assurance that State agencies 
approve only those institutions which are capable of operating CACFP in 
accordance with the regulations, we are revising Secs. 226.2, 226.6(b), 
226.15(b) and 226.16(b) to:
     Add definitions of ``new'' and ``renewing'' institutions;
     Require that all participating institutions meet the VCA 
criteria by demonstrating in their Program applications that they 
comply with the three performance standards discussed above;
     Require that State agencies evaluate all applicant 
institutions against these performance standards, in order to assess 
their qualifications to administer the Program properly, efficiently, 
and effectively; and
     Require that State agencies deny the application of any 
institution which fails to demonstrate that they meet the performance 
standards and the other application requirements set forth in 
Sec. 226.6(b).

C. Additional Condition for State Agency Approval of a New Sponsoring 
Organization's Application (Secs. 226.6(b)(11) and 226.6(b)(18)(ii)(A))

    In addition to the application approval criteria embodied in the 
three performance standards described in Part I(B) of the preamble 
above, the law establishes an additional condition for the approval of 
a new sponsoring organization's application to participate in CACFP. 
Section 243(b)(1) of ARPA further amended Sec. 17(d) 
[Sec. 17(d)(1)(C)(i)(II), as amended] of the NSLA by mandating that a 
State agency may approve a new sponsoring organization's application 
``only if the State agency determines that * * * the participation of 
the institution will help to ensure the delivery of benefits to 
otherwise unserved family or group day care homes or centers or to 
unserved children in an area.'' This section of ARPA also requires each 
State agency to establish criteria to determine whether a new 
sponsoring organization's participation ``will help to ensure the 
delivery of benefits to otherwise unserved'' facilities or children.
    This provision of ARPA requires a new sponsor to demonstrate to the 
State agency's satisfaction that it will make CACFP available to 
currently-unserved facilities or children. It addresses a concern 
frequently expressed by State agencies and participating sponsoring 
organizations--that, prior to ARPA, no clear legal basis existed for a 
State to prohibit a new sponsoring organization from entering CACFP by 
recruiting an existing sponsor's facilities, sometimes by promising lax 
enforcement of Program rules.
    With regard to the law's requirement that each State agency 
establish criteria for determining whether a new sponsor will provide 
benefits to unserved facilities and/or children, the statute implicitly 
recognizes the possibility of some variation among States' criteria. At 
the same time, we remind State agencies that, in developing these 
criteria, they must abide by the law's intent that such criteria apply 
to new sponsoring organizations only (either sponsoring organizations 
applying for the first time or applying after a lapse in 
participation). Additionally, State agencies must understand that the 
criteria they develop to implement the statutory language regarding 
unserved facilities and/or children must be administered consistent 
with current Program rules providing new day care home sponsoring 
organizations with access to startup funding.
    Any State agency requirement that a new sponsoring organization 
must have a minimum number of homes is contrary to the law. We fully 
understand that a new sponsoring organization with no financial 
resources other than CACFP administrative funding will need to sponsor 
enough homes to generate reimbursement that supports the hiring of 
staff and the purchase or rental of equipment necessary to successfully 
operate the Program. However, multi-purpose organizations that have 
other sources of funding may be willing to use some of these funds to 
pay for CACFP costs in excess of reimbursements in order to provide the 
Program's benefits to a small number of homes in an unserved area or 
areas.
    Accordingly, this rule further amends revised Sec. 226.6(b)(11) to 
require State agencies to develop criteria for determining whether a 
new sponsoring organization's participation will help ensure the 
delivery of benefits to otherwise unserved facilities or participants. 
For the sake of consistency and simplicity, we made clear that this 
requirement applies to both sponsors of child care facilities and adult 
day care centers. This rule requires State agencies to disseminate the 
criteria to new sponsoring organizations when they request information 
about applying to the Program and requires new sponsoring organizations 
to submit documentation that they meet the State agency's criteria. 
This rule also makes this requirement part of Performance Standard 1 
(Sec. 226.6(b)(18)(i)(A)).

D. Serious Deficiency Determination, Corrective Action, Suspension, 
Termination, and Disqualification (Secs. 226.2 and 226.6(c))

What Impact Did ARPA and the Grain Standards Act Have on the Process of 
Terminating an Institution's CACFP Agreement?
    ARPA added provisions to the NSLA that for the first time set 
statutory standards for the process of suspending the participation of 
institutions and terminating the agreements of institutions and day 
care home providers. Shortly thereafter, the Grain Standards Act 
amended those provisions. ARPA also added new requirements concerning 
the timing of administrative reviews relating to terminations and 
suspensions and the availability of administrative reviews for day care 
home providers in certain cases. As a result of the statutory 
requirements pertaining to termination, we had to revise the rules 
governing the entire process leading up to a possible termination--
determining an institution ``seriously deficient,'' providing an 
opportunity to take corrective action, and determining whether the 
deficiency is satisfactorily corrected.
What Changes Do ARPA and the Grain Standards Act Require?
    Section 243(c) of ARPA added a new Sec. 17(d)(5) to the NSLA that 
requires us to ``establish procedures for the termination of 
participation by institutions and family or group day care home 
providers under the program.'' Section 17(d)(5) (as further amended by 
Sec. 307(c) of the Grain Standards Act) sets forth certain parameters 
for these procedures. Specifically, the procedures must:
     Include standards for terminating the participation of an 
institution or day care home provider that ``engages in unlawful 
practices, falsifies information provided to the State agency, or 
conceals a criminal background'' or that ``substantially fails to 
fulfill the terms of its agreement with the State agency'';
     Allow an institution or day care home provider to have an 
opportunity to take corrective action prior to commencement of 
termination

[[Page 43456]]

procedures, except if the institution or day care home provider engages 
in practices that pose an imminent threat to participants' health or 
safety or to the public health or safety, as discussed in Part I(D)(4) 
below;
     Provide for the suspension of an institution's Program 
participation if the State agency determines that the institution has 
submitted ``false or fraudulent claims'' and if a suspension review 
determines that the ``preponderance of the evidence'' supports the 
State agency's determination;
     Provide an institution or day care home provider with an 
administrative review ``prior to any determination to terminate'' an 
institution's or day care home's agreement; and
     Include the Department's maintenance of a National list of 
``institutions, sponsored family or group day care homes, and 
individuals that have been terminated or otherwise disqualified from 
participation in the program * * *'' and dissemination of the list to 
State agencies for use in approving applications for participation.
    The changes related to the serious deficiency determination, 
corrective action, suspension, termination, and disqualification of 
institutions and responsible principals and responsible individuals are 
discussed in this part of the preamble (Part I(D)). Part I(D) also 
discusses FNS determinations of serious deficiency, the National 
disqualified list, and related State agency lists. Revisions to the 
administrative review procedures for institutions are addressed in Part 
I(E) of this preamble, and provisions relating to the disqualification 
of day care homes and administrative reviews for day care homes follow 
in Part III(F).
How Does This Rule Amend the Current Regulations at Sec. 226.6(c) To 
Include These Required Procedures?
    The current regulations at Sec. 226.6(c)(1)-(11) list some of the 
reasons for denying applications and for terminating institutions' 
agreements as a result of their failure to correct serious 
deficiencies. The regulations at Sec. 226.6(c) also establish the 
procedures to be used in denying applications or terminating agreements 
with institutions.
    Over the past several years, based on input from State agencies, we 
have considered reorganizing and clarifying the regulations dealing 
with serious deficiencies, corrective action, the termination of CACFP 
institutions' agreements, and the placement of institutions and 
individuals on the National disqualified list. The changes to 
termination procedures mandated by ARPA and the Grain Standards Act, 
and ARPA's requirement that we develop procedures for all aspects of 
the serious deficiency/corrective action/termination process, provided 
us with the opportunity for such a reorganization and clarification.
How Does This Rule Reorganize Sec. 226.6(c)?
    The steps that must be followed to deny the application of a new 
institution, to deny the application of a renewing institution, and to 
terminate the participation of a participating institution differ. For 
example, the actions that lead to a serious deficiency determination 
for a new institution (i.e., an institution applying to participate in 
the Program for the first time, or after a lapse in participation) are 
different than for a participating institution. In addition, different 
procedures must be followed when a State agency takes action to 
determine an institution seriously deficient versus when FNS takes such 
an action. In order to accommodate these differences, this rule 
reorganizes Sec. 226.6(c) as follows:

     Sec. 226.6(c)(1)--Denial of a new institution's 
application
 Sec. 226.6(c)(2)--Denial of a renewing institution's 
application
 Sec. 226.6(c)(3)--Termination of a participating institution's 
agreement
 Sec. 226.6(c)(4)--Corrective action timeframes
 Sec. 226.6(c)(5)--Suspension of participation for an 
institution
 Sec. 226.6(c)(6)--FNS determination of serious deficiency
 Sec. 226.6(c)(7)--National disqualified list
 Sec. 226.6(c)(8)--State agency list
    In an effort to simplify the process, each part of revised 
Sec. 226.6 provides step-by-step instructions that the State agency 
must follow in order to take the specified action. As a result, this 
section of the preamble does not repeat these detailed instructions. 
Instead, the preamble focuses on the issues that raise unusual 
questions and the reasons for taking a particular approach to different 
types of actions. In order to best understand these new provisions, we 
urge readers to carefully read the new Sec. 226.6(c) before reading 
this part of the preamble.
1. Denial of an Application From a New or Renewing Institution 
(Secs. 226.6(c)(1) and (2))
What Is the Difference Between a New and Renewing Institution?
    This rule amends Sec. 226.2 to add definitions of ``new 
institution'' and ``renewing institution.'' New institutions are those 
applying to participate in the Program for the first time or applying 
after a lapse in Program participation. These definitions enable us to 
distinguish between the three groups of institutions (``new 
institutions,'' ``renewing institutions,'' and ``participating 
institutions'') as we discuss the standards for approving and denying 
Program applications and terminating Program agreements. These 
definitions were included in the proposed integrity rule and received 
widespread commenter support.
When Must a State Agency Deny the Application of a New or Renewing 
Institution?
    The current wording and organization of Sec. 226.6(c) is somewhat 
unclear with regard to the process for denying applications. For 
example, because this paragraph deals with both the denial of an 
institution's application and with the termination of the agreement of 
a participating institution, some State agencies may have been deterred 
from denying the application of an institution that failed to 
demonstrate the ability to operate the Program, because they may have 
believed that they were required to first determine that the 
institution was ``seriously deficient''.
    State agency administrators are aware that, if a new institution 
applies to CACFP and is determined unqualified to participate (e.g., it 
is found to lack the financial and administrative capability to operate 
the Program), it does not mean that the institution is ``seriously 
deficient'' in the same sense that a currently participating 
institution is ``seriously deficient'' when it is found to have 
mismanaged the Program or misappropriated Program funds. Rather, it may 
be the case that, by hiring more or better qualified staff or by 
improving its management plan in other ways, a new institution could 
subsequently be approved for participation. Thus, new institutions 
whose applications to participate are denied should not normally be 
determined seriously deficient and placed on the National disqualified 
list. Being placed on the National disqualified list would prohibit 
them from participating in CACFP until they were removed from the list. 
In fact, an assumption that a new institution whose application is 
denied will normally be placed on the National disqualified list could 
deter institutions from applying to participate and State agencies from 
denying applications, because the consequence of disapproving the 
application (placement on the National disqualified list) would be so 
severe.

[[Page 43457]]

    This rule makes clear in Secs. 226.6(c)(1)(i) and 226.6(c)(2)(i) 
that the State agency must deny the applications of new and renewing 
institutions if the applications do not meet all of the requirements 
for Program applications in Secs. 226.6(b), 226.15(b) and 226.16(b). 
Only if, in reviewing the application, the State agency determines that 
the institution has committed one or more serious deficiency as 
identified in Secs. 226.6(c)(1)(ii) and 226.6(c)(2)(ii), must the State 
agency initiate action to disqualify the institution and the principals 
and individuals responsible for the serious deficiency(ies).
What Action Must the State Agency Take if It Determines a New 
Institution Is Not Capable of Meeting the Performance Standards?
    If the State agency determines that a new institution is not 
capable of meeting the performance standards, the State agency must 
deny the application without making a serious deficiency determination.
How Does This Differ From a State Agency's Determination That a 
Renewing Institution Is Not Meeting the Performance Standards?
    The result for a renewing institution is different from that of a 
new institution. Normally, we would expect that a State agency would 
discover that a participating institution is not operating in 
conformance with the performance standards during a review. In that 
case, the State agency must take immediate action to initiate a process 
that could ultimately lead to the termination of the institution's 
agreement, including declaration of serious deficiency and the 
opportunity to take corrective action. However, on occasion a State 
agency might not detect such a failure until a renewing institution 
submits its application. Again, the State agency must initiate action 
to deny the renewal application, including declaration of serious 
deficiency and the opportunity to take corrective action.
2. Actions Based on Serious Deficiency Determinations 
(Secs. 226.6(c)(1), (c)(2), and (c)(3))
What Do You Mean by ``Seriously Deficient'' and ``Disqualified'?
    We believe that the terminology used in current regulations may 
have confused some State agency Program administrators and contributed 
to errors in responding to institutions with serious operational 
problems. For example, in current regulations, the phrases ``serious 
deficiency'' and ``seriously deficient institution'' are used to refer 
to institutions at two very different stages of a process: initially, 
an institution is notified by its State agency that it is ``seriously 
deficient'' in its operation of CACFP and is given an opportunity to 
take corrective action; later, if the institution fails to take 
corrective action during the specified time, its agreement is 
terminated by the State agency and it is placed on a list of 
``seriously deficient institutions.'' Thus, in the current regulations, 
``seriously deficient'' is used to describe institutions that have been 
told by the State agency that they have a serious management problem, 
and also to describe institutions that have failed to correct such a 
problem and whose Program agreements have been terminated.
    ARPA uses the term ``disqualified'' to refer to institutions that 
were determined to be seriously deficient, failed to take corrective 
action, and whose agreements were terminated after completion of an 
administrative review (appeal), or when no review was requested. This 
rule adopts this terminology and amends Sec. 226.2 to add definitions 
of ``seriously deficient'' and ``disqualified.'' This allows us to 
distinguish, more clearly than in the current regulations, between (1) 
those ``seriously deficient'' institutions that have been informed of a 
serious deficiency and will have an opportunity to correct the 
deficiency and (2) those ``disqualified'' institutions that have failed 
to take satisfactory corrective action within the allotted period of 
time, have had their Program agreement terminated, and have been placed 
on the National disqualified list.
What Is the Difference Between an Institution Making Administrative 
Errors, and an Institution that Is Seriously Deficient?
    It is critical to discuss the circumstances warranting a 
determination of serious deficiency. To understand how and when a 
determination of serious deficiency must be issued, State agencies must 
be able to distinguish between administrative errors and ``serious 
deficiencies'' because, once an institution is determined to be 
seriously deficient, the process can culminate in only two outcomes: 
the correction of the serious deficiency to the State agency's 
satisfaction within stated timeframes, or the State agency's proposed 
termination of the institution's agreement.
    In monitoring institutions, State agencies routinely discover 
management problems that warrant various types of responses. If, for 
example, the State agency discovers that child care facilities are 
serving meals that meet the Program's meal pattern but lack variety, we 
anticipate that the State agency would suggest ways for the sponsor to 
help facilities have greater variety in their menus. Similarly, if a 
State agency discovered that the institution made occasional 
recordkeeping errors, it would require correction of the procedures 
giving rise to these errors, or additional training of the staff making 
the errors. Neither of these examples would warrant determining the 
institution seriously deficient.
    There is, however, a point at which institutions experiencing 
continued problems of this sort indicate serious mismanagement and 
therefore a serious deficiency. Problems that initially appear 
manageable may become serious deficiencies if not corrected within a 
reasonable period of time.
Is There Any Room for the Exercise of Discretion by the State Agency in 
Deciding Whether an Institution Is Seriously Deficient?
    Yes. As discussed above, a State agency should differentiate 
between occasional administrative errors and systemic management 
problems. A single instance of some of the actions listed as serious 
deficiencies in this rule (for example, the misclassification of 
several tier II homes when the sponsor administers 500 or 1,000 homes) 
would not be a basis for a determination of serious deficiency, whereas 
a single occurrence of other actions (for example, submission of a 
false claim) would be. A sponsoring organization of day care homes that 
misclassifies two of its 1,000 homes as tier I due to clerical errors 
must be viewed differently than a sponsor with widespread 
misclassification due to fundamental errors in the organization's 
operation of tiering or due to its improper use of school, census, or 
household income data. Similarly, a sponsor that fails to pay two of 
its 1,000 providers on a timely basis due to a clerical error must be 
treated differently than a sponsor that fails to pay a significant 
number of its providers within five days, as required by the 
regulations, or is found to have used provider reimbursements to pay 
for administrative expenses. Thus, a State agency must consider both 
the type and the magnitude of the problem when deciding whether it 
warrants determining the institution to be seriously deficient. 
Similarly, as discussed in the previous portion of this preamble, when 
reviewing an incomplete renewal application, a State agency would 
generally request the submission of more or better information to 
complete the application

[[Page 43458]]

or to demonstrate that the institution was viable, capable, and 
accountable. If the renewing institution proved unable to document its 
compliance with one or more aspect of the performance standards, then 
the State agency would make a determination that the institution is 
seriously deficient.
    We recognize that State agencies may encounter examples that are 
not readily identifiable as either ``administrative errors'' or 
``serious deficiencies.'' We urge State agencies with questions 
regarding the proper application of these concepts to consult their 
FNSROs for technical assistance.
Why Are the Lists of Serious Deficiencies Not Identical for These Three 
Types of Action?
    In order to simplify and clarify the serious deficiency process, 
this rule establishes separate lists of serious deficiencies applicable 
to new institutions (Sec. 226.6(c)(1)(ii)), renewing institutions 
(Sec. 226.6(c)(2)(ii)), and participating institutions 
(Sec. 226.6(c)(3)(ii).
    The current list of serious deficiencies at Sec. 226.6(c) forms the 
basis for the list of serious deficiencies for participating 
institutions. This rule revises the existing language to expand and 
clarify the types of problems that would lead a State agency to 
determine an institution seriously deficient in order to fully meet our 
responsibilities under ARPA. The changes for participating institutions 
are at Sec. 226.6(c)(3)(ii) and include as serious deficiencies:
     Failure to properly implement and administer the day care 
home termination and administrative review procedures set forth at 
Secs. 226.6(l) and 226.16(l);
     Use of provider funds to pay the sponsoring organization's 
administrative expenses;
     Failure to comply with the performance standards at 
Sec. 226.6(b)(14);
     Failure to repay disallowed expansion funds to the State 
agency;
     Failure to correctly classify day care homes as tier I or 
tier II;
     Failure to properly train or monitor sponsored facilities;
     Failure to pay sponsored facilities in accordance with the 
regulations;
     The fact that the institution or any of the institution's 
principals have been declared ineligible for any other publicly funded 
program by reason of violating that program's requirements (however, 
this prohibition does not apply if the institution or the principal has 
been fully reinstated in, or is now eligible to participate in, that 
program, including the payment of any debts owed); and
     Conviction for any activity that occurred during the past 
seven years and that indicated a lack of business integrity. A lack of 
business integrity includes fraud, antitrust violations, embezzlement, 
theft, forgery, bribery, falsification or destruction of records, 
making false statements, receiving stolen property, making false 
claims, obstruction of justice, or any other activity indicating a lack 
of business integrity as defined by the State agency.
    The additional items reflect changes in the CACFP regulations and 
underscore the importance of particular management functions, the 
failure or nonperformance of which reviews and audits have identified 
as common problems among institutions whose participation was 
ultimately terminated for mismanagement. In addition, the final two 
items reflect statutory changes to the NSLA resulting from the ARPA. We 
wish to emphasize that State agencies must not attempt to review 
another public entity's decision to terminate or declare ineligible an 
institution from a publicly funded program for violating that program's 
requirements. Similarly, State agencies must not review a court's 
action in convicting an institution or its principals of a business-
related offense. The NSLA's intent in this area is to require the CACFP 
State agency to initiate action to terminate an institution's 
participation based on a final determination made by another public 
entity or a court.
Are There Any Serious Deficiencies That Are Not Included in the Lists?
    This rule clarifies that the list of serious deficiencies for all 
three categories of institutions is not meant to be all-inclusive. Any 
problem that results in, or otherwise demonstrates, an institution's 
failure to perform its administrative or financial responsibilities 
under the regulations, requires a State agency to determine the 
institution seriously deficient. Thus, the final item in the list of 
serious deficiencies for all three types of institutions (``any other 
action affecting the institution's ability to administer the Program in 
accordance with Program requirements'') is intended to provide State 
agencies with the ability to declare an institution seriously deficient 
when the institution engages in action that rises to the level of a 
serious deficiency, but is not specifically enumerated in the 
applicable list of serious deficiencies for new, renewing, or 
participating institutions.
May an Individual Be Determined To Be Seriously Deficient?
    No. Only institutions may be determined to be seriously deficient 
and given the opportunity to take corrective action. In most cases, an 
institution's completion of successful corrective action would cause a 
State agency to rescind the declaration of serious deficiency against 
the institution and discontinue any potential action that might be 
taken to place responsible principals or responsible individuals on the 
National disqualified list.
    However, ARPA requires us to maintain a list of institutions, day 
care home providers, and individuals (i.e., responsible principals and 
responsible individuals, as defined in the preamble, below) that have 
been terminated or otherwise disqualified from Program participation. 
It has long been our practice to include institutions and individuals 
on the ``serious deficiency'' list. This step is necessary to recognize 
that the individuals responsible for the serious deficiencies in one 
corporation may, if not disqualified, simply form a new corporation in 
order to return to the Program.
    In addition, there are circumstances under which an institution 
might correct its serious deficiencies while an individual employee 
might not. This is why the rule permits State agencies to specify 
different corrective action for the institution and for the responsible 
principals or responsible individuals. For example, an institution in 
which the accountant has embezzled Program funds might take corrective 
action by removing the accountant from his position and re-paying 
Program funds; depending on the circumstances of the embezzlement, that 
action and action to amend the institution's internal fiscal controls 
might constitute adequate corrective action for the institution. 
However, the accountant's corrective action would necessarily involve 
repayment of the embezzled funds to the institution, so that the 
institution could re-pay the State agency. If the embezzled funds were 
not repaid, the State agency would continue to pursue disqualification 
of the accountant, so that he/she would be placed on the National 
disqualified list and be barred from participating in CACFP until the 
accountant completed corrective action (i.e., has repaid the funds owed 
under the Program).
What Is a ``Responsible Principal or Responsible Individual'?
    To address these situations and to comply with the ARPA 
requirements, this rule amends Sec. 226.2 to define

[[Page 43459]]

``responsible principal or responsible individual'' as a principal or 
other individual employed by or under contract with an institution, or 
an uncompensated individual, who is determined to have responsibility 
for an institution's serious deficiency. Responsible principals and 
responsible individuals must be identified in the notice of serious 
deficiency, must receive a copy of the notice of serious deficiency, 
and must be provided an opportunity for an administrative review of 
their proposed disqualification (if adequate corrective action has not 
been taken by the institution and/or the individual). Part I(E) of the 
preamble discusses the special procedures for administrative review of 
the proposed disqualification of responsible principals and responsible 
individuals.
What Is the Effect of Determining That a New Institution Is Seriously 
Deficient, Considering That the Institution Had Not Yet Entered Into an 
Agreement With the State Agency?
    As noted above, a State agency would determine that a new 
institution is seriously deficient only in rare circumstances, such as 
the submission of false information on its application. In such a case, 
the outcome of this process (if the new institution failed to correct 
the serious deficiency) is denial of the application and 
disqualification of the institution and the principal(s) and 
individual(s) responsible for the serious deficiency (unless the 
institution prevailed in an administrative review). Disqualification 
prevents these parties from participating in the Program as part of a 
different corporation or in a different State.
    Also, a new institution may not participate in the Program pending 
completion of an administrative review of its proposed 
disqualification. ARPA's requirement that, under most circumstances 
(see Part I(E) below for further discussion), institutions be permitted 
to participate pending completion of their administrative review does 
not apply because the new institution was not participating in the 
Program at the time of the denial of its application.
What Happens if the State Agency Determines That a New Institution Has 
Successfully Corrected the Serious Deficiency?
    If the State agency determines that the institution has taken 
corrective action to fully and permanently correct the serious 
deficiency, the State agency must offer the institution an opportunity 
to resubmit its application. The State agency must complete its review 
of the application within 30 days of receiving a complete application. 
We expect that in most cases the review of a resubmitted application 
would be faster than 30 days given that the State agency will have 
already made a preliminary review of the application.
What if the State Agency Determines That a Renewing Institution's 
Corrective Action Is Inadequate Just Before the Institution's Existing 
Agreement Expires? Couldn't the State Agency Simply Allow the Existing 
Agreement To Expire, Regardless of Whether the Institution Chooses To 
Pursue an Administrative Review?
    No. To allow the existing agreement with a renewing institution to 
expire would not be consistent with the ARPA requirement that an 
institution have the opportunity for an administrative review prior to 
the termination of its agreement, nor would it be consistent with the 
statute's intent that, once an institution is declared seriously 
deficient, it must either correct the deficiency or be terminated and 
placed on the National Disqualified list. Thus, this rule requires the 
State agency to provide a short-term extension of the existing 
agreement, pending the outcome of the administrative review. If the 
administrative review official rules in favor of the State agency, the 
State agency must then deny the renewal application, terminate the 
extended agreement, and disqualify the institution and the responsible 
principals and responsible individuals.
In Effect, Doesn't This Mean That the State Agency's Denial of an 
Application From a Renewing Institution Has No Effect on the 
Institution's Participation, Pending the Outcome of Its Administrative 
Review?
    That is correct. Denial of the renewal application has no impact on 
the institution's participation in CACFP until either (1) the time 
allotted for the institution to request an administrative review 
expires without the institution requesting an administrative review or 
(2) the administrative review official rules in favor of the State 
agency, at which time the extended agreement must be terminated. This 
approach provides consistency with the treatment of participating 
institutions determined to be seriously deficiency mid-agreement. It 
also may discourage a State agency from inappropriately waiting to deny 
the application of a renewing institution instead of taking earlier 
action to terminate the institution's agreement based on a serious 
deficiency.
If an Institution Terminates Its Agreement After Being Determined 
Seriously Deficient, What Action Must a State Agency Take?
    Occasionally, after being notified that it is seriously deficient, 
an institution terminates its CACFP agreement voluntarily, ``for 
convenience.'' Since the institution withdrew from the Program before 
being terminated, some State agencies have been uncertain of their 
authority to ask FNS to place the institution on the disqualified list. 
This rule clarifies that when this situation occurs, State agencies 
must disqualify the institution for failing to correct the serious 
deficiency, after which FNS will place the institution on the National 
disqualified list. This will prevent an institution with serious 
deficiencies from using termination for convenience as a means to avoid 
being placed on the National disqualified list. In order to provide 
institutions notice of the consequence of a voluntary termination of an 
agreement, this rule requires State agencies to disclose this 
consequence in the notices of serious deficiency, suspension, proposed 
termination, and proposed disqualification.
3. Corrective Action Timeframes (Sec. 226.6(c)(4))
How Long Does an Institution Have To Correct a Serious Deficiency?
    In general, this rule establishes a 90 day limit on the time a 
State agency may allot for corrective action. However, a State agency 
may allow no longer than 30 days if the serious deficiency is based on 
a finding that the institution engaged in unlawful practices, submitted 
a false or fraudulent claim or information to the State agency, or has 
been convicted of or concealed a criminal background. Nothing in this 
section is intended to permit an institution to submit an invalid claim 
for reimbursement during the period of corrective action, or for the 
State agency to pay such a claim.
May a State Agency Ever Provide an Institution With More Than 90 Days 
To Correct a Serious Deficiency?
    Yes. For serious deficiencies requiring the long-term revision of 
management systems or processes, the State agency may permit the 
institution to have more than 90 days to complete the corrective 
action, as long as a corrective action plan is submitted to and 
approved by the State agency within 90 days (or such shorter deadline 
as the State agency may establish). The corrective action plan must 
include milestones and a definite completion date that the State agency 
will monitor. The finding of serious

[[Page 43460]]

deficiency will remain in effect until the State agency determines that 
the institution has corrected the serious deficiencies within the 
allotted time.
May a State Agency Provide an Institution With Less Than 30 or 90 Days 
To Correct a Serious Deficiency?
    Yes. Thirty and 90 days are only the maximum amount of time a State 
agency may provide an institution to correct various types of serious 
deficiencies (except for serious deficiencies requiring the long-term 
revision of management systems or processes as discussed above). 
Depending on the nature or severity of the problem, State agencies may 
establish shorter periods for corrective action. For example, a 
sponsoring organization that fails to pay its providers in accordance 
with the regulations at Sec. 226.16(g) should be given only the time 
until it receives and disburses the next month's provider payments to 
rectify the situation, not 90 days. Even when the maximum corrective 
action periods are used, a State agency may also establish interim 
deadlines (e.g., 30- and 60-day reports) for the institution to 
document its progress toward correcting deficiencies.
How Can the State Agency Tell if an Institution's Corrective Action 
Will ``Fully and Permanently Correct'' the Serious Deficiency?
    At a minimum, the State agency must review documentation submitted 
by the institution that demonstrates the serious deficiency has been 
corrected in such a manner that it is unlikely to recur. Often, the 
State agency will have to conduct an onsite review to determine whether 
the corrective action has been taken and whether it fully and 
permanently corrected the serious deficiency.
    Some corrective actions ``look good on paper,'' but do not 
permanently resolve the longer-term problem which gave rise to the 
serious deficiency that was identified. If, for example, a sponsoring 
organization documented that it had assigned additional staff to 
monitoring to address an inability to perform the required number of 
facility reviews, but did so by transferring claims staff and 
compromising its ability to properly process claims, it would have 
addressed one deficiency by creating another. Therefore, we urge State 
agencies, whenever possible, to make onsite visits to verify and 
evaluate an institution's implementation of corrective action.
4. Suspension of an Institution's Participation (Sec. 226.6(c)(5))
May a State Agency Ever Terminate a Participating Institution's 
Agreement Before Completion of Its Administrative Review?
    Section 243(c) of ARPA amended Sec. 17(d)(5)(D)(i) of the NSLA to 
state that, ``An institution * * * shall be provided a fair hearing * * 
* prior to any determination to terminate participation by the 
institution * * *'' This means that if an institution requests an 
administrative review of a proposed termination, its Program agreement 
may not be terminated until the completion of the administrative 
review. This is more fully discussed in Part I(E) of the preamble 
below.
    However, Secs. 17(d)(5)(C)(ii) and 17(d)(5)(D)(ii)(I) of the NSLA 
(as amended by Sec. 243(c) of ARPA and Sec. 307(c) of the Grain 
Standards Act) provide for the ``suspension'' of an institution's 
participation prior to any administrative review of the proposed 
termination in two situations:
     If the State agency determines that there is imminent 
threat to the health or safety of a participant, or the entity engages 
in any activity that poses a threat to the public health or safety, the 
State agency must suspend the institution's participation, without the 
opportunity for corrective action; and
     If the State agency alleges that an institution has 
knowingly submitted false or fraudulent claims for reimbursement, the 
State agency may suspend the institution's participation after 
completion of an independent review, but prior to the conclusion of the 
administrative review of the proposed termination.
    The NSLA recognizes that, in some instances, continued 
participation pending completion of the termination proceedings and any 
administrative review would be inappropriate due to the danger to 
participants, to the public, or to the Program's integrity. The 
suspension of day care homes is discussed in Part III.
What Is ``Suspension''?
    This rule amends Sec. 226.2 to define ``suspended'' as the status 
under which an institution or day care home is temporarily ineligible 
for Program participation (including Program payments). Although the 
Program agreement has not been formally terminated, the institution or 
day care home may not participate in the Program during the period of 
suspension.
How Long May a Suspension Last?
    A suspension remains in effect until the serious deficiency is 
corrected (in the case of a suspension based on a false or fraudulent 
claim) or the completion of any administrative review of the proposed 
termination. However, this rule stipulates that in no case may a 
suspension last longer than 120 days. Although the 120-day limit in 
Sec. 17 of the NSLA is linked to a suspension for false or fraudulent 
claims, we have adopted this limit as a reasonable period of suspension 
for health and safety reasons as well. After 120 days, we would expect 
the appeal process to be concluded and would further expect that, in 
the case of an imminent threat to health and safety, the appropriate 
licensing officials would have taken action to suspend or revoke an 
institution's license.
May the State Agency Later Reimburse the Institution for Meals Served 
and Administrative Costs Incurred if the Institution Prevails in Its 
Administrative Review?
    Yes. The institution may continue to operate at its own risk during 
the period of suspension. If the suspended institution prevails in the 
administrative review, the State agency must pay any claims for 
reimbursement for eligible meals served and allowable administrative 
costs incurred during the suspension period.
If the Suspended Institution Is a Sponsoring Organization, Will Its 
Sponsored Facilities Lose Their Program Benefits During the Period of 
the Suspension?
    No. Amended Sec. 17(d)(5)(ii)(III)(ee) of the NSLA requires the 
State agency ``to ensure that payments continue to sponsored centers 
and family and group day care homes meeting program requirements'' 
during the period of their sponsor's suspension.
What Does ``Immediate Suspension'' Mean When ``Public Health or 
Safety'' Is Threatened?
    Because an institution (except for a family day care home 
sponsoring organization, which does not actually provide care to 
children) may not participate in CACFP without a license or alternate 
approval, and because the law uses the phrase ``imminent threat'' to 
health or safety, we believe that Congress intended to provide State 
agencies with the authority to suspend participation prior to formal 
revocation of the institution's license or approval. Thus, if State 
health or licensing officials have cited an independent center for 
serious health or safety

[[Page 43461]]

violations, the State agency must immediately suspend the center's 
CACFP participation prior to any formal action to revoke the 
independent center's licensure or approval. However, if a State agency 
finds unhealthy or unsafe conditions that pose an imminent threat to 
health or safety when conducting a review, and the licensing agency 
cannot make an immediate onsite visit, there may be a delay before the 
State CACFP agency can act. In these cases, this rule requires the 
State agency to immediately notify the appropriate State or local 
licensing and health authorities and to take action that is consistent 
with the recommendations and requirements of those authorities.
    In situations involving threats to public health or safety, there 
is no opportunity for the independent center to take corrective action, 
nor would there be a ``notice of intent to suspend payments'' (see the 
next question and answer below for applicability in suspensions for 
submission of false or fraudulent claims). This approach recognizes the 
seriousness of these situations. Instead, the State agency must 
simultaneously provide the independent center with a notice of serious 
deficiency; a notice of intent to terminate participation and 
disqualify the institution and any responsible principals or 
responsible individuals; and a notice that Program payments have been 
suspended pending the completion of the administrative review (if one 
is requested by the independent center).
How Does the Process for Suspensions Based on False or Fraudulent 
Claims Differ From Those Based on Imminent Threats to Health or Safety?
    The law now mandates suspensions whenever a State agency determines 
that there is imminent threat to health or safety and specifies that 
there is no opportunity for corrective action in these cases. The law 
specifies a somewhat different approach for cases in which a State 
agency determines that an institution has knowingly submitted false or 
fraudulent claims for reimbursement. In these cases, State agencies are 
authorized, but not required, to suspend Program participation. In 
addition, suspensions based on allegations of false or fraudulent 
claims may be made only after a review by an ``independent and 
impartial official.'' The law defines an independent and impartial 
official as a person ``other than, and not accountable to, any person 
involved in the determination to suspend the institution.''
What Is the Purpose of This ``Independent Review'' (Referred to as a 
``Suspension Review'' in This Rule)?
    The purpose of the suspension review is to allow the State agency 
and the institution an opportunity to present written documentation 
relating to the allegation of a false or fraudulent claim prior to the 
suspension of Program payments. The law requires the suspension review 
official to ``determine, based on the review, whether the State agency 
has established, based on a preponderance of the evidence, that such 
institution has knowingly submitted a false or fraudulent claim for 
reimbursement.'' This rule calls such a review the ``suspension 
review'' to distinguish it from the administrative review that an 
institution may seek once a suspension for false or fraudulent claims 
has been imposed.
Does the Law Stipulate Procedures Pertaining to the Suspension Review?
    Yes. The law requires that, in making his or her determination, the 
suspension review official consider written documentation submitted by 
the State agency and the institution. This rule requires State agencies 
to give institutions at least ten days to request an initial suspension 
review and to submit written documentation opposing the suspension.
What Happens if the Suspension Review Official Determines That the 
Proposed Suspension Is Not Appropriate?
    No action is taken to suspend the institution's Program 
participation. However, the State agency's serious deficiency 
determination remains in effect and the institution must still take 
corrective action within the specified timeframe. If the State agency 
determines that the corrective action did not fully and permanently 
correct the serious deficiency, the State agency would proceed to send 
a notice of proposed termination and proposed disqualification. The 
institution would then have the opportunity to request an 
administrative review of the proposed actions. The suspension review is 
a limited review at a preliminary stage and only determines whether 
Program participation and Program payments continue. The suspension 
review does not resolve the question of whether the institution has 
been seriously deficient, whether the corrective action is adequate, or 
whether the proposed termination of the institution's agreement is 
justified.
What if the Suspension Review Official Upholds the State Agency, but 
the Administrative Review Official Later Upholds the Institution?
    In that case, the institution may claim retroactive reimbursement 
for eligible meals served and any allowable expenses incurred during 
the suspension period.
5. FNS Determination of Serious Deficiency (Sec. 226.6(c)(6))
    Under the current regulations at Sec. 226.6(c), FNS may 
independently determine that an institution is seriously deficient. 
This rule retains this authority, but moves it to Sec. 226.6(c)(6). 
This rule also revises the procedures for FNS determinations of serious 
deficiency to make them parallel to the revised procedures for State 
agencies' determinations of serious deficiency and adds procedures for 
FNS suspending an institution if there is an imminent threat to the 
health and safety of participants or the institution has submitted a 
false or fraudulent claim.
    We do not envision the frequent use of this authority. Generally, 
State agencies will be in the best position to detect and take action 
with respect to seriously deficient institutions. Even when dealing 
with serious deficiencies detected during audits or investigations 
conducted by USDA's Office of Inspector General, it is the State 
agency, and not FNS, that will declare the institution seriously 
deficient, monitor corrective action, and take any additional actions 
that may be warranted. However, in dealing with multi-State or multi-
regional institutions, FNS may be in the best position to coordinate 
actions in response to the serious deficiency. In addition, because we 
are now more likely to participate with State agencies in joint reviews 
of institutions, it is possible that we would declare a serious 
deficiency if the State agency was unwilling to do so.
6. National Disqualified List (Secs. 226.2 and 226.6(c)(7))
    The current regulations state that FNS will maintain a list of 
institutions whose participation has been terminated or whose 
application has been denied due to serious deficiencies. Section 243(c) 
of ARPA added a new Sec. 17(d)(5)(E) to the NSLA, which expands the 
list's scope by requiring the Secretary to ``maintain a list of 
institutions, sponsored family or group day care homes, and individuals 
that have been terminated or otherwise disqualified from participation 
in the program,'' and make the list available to

[[Page 43462]]

State agencies for their use in reviewing applications to participate.
What Is the National Disqualified List?
    As discussed in Part I(D)(2) of this preamble, this rule adopts 
ARPA's approach of distinguishing between seriously deficient 
institutions and disqualified institutions, individuals, and day care 
homes. In furtherance of this approach, this rule amends Sec. 226.2 to 
define the list of institutions, responsible principals and responsible 
individuals, and day care homes disqualified from Program participation 
as the ``National disqualified list.''
How Does an Entity Get Put on the List?
    An institution or day care home will be placed on the list only 
after having been declared seriously deficient, having an opportunity 
for corrective action, failing to take corrective action, and losing an 
administrative review (or failing to request an administrative review 
in a timely manner). Similarly, responsible principals and responsible 
individuals must first be named as responsible for an institution's 
serious deficiency(ies), receive an opportunity for corrective action, 
fail to take corrective action, and lose an administrative review (or 
fail to request an administrative review in a timely manner). At this 
point, the institution, day care home, or responsible principal or 
responsible individual is disqualified from Program participation and 
placed on the National disqualified list, and is prohibited from 
participating in the Program as an institution, sponsored center, day 
care home, or principal until removed from the list.
What if an Institution Participating in Several States Is Disqualified 
by FNS or a State Agency in Another State?
    If an institution that participates in the Program in more than one 
State is disqualified from the Program by FNS or another State agency, 
any State agency holding an agreement with the institution must also 
terminate the institution's agreement. This action must be taken within 
45 days of the date of the disqualification by FNS or the other State 
agency. Because the institution will have already had the opportunity 
for an administrative review covering the failure to correct the 
serious deficiencies that led to the initial disqualification, other 
State agencies are prohibited from offering the institution an 
administrative review of the termination action to be taken by the 
other State agencies. These requirements are in Sec. 226.6(c)(6)(ii)(G) 
(disqualifications by FNS) and Sec. 226.6(c)(3)(i) (disqualifications 
by another State agency).
How Long Will an Entity Remain on the List?
    Institutions and responsible principals and responsible individuals 
will remain on the list until FNS, in consultation with the appropriate 
State agency, determines that the serious deficiency(ies) that led to 
their placement on the list has(ve) been corrected, or until seven 
years have elapsed since they were disqualified from participation. Day 
care homes will remain on the list until the State agency determines 
that the serious deficiency(ies) that led to their placement on the 
list has(ve) been corrected, or until seven years after they were 
disqualified from participation.
    Similar to the past performance and criminal background eligibility 
criteria discussed in Part I(A)(4) of the preamble, above, we 
established seven years as the maximum period of an institution's or 
individual's disqualification. As noted previously in this preamble, 
the seven-year period underscores the importance of ensuring Program 
integrity, while recognizing the need to provide these individuals and 
institutions with a ``second chance'' at potential Program 
participation following a predictable period of time. However, if the 
institution, responsible principal or responsible individual, or day 
care home has failed to repay debts owed under the Program, they will 
remain on the list until the debt has been repaid.
What Will Happen to the Institutions and Individuals on the Prior FNS 
List?
    Institutions and individuals placed on the FNS list of ``seriously 
deficient'' institutions prior to publication of this rule will be 
transferred to the new National disqualified list and will remain on 
that list until FNS determines, with the concurrence of the appropriate 
State agency, that the serious deficiency(ies) that led to their 
placement on the list has(ve) been corrected, or until July 29, 2009 
(i.e. seven years after the effective date of this rule). As noted 
previously in this preamble, establishing the seven year period for 
institutions and individuals already on the list brings the previous 
list into conformance with the requirements being promulgated in this 
rule, and provides these institutions and individuals with a bar on 
their Program participation for a predictable period of time, before 
automatic removal from the list. As with the institutions or 
individuals placed on the National disqualified list after publication 
of this rule, if the institution or individual on the existing list 
fails to repay debts owed under the Program, they will remain on the 
list until the debt has been repaid.
What Happens to Sponsored Facilities When Their Sponsoring 
Organization's Agreement Is Terminated?
    After the State agency issues a notice of proposed termination to a 
sponsoring organization, it will work with other sponsoring 
organizations in the State to ensure that there is no disruption of 
Program benefits to sponsored facilities that will be affected when 
their sponsoring organization's agreement is terminated. As noted in 
Part III(C) of this preamble, below, ARPA's restriction on day care 
home transfers from one sponsoring organization to another specifically 
allows a State agency to waive the provision for a day care home when 
its sponsoring organization's Program agreement has been terminated.
What About Sponsored Centers?
    ARPA did not require us to establish a procedure for terminating 
the agreements of centers that participate under a sponsoring 
organization. However, in some instances the person responsible for a 
sponsoring organization's serious deficiency(ies) might be a person 
employed by or otherwise associated with a sponsored center, rather 
than with the sponsoring organization itself. Similarly, an institution 
that is on the National disqualified list as an independent center 
should not be able to avoid the effect of that disqualification by re-
entering the Program as a sponsored center. Finally, an individual who 
is on the National disqualified list should not be permitted to 
participate in the Program as a family day care home provider or as a 
principal in a sponsored center or an independent center.
    Therefore, this rule makes two changes designed to prevent such 
situations, any of which pose a threat to the Program's integrity. 
First, this rule amends Sec. 226.2 to further define ``responsible 
principal or responsible individual'' to include a principal or 
individual associated with a sponsored center who is responsible for 
the center sponsor's serious deficiency(ies). This means that anyone 
responsible for the center sponsor's serious deficiency(ies) is subject 
to a proposed disqualification, regardless of whether he or she is 
associated with the sponsoring organization of centers, or with a 
sponsored center. Second, this rule amends Secs. 226.16(b) and 
226.6(b)(12) to prohibit a sponsoring organization from

[[Page 43463]]

submitting an application on behalf of a sponsored facility (or a State 
agency from approving such an application) if the facility itself or 
one of its principals is on the National disqualified list. This will 
prevent family day care homes or sponsored centers on the National 
disqualified list from re-entering the Program. It will also prevent an 
individual on the list for actions committed while associated with a 
sponsor of centers from re-entering the Program as a sponsored center, 
or an individual on the list for actions committed while a principal in 
a sponsored center from re-entering the Program as a principal in 
another institution (an independent center or a sponsoring organization 
of homes and/or centers).
Why Not Just Include Day Care Homes and Sponsored Centers on Separate 
State-Level Lists?
    In most cases, a State-level list would be sufficient to ensure 
that disqualified institutions, sponsored centers, day care homes, and 
responsible principals and responsible individuals do not participate 
in the Program, either directly or as a principal. In some cases, 
though, these entities may attempt to evade their disqualification by 
seeking to participate in the Program in a different State. In order to 
address this situation, and for consistency and simplicity, all 
disqualified entities will be included on a single National-level list. 
For the same reason, this rule requires State agencies and sponsoring 
organizations to check the National disqualified list (rather than a 
State-level list) before approving an application from an institution, 
sponsored center, or day care home.
    As noted in Sec. 226.6(c)(7), we will make the National 
disqualified list available to all State agencies and all sponsoring 
organizations. This will permit State agencies and sponsoring 
organizations to consult a single list when determining whether an 
institution, sponsored center, or day care home is eligible for Program 
participation. To facilitate use of the National disqualified list, we 
are currently pursuing plans to make the list available in a password-
protected electronic format.
7. State Agency List (Secs. 226.2 and 226.6(c)(8))
What Is the State Agency List?
    The State agency list will include those day care homes terminated 
for cause (see discussion of serious deficiency and termination 
procedures for day care homes in Part III(F) of the preamble, below) 
and those institutions and responsible principals and responsible 
individuals in the State that have been declared seriously deficient. 
In the interest of preserving flexibility for State agencies, the list 
may be kept in paper form, electronic form, or in retrievable, 
individual case files within the State agency. In the case of 
institutions and responsible principals and responsible individuals, 
the list will include information about all of the possible results 
after the State agency's transmission of a notice of serious deficiency 
(along with an identification of the principals and/or individuals 
responsible for the serious deficiency): successful corrective action; 
unsuccessful corrective action followed by notification of proposed 
termination and/or disqualification; suspension; administrative review; 
and agreement termination. This rule amends Sec. 226.2 to add a 
definition of ``State agency list'' (either as actual lists or 
retrievable records) and adds Sec. 226.6(c)(8), which requires each 
State agency to maintain a State agency list.
Why Bother With a Separate State-Level List?
    A State-based list will be useful for analytic purposes. Although 
the National disqualified list will provide a complete picture of all 
institutions, individuals, and day care homes that have been 
disqualified and are ineligible for Program participation, the National 
list will not capture a great deal of additional information that is 
necessary for State agencies and FNS to assess the full impact of the 
ARPA provisions. For example, many institutions will be declared 
seriously deficient but will never appear on the National list, either 
because they successfully completed corrective action or because an 
administrative review official overturned the State agency's proposed 
termination of the institution's agreement. In order to properly assess 
ARPA's impact on Program management and integrity, it is critical for 
State agencies and FNS to have information about the number of 
institutions declared seriously deficient that were never placed on the 
National disqualified list, as well as the ways in which serious 
deficiencies were ultimately resolved short of termination. The State 
agency list established in this rule will capture information about the 
ultimate disposition of each case in which an institution was declared 
seriously deficient. The State agency list will be made available to 
FNS by the State agency upon request, so that it is possible to analyze 
National trends regarding the implementation of the ARPA provisions.
Why Is It Necessary for State Agencies and FNS To Have This 
Information?
    The changes to serious deficiency, corrective action, 
administrative review and termination procedures mandated by ARPA were 
extensive, and had the potential to profoundly impact the Program. FNS 
must be able to quantify the impact of these changes, in order to 
assess the frequency with which certain actions are being taken, as 
well as the effectiveness of the changes. State agencies must also be 
able to have data that will allow them to assess their own 
implementation of these changes, identify any additional changes 
needed, and identify trends and training needs for State agency or 
institution staff.
What Must Be Done When the Rule Requires the State Agency To ``Update'' 
the State Agency List?
    For each institution declared seriously deficient, and for each 
institution filing a request for an administrative review, the State 
agency will ``update'' the list whenever the next stage of action 
occurs. For example, when an institution is declared seriously 
deficient, the State agency is required to add the institution to the 
State agency list, as well as the basis for the determination of 
serious deficiency. Then, if the institution fully and permanently 
corrects the serious deficiency within the allotted time, the State 
agency records on the list that the corrective action is complete. 
Similarly, an institution requesting an administrative review of an 
overclaim would be placed on the list, as well as the result of the 
administrative review.
What About State Agencies That Already Have Lists of Disqualified Day 
Care Homes?
    Any State agency that has a list of disqualified day care homes on 
July 29, 2002 may continue to prohibit participation by those day care 
homes. However, as with those institutions and individuals on the prior 
FNS list of ``seriously deficient'' institutions, the State agency must 
remove a day care home from its prior list no later than the time at 
which the State agency determines that the serious deficiency(ies) that 
led to their placement on the list has(ve) been corrected, or July 29, 
2009 (i.e. seven years after the effective date of this rule). However, 
if the day care home has failed to repay debts owed under the Program, 
it must remain on the list until the debt has been repaid.

[[Page 43464]]

E. Administrative Reviews for Institutions and Responsible Principals 
and Responsible Individuals (Secs. 226.2 and 226.6(k))

What Changes to the Administrative Review Procedures for Institutions 
Were Mandated by ARPA?
    Before ARPA, Sec. 17(e) of the NSLA required State agencies 
administering CACFP to ``provide, in accordance with regulations issued 
by the Secretary, a fair hearing and a prompt determination to any 
institution aggrieved by the action of the State as it affects the 
participation of such institution * * * or its claim for reimbursement 
under this section.'' Current CACFP regulations at Sec. 226.6(k) 
establish the minimum requirements for such administrative reviews. 
However, Sec. 243(c) of ARPA added Sec. 17(d)(5)(D)(i) to the NSLA to 
require that, ``An institution or family or group day care home shall 
be provided a fair hearing in accordance with subsection (e)(1) 
[Sec. 17(e)(1) of the NSLA] prior to any determination to terminate 
participation by the institution or family or group day care home under 
the program'' (emphasis added). This provision substantially changes 
the sequence of events leading up to an institution or day care home's 
termination from the Program and for the first time establishes a 
requirement to offer administrative reviews to day care homes. The 
effect of this change on day care homes is discussed in Part III(F) of 
this preamble, while the effect on the termination of institutions' 
agreements is discussed here.
    Under regulations in effect until October 18, 2000 (the required 
implementation date for ARPA's CACFP amendments on termination and 
administrative reviews), if an institution was determined seriously 
deficient and failed to complete the required corrective actions within 
the allotted time, the State agency notified the institution that its 
Program agreement was terminated and that the institution could seek an 
administrative review of this action. All Program payments to the 
institution ceased on the effective date of the termination notice. If 
the institution sought an administrative review of the termination, and 
its participation was restored as a result of the administrative 
review, it could seek reimbursement for eligible meals served and 
allowable administrative costs incurred during the period between the 
effective date of the termination and the decision on the 
administrative review.
    Under the new procedures mandated by ARPA, a different sequence of 
events takes place. If a State agency determines that a seriously 
deficient institution failed to take the required corrective action 
within the allotted time, it notifies the institution that the State 
agency is proposing to terminate the institution's agreement and 
proposing to disqualify the institution and the responsible principals 
and responsible individuals. The State agency must also notify the 
institution and the responsible principals and responsible individuals 
that they may seek an administrative review of the proposed actions. 
However, if an administrative review is requested, the State agency 
must continue to pay any valid unpaid claims for reimbursement for 
eligible meals served and allowable administrative expenses incurred, 
unless the institution has been suspended from participation based on 
health or safety violations or false or fraudulent claims (as discussed 
in Part I(D)(4) of this preamble). Even if Program payments are 
suspended, the actual termination of the institution's agreement does 
not occur until after the administrative review official's decision is 
rendered.
Did ARPA Change the Actions That Are Subject to Administrative Review?
    Yes. As noted above, the new procedures mandated by ARPA require 
State agencies to offer an administrative review to an institution 
prior to the termination of its agreement. This change requires several 
revisions to Sec. 226.6(k) dealing with the actions that are subject to 
administrative review. These mandated changes also provide an 
opportunity to reorganize Sec. 226.6(k) and to make other necessary 
changes to Sec. 226.6(k) governing administrative reviews.
    First, this rule groups all actions that are subject to 
administrative review in Sec. 226.6(k)(2). Second, this rule clarifies 
that it is the notice of proposed termination of an institution's 
agreement that is subject to administrative review. The termination of 
the agreement does not occur until after the administrative review, and 
then only if the institution did not prevail. As a result of ARPA, the 
actual termination of the institution's agreement is no longer subject 
to administrative review because the administrative review has already 
occurred.
    Third, this rule clarifies in Sec. 226.6(k)(2)(iv) that State 
agencies must provide responsible principals and responsible 
individuals an administrative review of any proposed disqualification 
(see below for a further discussion of this issue). Finally, this rule 
makes clear in Sec. 226.6(k)(2)(viii) that the recovery of an advance 
is subject to administrative review (see the additional discussion of 
the recovery of advances under ``What is the effect of the State agency 
action while the administrative review is pending?'')
Are There Any Actions That Are Not Subject to Administrative Review?
    Yes. Even under the current regulations State agencies are not 
required to provide an administrative review of all actions. However, 
State agencies have informed us that, absent a clear delineation in the 
regulations of what is and is not appealable, they sometimes find 
themselves defending actions that were not intended to be appealable. 
This rule clarifies which actions are not subject to administrative 
review and groups them together in Sec. 226.6(k)(3).
Are Serious Deficiency Determinations Subject to Administrative Review?
    No. Currently, seriously deficient determinations are not subject 
to administrative review. This does not change as a result of ARPA, 
which anticipates an administrative review only after an institution is 
notified that its corrective actions to resolve a serious deficiency 
were incomplete or inadequate. A serious deficiency finding only serves 
to inform an institution that it is out of compliance with Program 
requirements and that certain other actions will occur if the 
institution fails to take corrective action within the allotted time. 
There is no effect on the institution's valid claim for reimbursement 
or participation unless it fails to take corrective action to correct 
the serious deficiency within the allotted time.
Do State Agencies Have To Provide Administrative Reviews to Responsible 
Principals and Responsible Individuals?
    Yes. As noted above, this rule clarifies in Sec. 226.6(k)(2)(iv) 
that State agencies must provide responsible principals and responsible 
individuals an administrative review of any notice of proposed 
disqualification. However, in most instances the institution's 
underlying serious deficiencies will be inextricably connected with the 
proposed disqualification of the responsible principal or responsible 
individual. As a result, this rule specifies in Sec. 226.6(k)(8) that 
the State agency must in most instances combine the administrative 
review for the responsible principal or responsible individual with the 
administrative review for the institution.
    There may be rare instances in which the interests of the 
institution and the

[[Page 43465]]

responsible principal or responsible individual conflict. This might 
occur when the person responsible for the institution's serious 
deficiency acted wholly without the knowledge of any of the 
institution's principals and without benefit to the institution. In 
such cases, and at the administrative review official's discretion, 
separate administrative reviews may be held if the institution does not 
request an administrative review or if either the institution or the 
responsible principal or responsible individual demonstrates that their 
interests conflict.
When Handling an Administrative Review, Are There Standard Procedures 
That All State Agencies Must Follow?
    Yes. The current CACFP regulations permit State agencies either to 
establish their own administrative review procedures (subject to 
several basic requirements) or to follow the more detailed 
administrative review procedures set out in Sec. 226.6(k)(1)-(12). This 
has caused some confusion over the years. This rule requires State 
agencies to develop their own administrative review procedures 
consistent with certain requirements specified by this rule. The 
majority of those requirements are the same as are found in 
Sec. 226.6(k)(1)-(12) of the current regulations. We hope that this 
approach will result in greater uniformity throughout the Nation, while 
still permitting State agencies some flexibility. This uniformity will 
help ensure consistent action in all cases involving violations of 
Program requirements, and should lessen the chances of having 
administrative review decisions overturned by the courts. Uniform 
practice will be especially useful to institutions operating in more 
than one State and is imperative at a time when we are working with 
State agencies to improve Program management. These uniform standards 
are set forth at newly-reorganized Sec. 226.6(k)(5).
Are There Any Changes to the Current Administrative Review Procedures?
    Yes. In addition to requiring all State agencies to comply with the 
procedures in Secs. 226.6(k)(1)-(12) of the current regulations, this 
rule makes minor changes to the language set forth at current 
Secs. 226.6(k)(6) and (7), as discussed below.
    Section 226.6(k)(6) currently requires that State review officials 
be independent and impartial. Institutions have sometimes argued that 
the administrative review officials are not truly ``impartial'', either 
because they are in the same organization as the official issuing the 
termination decision, or because the institution can only contact the 
hearing official by first contacting the State agency. It has long been 
our position that the mere fact that an administrative review official 
is in the same organization as the official who issued the action under 
review does not, by itself, undermine the administrative review 
official's impartiality. This rule makes clear in Sec. 226.6(k)(4)(vii) 
that ``independent and impartial'' means that a person is prohibited 
from serving as an administrative review officer in any case in which 
he or she was involved in the action that is the subject of the 
administrative review, or if he or she has a direct personal or 
financial interest in the outcome of the administrative review. This 
rule also requires State agencies to permit institutions and 
responsible principals and responsible individuals to contact the 
administrative review official directly if they so desire.
    Section 226.6(k)(7) currently requires that State review officials 
base their determinations on materials provided by the appellant and 
the State agency and on Program regulations. Some administrative review 
officials have read this to mean that they did not need to follow 
requirements in the statute or in other Federal regulations or Federal 
or State interpretations of those requirements (such as policy 
memoranda or guidance). This provision was meant to make clear that 
administrative review officials are to base their decision solely on 
the application of Program requirements to the facts in the case, as 
reflected in the submissions by the institution and the State agency. 
It is not the administrative review official's role to determine the 
validity of existing Federal or State requirements. These are legal 
issues for the courts. We have clarified this point in this rule 
(Sec. 226.6(k)(4)(viii)).
What Is an ``Abbreviated'' Administrative Review?
    ARPA does not specify the type of ``fair hearing'' that must be 
provided to institutions. We have determined that there are two types 
of actions for which requiring a ``full'' administrative review (with 
the right to a hearing, etc.) is not warranted. The first is the denial 
of a new or renewing institution's application because the institution 
or any of its principals are on the National disqualified list 
(Sec. 226.6(b)(12)), have been declared to be ineligible for another 
publicly funded program during the prior seven years 
(Secs. 226.6(b)(13) and 226.15(b)(7)), or have been convicted of an 
activity in the past seven years that indicated a lack of business 
integrity (Secs. 226.6(b)(14) and 226.15(b)(8)). In each of these 
cases, the institution or the principals will have already had an 
opportunity to refute the charge (i.e. the action that led to the 
placement on the National disqualified list, the ineligibility 
determination for the other public program, or the criminal 
conviction). To offer a ``full'' administrative review in this case 
would lead to a false expectation that the institution or responsible 
principal or responsible individual would get a second chance to prove 
that the underlying action did not occur. These issues will have been 
fully reviewed by the appropriate authority and we do not intend to 
permit a second administrative review. Nor do we see the benefit of 
requiring a ``full'' administrative review in cases in which the only 
issue will be whether or not the affected party is really the same 
party that appears on the National disqualified list, was declared 
ineligible for another publicly funded program, or was convicted.
    The second type of action is the denial of a new or renewing 
institution's application or the termination of a participating 
institution's agreement based on the submission of false information on 
the institution's application, including the concealment of a criminal 
background (Secs. 226.6(c)(1)(ii)(A), (c)(2)(ii)(A), (c)(3)(ii)(A)). 
Again, these cases present only a narrow factual issue of whether the 
information submitted is indeed false. This issue can be adequately 
addressed through written submissions.
    For these reasons, this rule limits the administrative review of 
these areas to a review of written submissions concerning the accuracy 
of the State agency's determination that: (1) the institution, one of 
its sponsored facilities, or one of the principals of the institution 
or its facilities is on the National disqualified list, has been 
determined ineligible to participate in another publicly funded 
program, or has been convicted of an offense indicating a lack of 
business integrity; or (2) information submitted on the institution's 
application is, in fact, false. We call this an ``abbreviated'' 
administrative review.

Part II. State Agency and Institution Review and Oversight Requirements

    ARPA mandated three changes to State agency and sponsoring 
organization monitoring requirements. These changes require that:
     Sponsoring organizations conduct at least one unscheduled 
(unannounced)

[[Page 43466]]

review of each facility they sponsor in a three-year period;
     Sponsoring organizations employ ``an appropriate number of 
monitoring personnel based on the number and characteristics'' of 
facilities they sponsor; and
     State agencies review each institution in their State no 
less frequently than once every three years.
    These changes are discussed below.

A. Unannounced reviews

Was It the Intent of ARPA To Reduce Current Requirements for Sponsoring 
Organization Reviews of Their Facilities?
    No. Section 243(b) of ARPA amended Sec. 17(d)(2) of the NSLA to 
require us to establish a policy under which unannounced reviews are 
made to sponsored facilities at least once every three years, and at 
least one review is made to each facility each year. Currently, 
Sec. 226.16(d) of the regulations requires sponsoring organizations to 
review each facility they sponsor at least three times each year, 
unless they obtain permission to perform an average of three reviews 
for all of their facilities. When considering the Conference Report on 
ARPA, Senator Lugar, then-Chairman of the Senate Agriculture Committee, 
emphasized that the Department should view the monitoring requirements 
in ARPA as minimums, and may strengthen the requirements as necessary 
(Congressional Record, May 25, 2000, S. 4439). This rule retains the 
current regulatory requirement of three reviews per facility per year.
What Is an Unannounced Review?
    This rule adds a definition to Sec. 226.2 stating that an 
``unannounced review'' is a review for which no prior notice is given 
to the facility or institution. We also wish to stress that State 
agencies and sponsoring organizations should not routinely follow the 
same cycle in conducting unannounced reviews (e.g., always reviewing 
providers in a particular town or neighborhood during the last two 
weeks of a calendar quarter). Instead, the pattern of unannounced 
reviews should be unpredictable, to ensure that the review is genuinely 
unannounced.
1. Unannounced Reviews by Sponsoring Organizations (Secs. 226.2 and 
226.16(d)(4))
Must a Sponsoring Organization Make All of Its Facility Reviews 
Unannounced?
    No. Although some State agencies require sponsoring organizations 
to make all facility reviews unannounced, many sponsors in other States 
use scheduled reviews as opportunities to provide Program training and 
nutrition education. Promulgating a Federal requirement to make all 
reviews unannounced would take away this flexibility for State 
agencies, a concern especially in day care homes where providers need 
advance notice in order to participate in training during a monitoring 
review. Therefore, this rule amends Sec. 226.16(d)(4) to require that 
two of the three annually required reviews of sponsored facilities be 
unannounced. If the third review is scheduled, rather than unannounced, 
then the sponsor may use that visit to provide any needed training. If 
the sponsor chooses to make all three annual reviews unannounced, or 
the State agency requires that all reviews be unannounced, the training 
needs of the sponsored center or day care home may be met in another 
manner (e.g., by providing training at a convenient location outside of 
normal business hours, or by providing on-line training through the 
Internet), or by making an additional visit to the facility to provide 
training.
Will Unannounced Reviews Be Effective? What if the Provider Is Not Home 
When the Unannounced Review Is Made?
    A day care home provider's unexplained absence could indicate a 
serious accountability problem that the sponsor needs to address. In 
order to minimize this possibility, this rule adds Sec. 226.18(b)(14) 
to require that a provider notify their sponsoring organization in 
advance whenever the day care home provider is planning to be out of 
their home with the children during the meal service period. This will 
better enable sponsoring organizations to plan their unannounced 
reviews in the most cost-effective manner possible. If a provider fails 
to notify the sponsor and an unannounced review is made during a 
scheduled meal time, claims for meals that would have been served 
during the unannounced review must be disallowed.
    Sponsoring organizations or State agencies may establish additional 
requirements regarding unannounced reviews. Sponsoring organizations 
facing high travel costs to review day care homes, and sponsoring 
organizations concerned about the potential for Program abuse by 
providers who routinely claim to provide meal service to children 
outside their homes, may choose to impose more stringent requirements 
than those promulgated in this rule.
    The primary purpose of this provision is to spare sponsoring 
organizations unwarranted expense in conducting unannounced reviews and 
not finding the provider at home, especially when the sponsor monitor 
must travel long distances to conduct the review. In addition, the 
requirement to notify the sponsoring organization when a provider is 
planning to be out of her home during the meal service period is 
essential to Program integrity because it will allow the sponsor the 
option to review the off-site meal service if it so desires.
Does This Rule Impose Any Other Requirements Relating to Unannounced 
Reviews?
    Yes. This rule amends Sec. 226.16(d)(4)(iv) to address the 
situation in which a sponsoring organization detects one or more 
serious deficiency in a review of a facility. Serious deficiencies are 
those listed in Sec. 226.16(l)(2), regardless of the type of facility. 
In such cases, this rule requires the next review of the facility to be 
unannounced.
What Procedures Must Be Followed When a Sponsoring Organization Makes 
an Unannounced Review?
    In recognition of the unique nature of providing day care, 
especially in one's private residence, and in order to protect the 
privacy of Program operators and the children they serve, this rule 
establishes several procedural requirements for unannounced reviews. We 
also strongly recommend that State agencies consult their legal counsel 
to ensure that any State statutes or administrative rules are reflected 
in the State agency's procedures for conducting unannounced reviews in 
the CACFP. However, at a minimum, the requirements pertaining to 
unannounced reviews specified in this regulation must be met. Thus, 
this rule amends Sec. 226.16(d)(4)(vi) to specify that unannounced 
reviews must be made only during the facility's normal hours of child 
or adult care operations, and monitors making such reviews must provide 
photo identification that demonstrates that they are employees of the 
sponsoring organization.
2. Unannounced Reviews by State Agencies (Sec. 226.6(m))
Will This Rule Require That State Agencies Make Unannounced Reviews to 
Facilities?
    Yes. However, a State agency making unannounced facility reviews 
could experience greater difficulty than a sponsoring organization 
would in making the same review. These

[[Page 43467]]

difficulties largely stem from the fact that State agencies are 
generally located farther away from the facilities being reviewed than 
are sponsors, thus increasing the review's potential cost. 
Nevertheless, OIG's audit and investigative work strongly suggests the 
need for some level of unannounced facility reviews by State agencies 
as well, because those sponsors that pay inadequate attention to 
accountability issues are less likely to uncover serious Program 
irregularities at their sponsored facilities. Therefore, this rule 
requires State agencies to conduct some unannounced facility reviews as 
part of their larger review of a sponsoring organization.
What Percentage of Facility Reviews Conducted by a State Agency Must Be 
Unannounced?
    In recognition of the potential difficulties State agencies may 
face in conducting unannounced reviews of sponsored facilities, this 
rule amends Sec. 226.6(m) [previously Sec. 226.6(l)] to require that a 
minimum of 15 percent of a State agency's required facility reviews be 
unannounced. Thus, in a State with 10,000 participating sponsored 
facilities, with a requirement to conduct at least 800 facility reviews 
in a year, this rule requires that a minimum of 120 of those reviews 
(15 percent of 800) be unannounced. The State agency could decide 
whether it would be better to conduct a proportionate share of these 
reviews as a part of each sponsor review, or whether facilities 
sponsored by organizations with problematic Program records might be 
more in need of unannounced reviews.
Does This Rule Require State Agencies To Conduct Unannounced Reviews of 
Institutions?
    No. However, we encourage State agencies to conduct unannounced 
reviews of institutions when appropriate. The results of OIG's audits 
have persuaded us that unannounced reviews of institutions can be very 
effective at detecting serious management and accountability issues 
that might be difficult to detect if the review were announced. 
Therefore, this rule adds the requirement that State agencies modify 
their current agreements with institutions to notify institutions of 
the right of the State agency, the Department, and other State or 
Federal officials to make announced or unannounced reviews of their 
operations; that unannounced reviews will be held during the 
institution's normal hours of child or adult care operations; and that 
anyone making such reviews must show photo identification that 
demonstrates that they are employees of one of these entities.
3. Notification Requirements (Secs. 226.6(f)(1), 226.16(d)(4)(v), and 
226.18(d)(1))
Are There Any Notification Requirements Related to Unannounced Visits?
    Yes. This rule requires in Secs. 226.6(f)(1), 226.16(d)(4)(v), and 
226.18(d)(1) that State agencies and sponsoring organizations notify 
institutions and facilities that they are subject to unannounced visits 
by the sponsoring organization, the State agency, the Department, or 
other State or Federal officials. State agencies must include this 
notice in their agreements with institutions. For sponsors of day care 
homes, this rule amends Sec. 226.18(b)(1) to require sponsoring 
organizations to include in their sponsor-day care home agreements a 
provision stating that they will be reviewed on an unannounced basis, 
that they will make unannounced reviews only during the facility's 
normal hours of child care operations, and that monitors conducting 
unannounced reviews will have photo identification which demonstrates 
that they are employees of the sponsoring organization. Sponsoring 
organizations must amend their agreements with day care homes that are 
participating in the Program on July 29, 2002 to include this notice of 
unannounced reviews no later than August 29, 2002.
    Because sponsors of centers are not required to enter into 
agreements with their sponsored centers, this rule amends 
Sec. 226.16(d)(4)(vii) to require such sponsors to provide their 
centers written notification of this information about unannounced 
visits. For sponsored centers participating on July 29, 2002, the 
notice must be sent no later than August 29, 2002. For sponsored 
centers that are approved after July 29, 2002, the sponsoring 
organization must provide the notice before meal service under the 
Program begins.

B. Sponsor Monitoring Staff (Secs. 226.6(f)(2), 226.16(b)(1), and 
226.16(d)(4))

What Are ARPA's Requirements Regarding the Staffing of the Monitoring 
Function by Sponsoring Organizations?
    Section, Sec. 243(a)(8)(B) of ARPA amended Sec. 17(a) of the law to 
require that, ``in the case of a sponsoring organization, the 
organization shall employ an appropriate number of monitoring personnel 
based on the number and characteristics of child care centers and 
family or group day care homes sponsored by the organization, as 
approved by the State (in accordance with regulations promulgated by 
the Secretary), to ensure effective oversight of the child care centers 
and family or group day care homes. * * *''
What Approaches Were Considered To Implement This Requirement?
    In assessing alternative means of implementing this requirement, 
the Department considered four possible approaches:
     Requiring a specific number of facilities that each 
sponsor monitor would be responsible for reviewing (e.g., each monitor 
must review 50 facilities);
     Requiring a ceiling on the number of facilities each 
sponsor monitor would be responsible for reviewing (e.g., each monitor 
may review no more than 75 facilities per year);
     Setting no numeric requirements, but requiring each State 
agency to assess the adequacy of staff and resources devoted to the 
monitoring function when reviewing the sponsor's management plan; or
     Establishing a broad range of facilities per monitor, and 
requiring the State agency to determine where, within that range, each 
sponsor's ratio of monitors to facilities should fall.
Which of These Approaches Does This Rule Incorporate, and Why?
    Although each of these alternatives has certain strengths, we chose 
the last alternative--setting a range of facilities per monitor and 
requiring the State agency to determine where, within that range, each 
sponsor's ratio of facilities should fall. This approach provides State 
agencies and sponsoring organizations with flexibility in meeting the 
requirement, while still setting some broad numerical parameters for 
sponsors and State agencies to work within. This rule establishes 
slightly different staffing requirements for sponsoring organizations 
of day care homes (50 to 150) and centers (25 to 150), as explained 
below.
    Given the different administrative demands faced by sponsors in 
different areas, we do not believe that either of the first two 
alternatives--establishing a single number of homes per monitor, or 
setting a ``ceiling'' on the number of facilities to be monitored--
could be productively applied to every sponsoring organization across 
the country. For example, due to travel time, sponsoring organizations 
that recruit in rural areas (as encouraged by Sec. 17(f)(3) of the 
NSLA) could need more

[[Page 43468]]

monitors to properly monitor the same number of homes than a solely 
urban-based sponsoring organization would need to properly monitor the 
same number of providers. Similarly, sponsoring organizations with 
larger numbers of new and/or non-English speaking providers would 
likely incur higher per-home costs in monitoring than sponsors without 
such homes. Finally, although the third alternative provides maximum 
flexibility to State agencies, it does not represent a meaningful 
change from pre-ARPA requirements and lacks the specificity that some 
State agencies desire, and that we believe Congress intended, in 
passing this provision.
What Is the Specific Requirement for Sponsoring Organizations of Day 
Care Homes?
    This rule amends Sec. 226.16(b)(1) to require that every sponsoring 
organization devote the equivalent of one full-time staff person to 
monitoring for each 50-150 day care homes it administers.
How Did USDA Decide on 50-150 as the Appropriate Range for Sponsoring 
Organizations of Day Care Homes?
    We started by estimating the amount of time that a day care home 
sponsoring organization would spend carrying out the Program's review 
requirements (an average of three reviews per home per year, two of 
which are unannounced). The Early Childhood and Child Care Study (1997) 
reported that, on average, day care home sponsoring organizations made 
five reviews or visits per home per year. If this is accurate, 
sponsoring organizations of day care homes may respond to the 
unannounced review requirement in this rule, and the other changes in 
the proposed rule published on September 12, 2000, by making fewer, but 
more extensive, reviews and devoting more time to the review and 
analysis of accountability-related documents such as daily meal counts, 
daily attendance logs, and enrollment forms. In addition, the conduct 
of unannounced reviews may add some time to the performance of a 
typical review, since some providers will not be home when reviews are 
conducted and others will not have required records in order prior to 
the review. In urban areas, a provider's unavailability is less likely 
to be a major problem, since other day care homes in the vicinity can 
be reviewed. However, in rural areas, where day care homes may be more 
widely dispersed, a provider's unexpected absence could add a 
significant amount of time to the conduct of the average review. 
Overall, we estimate that day care home sponsoring organizations will, 
on average, spend about 12-15 hours per home annually implementing the 
minimum monitoring requirements being promulgated in this rule: three 
reviews per year, two of which are unannounced, including pre-review 
scheduling and preparation, travel related to the review, conduct of 
the review, and post-review work.
    Using a 2,080 hour work year (less time off for vacation, illness, 
and holidays), we estimate that the average full-time monitor would be 
able to perform a minimum of three thorough reviews per year, which 
include all the review elements being proposed in this rule, for 
between 120-160 day care homes. However, taking into account the 
possible variation in the types of day care homes being sponsored, this 
rule requires that each full-time monitor be responsible for reviewing 
between 50 and 150 day care homes per year, depending on the geographic 
dispersion, experience level, and overall composition of the sponsoring 
organization's providers.
What Is the Staffing Standard for Monitoring by Sponsoring 
Organizations of Centers?
    Although the Early Childhood and Child Care Study states that 
center sponsors currently spend about 60 hours per year monitoring each 
sponsored child care center, this figure seems implausible compared to 
the estimates of time spent by sponsors in monitoring each day care 
home. Part of the difference is accounted for by factors extraneous to 
the CACFP. For example, Head Start centers participating in CACFP 
(which account for about a third of all CACFP centers) are visited an 
average of 26 times per year (or approximately once for every week and 
a half of operation, since many Head Start centers do not operate on a 
year-round basis). However, these reviews or visits focus on Head 
Start, rather than CACFP, requirements; the proportion of review time 
devoted to CACFP meal service and recordkeeping requirements is not 
known, but is likely to account for a fairly small fraction of the 
overall time spent on the review. Similarly, a significant minority of 
center sponsors reported reviewing or visiting their centers once or 
more per week, but this was due to the fact that the sponsor and center 
were co-located (i.e., housed at the same location).
    We believe that, once Head Start and co-located centers are removed 
from the equation, the average center sponsor can complete the 
requirement for three reviews per year in about the same amount of time 
that home sponsors spend in monitoring their providers: roughly 12-15 
hours per year, including review preparation and follow-up. Therefore, 
this rule amends the introductory text of Sec. 226.16(d)(4), and 
Secs. 226.16(d)(4)(v) and 226.6(f)(2), to require a sponsoring 
organization of centers to employ one full-time monitor for every 25-
150 centers it sponsors. The provision of a lower end of this range 
recognizes that center sponsors administering the Program in larger 
centers necessarily spend more time per review due to their review of 
household free and reduced price applications on file. We especially 
invite comment on this requirement from center sponsors and State 
agencies, but ask that these comments provide us with a detailed 
account of the amount of review time typically devoted to CACFP and 
non-CACFP related topics at a sponsored center.
How Will State Agencies Implement This Requirement for a Specific 
Sponsoring Organization?
    Our decision to specify a range of facilities that each monitor 
could review means there will be room for some variation in each State 
agency's application of this requirement. However, to ensure that there 
is at least broad uniformity among State agencies in implementing this 
provision, this rule further amends Sec. 226.16(b)(1) to clarify that 
the monitoring standard is based on ``the equivalent of one full-time 
staff person'' (i.e. 2080 hours/year, less an average employee's time 
off for paid holidays and leave) and that the monitoring staff 
equivalent may include time spent on scheduling, travel, the review 
itself, follow-up and report-writing for one full-time staff year 
[2,080 hours]. We also wish to emphasize that this time may be split 
among more than one person, depending on each person's other duties and 
the amount of time spent on these duties, as documented in the 
sponsor's management plan.
    In addition, this rule amends Sec. 226.6(f)(2) to require each 
State agency to develop factors (e.g., rural vs. urban, geographic 
dispersion of facilities, literacy and language proficiency of 
providers) that the State agency will consider in determining whether a 
sponsoring organization has sufficient monitoring staff. State agencies 
must use these factors and the staffing ranges established by this rule 
when they review and approve sponsoring organizations' management plans 
and budgets.
    In implementing this requirement, State agencies must carefully 
review the sponsoring organization's budget and

[[Page 43469]]

management plan to ensure that they are analyzing this ratio in terms 
of full-time monitoring staff equivalents. Because many sponsoring 
organizations hire geographically-dispersed, part-time monitors, State 
agencies will need to know the duties and responsibilities of each 
sponsoring organization employee involved in monitoring in order to 
ensure that they are truly evaluating the number of full-time staff 
years committed to the monitoring function.
How Much Time Will Sponsors Have To Implement This Provision?
    Participating sponsors will have until July 29, 2003 to submit a 
new management plan or an amendment to their management plan that 
complies with the new monitor staffing requirements. However, all 
management plans submitted by new sponsoring organizations applying for 
participation after the effective date of this rule must demonstrate a 
level of staffing devoted to monitoring that falls within the home-to-
monitor range specified in this rule at Sec. 226.16(b)(1).

C. State Review Cycle (Sec. 226.6(m)(4))

    What are the Current Regulatory Requirements for the Frequency of 
State Agency Review of Institutions?
    Section 226.6(l) of the current regulations [redesignated 
Sec. 226.6(m) in this rule] requires State agencies to monitor at least 
one-third of all institutions in their State each year, and to review 
each institution at least once every four years (except for sponsors of 
200 or more day care homes, which must be reviewed every other year).
How did ARPA Change These Requirements?
    ARPA specified that each institution be reviewed no less frequently 
than once every three years, instead of once every four years as 
required by the current regulations. This does not require a change to 
the requirement that the State agency review at least one-third of all 
institutions in each year, but requires us to revise the frequency of 
the reviews. Accordingly, this rule amends 226.6(m)(4)(i) of this rule 
to require State agencies to review each institution (other than 
certain sponsors) at least once every three years, rather than once 
every four years. This means that State agencies may not allow more 
than three fiscal years to elapse between institution reviews. Thus, an 
institution reviewed in October of 2000 (Fiscal Year 2001), would have 
to be reviewed again no later than the end of Fiscal Year 2004 
(September of 2004). In order to implement this provision of ARPA, this 
rule also makes a conforming change to the cycle for verifying free and 
reduced price applications set forth in Sec. 226.23(h).
Were Other Aspects of the Review Requirements Changed as Well?
    Yes. Audit and review findings have underscored that, although 
sponsoring organizations of centers administer CACFP in fewer 
facilities than large sponsors of day care homes, they should still be 
reviewed more frequently than independent centers or smaller sponsors 
(i.e., sponsors of fewer than 100 facilities). In addition, some State 
agencies and sponsoring organizations have reported a tendency of some 
less-well-managed day care home sponsoring organizations to keep their 
total number of sponsored day care homes below 200 to avoid more 
frequent State agency oversight. In order to ensure adequate State 
agency oversight, this rule further amends Sec. 226.6(m)(4) by lowering 
the threshold for biennial review for both types of sponsoring 
organization (home and center) from 200 to 100 facilities.
What Related Changes Are Made by This Rule, and Why?
    In addition, this rule makes one other change designed to fully 
address the integrity provisions of ARPA and the types of problems 
documented in management evaluations and the OIG audits. This rule 
requires at Sec. 226.6(m)(2) that State agencies target for more 
frequent review those institutions whose prior review included a 
finding of serious deficiency, as defined in Sec. 226.6(c). This will 
ensure that State agencies continue to monitor institutions that have 
been seriously deficient and ensure that successful corrective action 
has been fully and permanently implemented.

Part III. Other Operational Provisions

A. Definition of Institution (Sec. 226.2)

How and Why Was the Definition of ``Institution'' Modified by ARPA?
    Section 243(a)(1)-(7) of ARPA restructured Sec. 17(a) of the NSLA, 
which defines an ``institution'' and sets forth the basic requirements 
for Program participation, such as licensing or approval. The primary 
purpose of this restructuring was to make these requirements for 
institution eligibility easier to understand. In addition, the 
definition of ``institution'' was revised to include sponsors of 
centers. Until enactment of ARPA, sponsors of child care centers had 
not been specifically mentioned in Sec. 17(a) of the NSLA. However, 
center sponsors have long participated in CACFP and are specifically 
included in the regulatory definition of ``institution'' at Sec. 226.2. 
Therefore, it is not necessary for us to amend this definition as a 
result of this change to the statute.
    However, this rule does amend the definition of ``institution'' for 
another reason. Prior to enactment of the William F. Goodling Child 
Nutrition Reauthorization Act of 1998 (Pub. L. 105-336, October 31, 
1998), emergency shelters received meal reimbursements under a separate 
``Homeless Child Nutrition Program'' that was directly administered by 
USDA and was not a part of any specific child nutrition program. No 
reference to them was made in the regulatory definition of 
``institution.'' Public Law 105-336 expanded participation in that 
program to children through the age of 12, made the program a part of 
the CACFP, and amended the definition of ``institution'' in Sec. 17(a) 
of the NSLA to include emergency shelters. Accordingly, this rule adds 
a new definition of ``emergency shelter'' to Sec. 226.2 and amends the 
definition of ``institution'' to include emergency shelters serving 
homeless children.

B. Ceiling on Administrative Reimbursements for Sponsors of Centers 
(Secs. 226.6(f)(3), 226.7(g), 226.16(b)(1))

Why Does the Law Establish a Ceiling on Center Sponsors' Reimbursable 
Administrative Costs?
    OIG audits and State and Federal reviews uncovered a number of 
situations in which sponsors of centers were using too high a 
percentage of the meal reimbursement to cover their administrative 
expenses. When this occurs, less of the meal reimbursement is received 
by the sponsored center, making it less likely that a high-quality, 
nutritious meal that meets the Program's meal pattern requirements is 
being served to participants.
    In response to these findings, Congress capped the reimbursable 
administrative costs of center sponsors at 15 percent of the total meal 
reimbursements earned by their sponsored centers. Accordingly, this 
rule amends Sec. 226.16(b)(1) to require that the administrative budget 
submitted by a sponsoring organization of centers, and the actual 
administrative costs of such a sponsoring organization, not exceed 15 
percent of the meal reimbursements estimated to be earned by its 
sponsored centers during the budget year, unless the State agency 
grants a waiver. Thus, if the centers sponsored by a particular 
sponsoring organization earn $1 million per year in meal 
reimbursements, the sponsored

[[Page 43470]]

centers must receive at least $850,000 for their operating costs (i.e. 
the cost of their food service), and will receive more than $850,000 if 
the sponsoring organization's budget is approved for less than $150,000 
in reasonable, necessary, and allowable administrative costs.
Does This Mean That a State Agency can Require a Center Sponsor To 
Retain less Than 15 Percent of its Centers' Reimbursements to Cover its 
Administrative Expenses?
    Yes. The 15 percent figure is a ceiling, not a floor. In other 
words, a center sponsor may use up to 15 percent of the meal 
reimbursement for administrative costs only if its budget, as approved 
by the State agency, includes this amount of allowable, reasonable, and 
necessary administrative expenses.
Could a State Agency Choose to set a Statewide Limit of less Than 15 
Percent for all Center Sponsors?
    No. State agencies are not permitted to set Statewide ceilings 
below 15 percent for all sponsoring organizations of centers. Each 
sponsoring organization's budget must be evaluated individually to 
determine the appropriate level of administrative funding.
What Constitutes an ``Administrative Cost''?
    Section 226.2 of the current regulations defines both 
``administrative costs'' and ``operating costs.'' Administrative costs 
are those incurred by an institution related to planning, organizing, 
and managing a food service under the program. For sponsors of centers, 
the primary administrative costs would be claim preparation, free and 
reduced price eligibility determinations, and monitoring and training 
of the sponsored facilities. Operating costs are those expenses 
incurred by an institution in serving meals to participants. In the 
case of sponsors of centers, this funding would ``pass through'' to 
their sponsored centers to cover the cost of food service.
Does the 15 Percent cap Apply To Administrative Costs Incurred By 
Sponsored Centers?
    Yes. The 15 percent cap applies to all administrative costs, 
whether incurred by the sponsoring organization or the sponsored 
centers. It is our expectation that, if a center chooses to be 
sponsored in CACFP, it makes that choice due to an unwillingness or 
inability to perform the administrative tasks required under Program 
regulations (claims preparation, free and reduced price eligibility 
determinations, recordkeeping). Therefore, there should be few, if any, 
administrative expenses incurred by the sponsored center, and they 
should not detract from the 85 percent of meal reimbursement reserved 
for the food service under the 15 percent ceiling. If any of the 
primary administrative functions were being performed by the sponsored 
center, it would remove the need for the sponsor and would provide the 
sponsoring organization of centers with a means of evading the cap by 
shifting administrative costs to their sponsored centers.
Couldn't the 15 Percent Limit Be Evaded if a Sponsored Center Became an 
Independent Center, but Then Contracted With its Former Sponsoring 
Organization To Perform Administrative Services, and Paid the Former 
Sponsor More Than 15 Percent of the Meal Reimbursement To Perform These 
Administrative Duties?
    No. Although contracting out is generally permissible, the current 
regulations at Sec. 226.15(c) prohibit institutions from contracting 
out for management of the Program. If the former sponsor were hired to 
perform all of its previous duties related to application processing, 
claims submission, and recordkeeping, the now-independent center would 
be in violation of this regulatory prohibition.
Could a State Agency Approve a Center Sponsor's Budget for 
Administrative Expenses in Excess of 15 Percent?
    Yes. The law permits a State agency to waive the 15 percent ceiling 
if the center sponsor ``provides justification to the State that the 
organization requires funds in excess of 15 percent . . . to pay the 
administrative expenses of the organization.''
What Types of Circumstances Would Justify a Waiver?
    ARPA permits a State agency to waive the 15 percent ceiling in 
recognition of the higher costs faced by certain center sponsors. For 
example, if a sponsor runs the Program in 50 centers scattered across 
ten rural counties spanning several hundred miles, its travel costs for 
monitoring would necessarily be much higher than those incurred by a 
sponsor administering the Program in 50 centers located in a single 
urban area. Similarly, a sponsor with non-English-speaking staff at 
sponsored centers might face higher administrative costs resulting from 
language barriers and the cost of translations.
    Finally, consider the case of two sponsors, each of which 
administers the Program in 50 centers with an average daily attendance 
of 2,000 for 22 serving days of lunch and breakfast. If 80 percent of 
the children in Sponsor A's centers were eligible for paid meals and 20 
percent were eligible for free meals, Sponsor A's total meal 
reimbursement for the month would be $42,944 (based on rates in effect 
as of May, 2002). In contrast, if 80 percent of the children in Sponsor 
B's centers were eligible for free meals and 20 percent were eligible 
for paid meals, Sponsor B's total meal reimbursement for the month 
would be $117,656. Because the free meal reimbursement is so much 
higher than the paid reimbursement, the total meal reimbursement on 
which the maximum allowable administrative costs are calculated is far 
smaller for Sponsor A than Sponsor B. Therefore, Sponsor A would 
probably be justified in retaining a higher percentage of its sponsored 
centers meal reimbursements than would Sponsor B. The law provides 
State agencies with the ability to take these types of factors into 
account when considering a center sponsor's request for a waiver of the 
15 percent ceiling. State agencies are also encouraged to contact their 
FNSROs when analyzing requests for such waivers.
How will FNS Determine Whether State Agencies are Properly Using Their 
Waiver Authority?
    We will include in management evaluations a review of the State 
agency's center sponsor administrative budget review and approval 
process. In addition, this rule amends Sec. 226.6(f)(3) to require 
State agencies to submit copies of center sponsor waiver approvals and 
denials to their FNSRO.
Are the Rules Different if the Sponsored Centers are ``Affiliated'' 
With Their Sponsoring Organization (i.e., Centers That are Owned by, or 
are Part of the Same Legal Entity as, the Sponsor)?
    No. Congress makes no distinction among types of center sponsors. 
This means that a sponsoring organization of affiliated centers must 
ensure that at least 85 percent of the meal reimbursement is devoted to 
operating costs.
Won't a Sponsor Selling Meals to its Centers--Whether Affiliated or 
Unaffiliated--Retain Over 15 Percent of the Total Reimbursement?
    Most likely, yes, because it will retain up to 15 percent of the 
meal reimbursement for its administrative costs, and will retain 
additional funds to cover the cost of preparing and delivering meals to 
its sponsored centers. However, this still fulfills the

[[Page 43471]]

law's intent that no more than 15 percent of the total reimbursement be 
used to pay administrative costs.
Would the Rules be Different for Proprietary Center Sponsors Because of 
Their Profit-Making Nature?
    No. The law still requires that at least 85 percent of the 
reimbursement be used for operating costs (i.e. the cost of the meal 
service). In addition, all institutions must maintain a nonprofit food 
service.
What if, Despite Having an Approved Budget for less Than 15 Percent of 
Total Reimbursements, a Sponsor of Centers Expends More Than 15 Percent 
of Total Reimbursements for Administrative Costs During the Course of a 
Year?
    The law limits the actual reimbursable administrative expenses of a 
sponsoring organization of centers to a maximum of 15 percent of the 
meal reimbursement. Thus, sponsoring organizations of centers and their 
State agencies must monitor the 15 percent limit throughout the year to 
ensure that unexpected variations in participation do not result in 
administrative expenditures over the 15 percent threshold. If, when a 
State agency reviews a sponsoring organization's end-of year 
expenditures, it discovers that the 15 percent ceiling has been 
exceeded, the State agency must take appropriate fiscal action.

C. State Agency Limits on Transfers by Day Care Homes (Secs. 226.6(p) 
and 226.18(b)(13))

    ARPA also addressed the issue of State agency-level controls on 
participation by day care homes. Section 243(f) of ARPA amended 
Sec. 17(f)(3)(ii)(D) of the NSLA to require State agencies to limit day 
care home transfers from one sponsoring organization to another to no 
more than one time per year, except under extenuating circumstances 
such as the termination or withdrawal from the Program of a day care 
home's sponsoring organization. This rule amends redesignated 
Sec. 226.6(p) (formerly Sec. 226.6(o)) to require the State agency to 
establish a transfer policy consistent with the ARPA provision. In 
addition, this rule further amends redesignated Sec. 226.6(p) and adds 
a new 226.18(b)(13) to require the sponsoring organization-day care 
home agreement to specify the State agency's transfer policy.

D. Notice to Parents or Guardians of Enrolled Participants 
(Sec. 226.16(b)(5))

What Information Does ARPA Require That Parents or Guardians of 
Participants Enrolled in CACFP Receive?
    Section 243(b)(4) of the ARPA further amended Sec. 17(d) of the 
NSLA by adding a new Sec. 17(d)(3) to require that a sponsored center, 
a day care home, or the home or center's sponsoring organization 
provide basic Program information to parents or guardians of enrolled 
participants. For children and adults participating in CACFP at the 
time of ARPA's enactment (June 20, 2000), this information was to be 
provided within 90 days of enactment. For participants enrolled after 
enactment, the law requires that the information be provided to parents 
or guardians at the time of enrollment.
    This rule amends Secs. 226.16(b)(5), 226.17(d), and 226.18(b)(16) 
to require that any sponsor, either itself or through its sponsored 
facilities, must ensure that the required information is distributed to 
the parents or guardians of enrolled participants in accordance with 
the law. (For the sake of consistency and simplicity, we made clear 
that this requirement applies to all Program participants, not just to 
participating children.)
How can the Sponsor or Facility Obtain This Information Quickly in 
Order To Meet This Requirement?
    We have developed and distributed to State agencies a brochure that 
provides basic information about the CACFP and its benefits. The names 
and telephone numbers of the sponsor and the State agency must be added 
to the brochure to meet the requirements of the law. We have also 
developed and distributed a one-page flyer that includes this basic 
Program information, and that will be less costly to reproduce than the 
brochure. Because the flyer was distributed electronically, it can 
easily be amended to include the name and telephone number of the 
appropriate State agency and the sponsor.
Some Urban Sponsors Deal With Providers and Households Speaking a Large 
Number of Languages. How can These Sponsors Meet the law's Requirement 
To Provide the Information in a Language Easily Understandable to the 
Household?
    We have made the informational brochure available in English and 
Spanish and the flyer available in English, Spanish, and 18 other 
languages. We urge State agencies and sponsors to work together to 
obtain translations into any other language which is commonly spoken in 
the households of enrolled children.

E. Procedures for Recovery of Funds Disbursed to Institutions 
(Sec. 226.14(a))

    Section 243(d) of ARPA amended Sec. 17(f)(1) of the NSLA to 
establish certain requirements pertaining to the recovery of funds that 
have been disbursed to institutions. The law provided that such 
recovery ``shall not be paid from funds used to provide meals and 
supplements,'' may be repaid over a period of one or more years, and 
must include an opportunity for an administrative review for the 
institution prior to the recovery of funds.
Are Child Care Facilities Covered by This Provision?
    No. The law refers only to disbursements to institutions by the 
State agency. Thus, if either a sponsor or a State agency uncovers 
invalid claims in its conduct of a facility review, or a sponsor makes 
such a discovery in editing the facility's claim, the facility's claim 
may be adjusted without offering an administrative review.
How do These Requirements Differ From Current Requirements in the CACFP 
Regulations?
    The prohibition on repaying claims out of Program funds of any kind 
(meal or administrative funds) already exists, as does the 
institution's opportunity for an administrative review of any action 
that affects its reimbursement (Secs. 226.14(a) and 226.6(k)). The 
provision pertaining to repayment schedules is new, although some State 
agencies already permit repayment schedules when collecting overclaims 
from institutions.
Are Repayment Schedules of at Least a Year Now Required?
    No. The law says that recovered amounts ``may'' be paid to the 
State agency over a period of one or more years. It leaves to the State 
agency the discretion of whether and how to use a repayment schedule. 
It should also be noted that, although the law provides State agencies 
with this option, FNS may still insist on immediate repayment in full 
from a State agency, regardless of whether the State agency has chosen 
to provide an institution with a repayment schedule.
Does This Rule Include Other Requirements Pertaining to the Recovery of 
Disbursed Funds?
    Yes. This rule makes clear our current position that State agencies 
must assess

[[Page 43472]]

interest during the period of repayment, including the period of 
administrative review, unless the administrative review officer 
overturns the State agency's action. In addition, State agencies must 
maintain lists of all funds recovery actions (excluding routine claim 
adjustments). In the interest of preserving flexibility for State 
agencies, the list may be kept in paper form, electronic form, or in 
retrievable, individual case files within the State agency.
    Accordingly, this rule amends Sec. 226.14(a) to specifically refer 
to the State agency's option to collect overpayments over a period of 
one or more years and to require State agencies to maintain lists or 
retrievable records of all funds recovery activities. This rule adds 
provisions in Secs. 226.6(k)(10) and 226.14(a) to clarify our position 
on the collection of interest on overpayments.

F. Disqualification and Administrative Reviews for Day Care Homes 
(Secs. 226.16(l) and 226.6(l))

    As previously mentioned in Part I(D) of this preamble, Sec. 243(c) 
of ARPA added a new Sec. 17(d)(5) to the NSLA that requires us to 
establish procedures for the termination of participation of day care 
homes (in addition to institutions). These procedures must provide day 
care homes with an administrative review ``prior to any determination 
to terminate'' a day care home's participation. However, this 
requirement to offer an administrative review is limited to proposed 
termination actions. The requirement does not extend to any other 
action taken by a sponsor, including a sponsor's collection of 
overpayments from a day care home (see discussion in Part III(E) 
above). On April 12, 2001, we issued guidance on the effects of ARPA on 
the termination of the agreements of day care homes. This preamble 
contains a general discussion of the issues related to the termination 
of day care home agreements, but does not repeat the detailed 
discussions contained in that memorandum (which is available at 
www.fns.usda.gov/cnd).
Why Do the Parts of the Rule Relating to Actions To Terminate a Day 
Care Home's Agreement Use the Term Termination ``for Cause'?
    Program regulations at Sec. 226.18(b)(8) have long permitted 
sponsors and day care homes to terminate the sponsor-home agreement 
``for convenience.'' Termination for convenience occurs when the 
sponsor or day care home terminates the agreement for considerations 
unrelated to either party's performance of Program responsibilities 
under the agreement. These are not the types of actions that ARPA 
intended to address.
    ARPA's focus is on situations in which a sponsoring organization 
acts to terminate a day care home's agreement because the day care home 
has violated the agreement and therefore did not operate in accordance 
with Program requirements. If the sponsoring organization's proposed 
termination of a day care home's agreement is upheld in an 
administrative review, or if the day care home fails to request an 
administrative review, the day care home will be disqualified. This 
type of termination is commonly called termination ``for cause.'' In 
order to distinguish between these two types of action in the context 
of day care homes and their sponsors, this rule amends Sec. 226.2 to 
add definitions of ``termination for convenience'' and ``termination 
for cause.''
What Process Must a Sponsor Use in Terminating a Day Care Home's 
Agreement for Cause?
    This rule adds a new Sec. 226.16(l), which requires a sponsoring 
organization to initiate action to terminate the agreement of a day 
care home for cause if the sponsoring organization determines the day 
care home has committed one or more serious deficiency. Section 
226.16(l)(2) lists the serious deficiencies for day care homes and 
Sec. 226.16(l)(3) sets out the requirements for the termination 
process. This process is quite similar, though not identical, to that 
used by State agencies in dealing with seriously deficient 
institutions, as revised by this rule (see Part I(D) of this preamble).
Do the Law's Provisions Regarding ``Suspension'' of Program Payments 
Based on Submission of False Claims Apply to Providers as Well as 
Institutions?
    No. The law requires suspension of Program payments (without the 
opportunity for corrective action) if the provider has engaged in 
conduct that poses an imminent threat to children's health or safety or 
to public health or safety. There is no other provision authorized by 
law for suspension of provider payments. This rule addresses the 
suspension of provider funds due to health or safety violations in 
Sec. 226.16(l)(4).
How Should the Law's Provisions Be Implemented With Regard to the 
``Suspension'' of Program Payments to Providers Based on an Imminent 
Threat to Health or Safety?
    Several aspects of the process for suspending providers who engage 
in conduct that poses an imminent threat to health or safety merit 
discussion.
    First, Sec. 17(d)(5)(C) states the Department may establish 
procedures requiring immediate suspension for institutions and day care 
homes ``without the opportunity for corrective action, if the State 
agency determines that there is an imminent threat to the health or 
safety of a participant at the entity or the entity engages in any 
activity that poses a threat to public health or safety.'' This 
language was repeated in implementation guidance we issued on July 20, 
2000, and October 17, 2000. However, recognizing that the State agency 
would not have an agreement with a day care home, we clarified this 
statement in guidance issued on April 12, 2001, and in the language of 
this rule at Sec. 226.16(l)(4). Sponsoring organizations, not State 
agencies, will bear the responsibility for making these decisions for 
the day care homes they sponsor.
    Second, to parallel the provisions promulgated for the State 
agency's suspension of an institution based on an imminent threat to 
health or safety, this rule requires that, if State or local health or 
licensing officials have cited a day care home for serious health or 
safety violations, the sponsoring organization must immediately suspend 
the home's CACFP participation prior to any formal action to revoke the 
home's licensure or approval. However, if a sponsoring organization 
finds unhealthy or unsafe conditions that pose an imminent threat to 
health or safety when conducting a home review, and the licensing 
agency cannot make an immediate onsite visit, there may be a delay 
before the sponsor can act. In these cases, this rule requires the 
sponsoring organization to immediately notify the appropriate State or 
local licensing and health authorities and to take action that is 
consistent with the recommendations and requirements of those 
authorities.
Who Must Hold the Administrative Review?
    This rule requires in Sec. 226.6(l)(1) that State agencies ensure 
that day care homes are provided an opportunity for an administrative 
review of a proposed termination. State agencies may do this either by 
offering State-level administrative review or by requiring the 
sponsoring organization to offer an

[[Page 43473]]

administrative review. If a State agency elects to provide a State-
level administrative review to one day care home, it must do so for all 
day care homes in the State.
What Options Does a Sponsoring Organization Have in Offering 
Administrative Reviews?
    If a State agency chooses to require sponsoring organizations to 
provide the administrative reviews, it is the sponsoring organization's 
responsibility to ensure that the administrative review is provided in 
accordance with the requirements for day care home administrative 
reviews added by this rule in Sec. 226.6(l). A sponsoring organization 
may do this by holding the administrative review itself, or by 
contracting with someone to provide the administrative review (such as 
a sponsor's association).
Are the Procedural Requirements the Same for an Administrative Review 
Conducted by a State Agency and One Conducted by a Sponsoring 
Organization?
    Yes. The minimum procedural requirements for day care home 
administrative reviews are the same regardless of whether it is the 
State agency or the sponsor conducting the review. The procedures are a 
streamlined version of the procedures State agencies must follow for 
administrative reviews for institutions.
What Will Happen if a Sponsor Uses Termination for Convenience When 
They Should Use Termination for Cause?
    Because the law clearly intends that poorly-performing and 
fraudulent providers be placed on a list which would disqualify them 
from Program participation, we believe it is necessary to underscore 
the importance of sponsoring organizations making meaningful 
distinctions between the bases for termination. To that end, this rule 
requires State agencies to include as part of their review of a 
sponsor's operation their proper implementation of this provision (see 
revised and redesignated Sec. 226.6(m)(3)(iii)). The rule also requires 
State agencies to determine that a sponsoring organization is seriously 
deficient when it has terminated providers for convenience when a 
termination for cause was the appropriate course of action (see 
Sec. 226.6(c)(3)(ii)(R), as added by this rule).
May Providers Still Terminate Their Agreements With a Sponsor ``for 
Convenience'?
    Yes. Providers may still terminate their agreement with a sponsor 
``for convenience.'' However, depending on the timing of this action 
and the nature of the State agency's implementation of ARPA's 
requirement for an annual transfer policy, the provider's termination 
for convenience could result in a lapse in their Program participation. 
Providers having questions on this subject should refer to the State 
agency for further guidance.
How Will State Agencies Be Able To Monitor Sponsors' Compliance With 
These New Termination and Appeal Procedures?
    This rule establishes the minimum requirements for sponsoring 
organizations to use when determining a day care home seriously 
deficient, proposing to terminate a day care home's agreement for 
cause, and offering day care homes administrative reviews of such 
actions (Sec. 226.6(l)). This rule amends Sec. 226.16(b)(6) to require 
sponsoring organizations to submit, as part of their Program 
applications, any supplemental procedures the sponsoring organization 
has established for taking these actions and for providing 
administrative reviews (if the sponsor has been charged with conducting 
the administrative reviews). In addition, this rule amends redesignated 
Sec. 226.6(m)(3)(iii) to require State agency reviews of sponsoring 
organizations to evaluate implementation of procedures relating to 
serious deficiency, termination, and administrative review.

Executive Order 12866

    This interim rule has been determined to be significant and was 
reviewed by the Office of Management and Budget under Executive Order 
12866.

Regulatory Flexibility Act

    This rule has been reviewed with regard to the requirements of the 
Regulatory Flexibility Act (5 U.S.C. 601-612). Eric M. Bost, Under 
Secretary for Food, Nutrition, and Consumer Services, has certified 
that this rule will not have a significant economic impact on a 
substantial number of small entities.
    The CACFP is administered by State agencies and by over 19,000 
institutions (sponsoring organizations and independent child and adult 
care centers) in over 210,000 child and adult care facilities (child 
care centers, outside-school-hours care centers, adult day care 
centers, and family day care homes). The vast majority of institutions 
and facilities participating in CACFP are ``small entities''. However, 
the changes mandated by Public Laws 106-224 and 106-472 and implemented 
in this interim rule will not have a significant economic impact, 
except where improved monitoring procedures lead State agencies to 
terminate institutions' agreements or sponsoring organizations 
terminate the agreements of day care homes. In short, there will be 
little or no impact on those entities administering the Program in 
accordance with the CACFP regulations, since the changes to the law 
were largely intended to improve compliance with existing regulations.
    This rule will primarily affect the procedures used by State 
agencies in reviewing applications submitted by institutions that are 
participating or that wish to participate in the Child and Adult Care 
Food Program; in monitoring the performance of participating 
institutions; and in ensuring that appropriate and timely action is 
taken to correct serious deficiencies noted in an institution's 
operation of the Program. The rule will also impact sponsoring 
organizations, by requiring that they conduct unannounced reviews of 
their sponsored facilities, and some sponsoring organizations of 
centers, whose level of reimbursable Program administrative expenses 
will be capped at 15 percent of total meal reimbursements. 
Institutions, individuals, and day care home providers will be affected 
by the provision of an administrative review prior to their loss of 
Program benefits or the termination of their Program agreements. Those 
changes will not, in the aggregate, have a significant economic impact.

Regulatory Impact Analysis

    This rule implements a number of changes to existing Program 
regulations. These changes are mandated by the NSLA, as amended by 
Public Laws 106-224 and 106-472, and are designed to improve management 
and financial integrity in the CACFP. These changes will affect all 
entities involved in CACFP, including USDA, State agencies, 
institutions, facilities, and participating children and their 
households. The entities most affected will be State agencies, 
institutions, and facilities.
    Despite the conduct of numerous OIG audits and State and FNS 
reviews, there is no statistically representative information available 
on CACFP integrity. OIG reports have focused on purposively selected 
CACFP institutions and facilities, and ``management

[[Page 43474]]

evaluations'' conducted by State agencies and FNS are not designed to 
capture representative information for the purpose of developing 
Nationally-valid estimates of fraud or mismanagement. While the OIG 
reports clearly illustrate that there are significant weaknesses in 
parts of the Program regulations, and that there have been significant 
weaknesses in oversight by some State agencies and institutions, 
neither the OIG reports nor any other data sources estimate the 
prevalence or magnitude of CACFP fraud and abuse.
    This lack of information makes it difficult for USDA to estimate 
the amount of CACFP reimbursement lost due to fraud and abuse. For that 
reason, when the fiscal impact of these provisions was estimated by 
FNS, the Congressional Budget Office, and the Office of Management and 
Budget when Public Law 106-224 was enacted, only a few of the 
provisions were estimated to produce Program savings. Those estimates 
appear in the Regulatory Impact Analysis in Table ES-2, which is 
summarized below:

                                                 Table ES-2.--Estimated Savings of Rule ($ in millions)
--------------------------------------------------------------------------------------------------------------------------------------------------------
                        Provision                            2001        2002        2003        2004        2005      2001-2005   2006-2010   2001-2010
--------------------------------------------------------------------------------------------------------------------------------------------------------
Tax-exempt, Prior ineligi-bility in other public                -3.2        -3.4        -3.7        -4.0        -4.2       -18.5       -25.8       -44.3
 programs, eliminate participation ``entitlement'' for
 instituitions..........................................
New sponsors must demonstrate need for services.........        -0.0        -0.5        -1.0        -1.4        -1.4        -4.3        -7.1       -11.4
15% cap on center sponsor administrative earnings.......       -13.8       -17.3       -21.6       -26.4       -31.9      -110.9      -279.1      -390.0
Limit facility transfers between sponsors...............        -0.0        -0.9        -1.0        -1.0        -1.1        -4.0        -6.5       -10.5
--------------------------------------------------------------------------------------------------------------------------------------------------------

    FNS had very little flexibility in implementing most of the 
provisions mandated by ARPA and the Grain Standards Act. As discussed 
throughout the preamble, above, and under ``Executive Order 13132'', 
below, where possible, we have made every attempt to ensure that the 
statutory provisions, as implemented in this interim rule, safeguard 
Program funds without unnecessarily limiting access to the Program by 
institutions, facilities, or children.

Executive Order 12372

    This Program is listed in the Catalog of Federal Domestic 
Assistance under No. 10.558 and is subject to the provisions of 
Executive Order 12372, which requires intergovernmental consultation 
with State and local officials (7 CFR Part 3015, Subpart V, and final 
rule related notice published in 48 FR 29114, June 24, 1983, and 49 FR 
22676, May 31, 1984).

Executive Order 13132

    Executive Order 13132 requires Federal agencies to consider the 
impact of their regulatory actions on State and local governments. 
Where such actions have ``federalism implications,'' agencies are 
directed to provide a statement for inclusion in the preamble to the 
regulation describing the agency's considerations in terms of the three 
categories enumerated in section 6(a)(B) of Executive Order 13132:

Prior Consultation With State Officials

    Prior to drafting this interim rule, we received input from State 
and local agencies at various times. Since the CACFP is a State 
administered, Federally funded program, our regional offices regularly 
have formal and informal discussions with State and local officials 
regarding Program implementation and performance. This allows State and 
local agencies to contribute input that helps to influence our 
discretionary rulemaking proposals, the implementation of statutory 
provisions, and even our own Departmental legislative proposals. In 
addition, over the past seven years, our headquarters staff informally 
consulted with State administering agencies, Program sponsors, and 
CACFP advocates on ways to improve Program management and integrity in 
CACFP. Discussions with State agencies took place in the joint 
Management Improvement Task Force meetings held between 1995 and 2000; 
in three biennial National meetings of State and Federal CACFP 
administrators (1996 in Seattle, 1998 in New Orleans, and 2000 in 
Chicago); at the December 1999 meeting of State Child Nutrition Program 
administrators in New Orleans; and in a variety of other small- and 
large-group meetings. Discussions with Program advocates and sponsors 
occurred in the Management Improvement Task Force meetings held in 
1999-2000; in annual National meetings of the Sponsors Association, the 
CACFP Sponsors Forum, and the Western Regional Office-California 
Sponsors Roundtable from 1996-2000; and in a variety of other small- 
and large-group meetings.

Nature of Concerns and Need To Issue This Rule

    The issuance of a regulation is required as a result of statutory 
changes enacted in Public Laws 106-224 and 106-472. Many of the 
individual provisions in these statutes were discussed in the meetings 
with State and local cooperators mentioned above, and the Department, 
State agencies, and local sponsoring organizations all provided input 
to the congressional authorizing committees that drafted these 
statutory changes. Although State agencies and local sponsoring 
organizations have some concerns about the implementation of the new 
termination and appeal procedures mandated by these laws, Congress 
attempted to balance the demonstrable need to improve Program 
compliance in CACFP with the protection of institutions and day care 
homes' ability to receive due process prior to having their Program 
participation terminated.

Extent to Which We Meet Those Concerns

    FNS has considered the impact of these statutory changes on State 
and local administering agencies, and has followed congressional intent 
in attempting to balance Program integrity concerns with the need to 
maintain Program access for capable institutions and family day care 
homes. The preamble above contains a more detailed discussion of our 
attempt to balance integrity and access concerns, while implementing 
these provisions in a manner consistent with both the letter and the 
intent of the law.

[[Page 43475]]

Public Law 104-4

    Title II of the Unfunded Mandates Reform Act of 1995 (UMRA), Pub. 
L. 104-4, requires Federal agencies to assess the effects of their 
regulatory actions on State, local, and tribal governments and the 
private sector. Under Section 202 of the UMRA, the Food and Nutrition 
Service must usually prepare a written statement, including a cost-
benefit analysis, for proposed and final rules with ``Federal 
mandates'' that may result in new annual expenditures of $100 million 
or more by State, local, or tribal governments or the private sector. 
When such a statement is needed, section 205 of the UMRA requires the 
Food and Nutrition Service to identify and consider regulatory 
alternatives that would achieve the same result.
    This rule contains no Federal mandates (as defined in Title II of 
the UMRA) that would lead to new annual expenditures exceeding $100 
million for State, local, or tribal governments or the private sector. 
Therefore, the rule is not subject to the requirements of sections 202 
and 205 of the UMRA.

Public Participation

    As noted in the SUPPLEMENTARY INFORMATION section of this preamble, 
we are publishing this interim rule without the prior notice or public 
comment generally required under section 553 of the Administrative 
Procedure Act (APA). Section 263(a) of ARPA specified that the 
Secretary must publish rules implementing ARPA's amendments to the 
CACFP provisions of the NSLA as soon as practicable, and without regard 
to the APA, Departmental policy regarding public participation, or the 
Paperwork Reduction Act. We are therefore required to publish a rule 
incorporating the ARPA changes without following the usual rulemaking 
procedures.
    We are also publishing in this interim rule provisions implementing 
section 307 of the Grain Standards Act. Section 307 incorporated 
amendments to the hearing requirements established by section 243 of 
ARPA. It would be impractical to implement the provisions of ARPA 
without the inclusion of the modifications to the appeal process 
instituted in accordance with section 307 of the Grain Standards Act. 
For these reasons, we have determined in accordance with 5 U.S.C. 
553(b)(3) that good cause exists for the promulgation of the provisions 
of this rule implementing section 307 of the Grain standards Act 
without prior notice and public comment. In order to improve 
administration of the rule, however, we are seeking public comment on 
all of its provisions and will make any appropriate changes based on 
the comments when the final rule is published.

Executive Order 12988

    This rule has been reviewed under Executive Order 12988, Civil 
Justice Reform. This rule is intended to have preemptive effect with 
respect to any State or local laws, regulations, or policies which 
conflict with its provisions or which would otherwise impede its full 
implementation. This rule is not intended to have retroactive effect 
unless so specified in the DATES section of the preamble of the final 
rule. All available administrative procedures must be exhausted prior 
to any judicial challenge to the provisions of this rule or the 
application of its provisions. This includes any administrative 
procedures provided by State or local governments. In the CACFP, the 
administrative procedures are set forth at: (1) 7 CFR Secs. 226.6(k), 
226.6(l), and 226.16(l) which establish administrative review 
procedures for institutions, individuals, and day care homes; and (2) 7 
CFR Section 226.22 and 7 CFR 3015, which address administrative review 
procedures for disputes involving procurement by State agencies and 
institutions.

Paperwork Reduction Act

    In accordance with Sec. 3507(j) of the Paperwork Reduction Act of 
1995 (44 U.S.C. 3501 et seq.), the information collection and 
recordkeeping requirements included in this interim rule have been 
submitted for emergency approval to the Office of Management and Budget 
(OMB). OMB has assigned control number 0584-0055 to the information 
collection and recordkeeping requirements. FNS intends to request 
continuation of that approval for three years and invites the general 
public and other public agencies to comment on the information 
collection impact of implementing this interim rule.
    Written comments on the information collection requirements must be 
received on or before August 26, 2002 by the Office of Information and 
Regulatory Affairs, Office of Management and Budget (OMB), 3208 New 
Executive Office Building, Washington, DC 20503, Attention: Ms. Lauren 
Whittenberg, Desk Officer for the Food and Nutrition Service. A copy of 
these comments may also be sent to Mr. Robert Eadie at the address 
listed in the ADDRESSES section of this preamble. Commenters are asked 
to separate their remarks on information collection requirements from 
their comments on the remainder of the interim rule.
    OMB is required to make a decision concerning the collection of 
information required by this rule between 30 to 60 days after its 
publication in the Federal Register. Therefore, a comment to OMB is 
most likely to be considered if OMB receives it within 30 days of the 
publication of this rule. This does not affect the 60-day deadline for 
the public to comment to the Department on the substance of the rule.
    Comments are invited on: (a) Whether the collection of information 
is necessary for the Agency to perform its functions of the agency and 
will have practical utility; (b) the accuracy of the Agency's estimate 
of the burden of collecting the information, including whether its 
methodology and assumptions are valid; (c) ways to enhance the quality, 
utility, and clarity of the information to be collected; and (d) ways 
to minimize the burden of the information collection, including the use 
of appropriate automated, electronic, mechanical, or other 
technological collection techniques or other forms of information 
technology. The title and description of the information collections 
are shown below with an estimate of the annual reporting and 
recordkeeping burdens. Included in the estimate is the time for 
reviewing instructions, searching existing data sources, gathering and 
maintaining the data needed, and completing and reviewing the 
collection of information.
    Title: 7 CFR Part 226, Child and Adult Care Food Program.
    OMB Number: 0584-0055.
    Type of request: Revision of existing collections.
    Abstract: This rule revises: State agency criteria for approving 
and renewing institution applications and for terminating agreements 
with institutions; State- and institution-level monitoring 
requirements; State agency and sponsoring organization follow-up to 
ensure that appropriate and timely action is taken to correct serious 
deficiencies noted in an institution or day care home's operation of 
the Program; the level of reimbursable Program administrative expenses 
for sponsoring organizations of centers; and the administrative review 
procedures for institutions, individuals, and day care homes. The 
provisions of law that are implemented in this interim rule and are 
likely to have the greatest potential impact will require: State 
agencies to evaluate all Program applications in light of three 
``performance standards'; time limits on the completion of corrective 
action by

[[Page 43476]]

institutions and day care homes that have been declared seriously 
deficient; payments to continue to seriously deficient institutions and 
homes until the conclusion of the appeal process, unless payments to 
the institution or home have been suspended for reasons related to 
health or safety concerns or the submission of a false or fraudulent 
claim; responsible principals and responsible individuals, as well as 
family day care homes whose agreements have been terminated for cause, 
to be placed on the National disqualified list; all State agencies to 
follow uniform procedures for administrative reviews (appeals); the 
establishment of an appeals process for family day care homes; 
sponsoring organizations annually to conduct a minimum of two 
unannounced visits to each of their sponsored facilities; State 
agencies to perform 15 percent of their required facility reviews 
unannounced; sponsoring organizations to meet minimum staffing 
requirements for performance of the monitoring function; and sponsors 
of centers to retain a maximum of 15 percent of Program funds for 
administrative expenses, unless a waiver is obtained from the State 
agency. These changes are primarily designed to improve Program 
operations and monitoring at the State and institution levels.
    Estimated Total Annual Burden on Respondents:
    Total Existing Burden Hours: 5,076,428.
    Total Proposed Burden Hours: 5,093,852.
    Total Difference: 17,424.
    The changes in these information collection requirements will not 
be in effect until approved by OMB.

List of Subjects in 7 CFR Part 226

    Accounting, Aged, Day care, Food and Nutrition Service, Food 
assistance programs, Grant programs, Grant programs--health, Indians, 
Individuals with disabilities, Infants and children, Intergovernmental 
relations, Loan programs, Reporting and recordkeeping requirements, 
Surplus agricultural commodities.

    Accordingly, 7 CFR Part 226 is amended as follows:

PART 226--CHILD AND ADULT CARE FOOD PROGRAM

    1. The authority citation for Part 226 is revised to read as 
follows:

    Authority: Secs. 9, 11, 14, 16, and 17, Richard B. Russell 
National School Lunch Act, as amended (42 U.S.C. 1758, 1759a, 1762a, 
1765 and 1766).
    2. In Sec. 226.2:
    a. New definitions of Administrative review, Administrative review 
official, Center, Days, Disqualified, Emergency shelter, Facility, 
Internal controls, National disqualified list, New institution, Notice, 
Principal, Renewing institution, Responsible principal or responsible 
individual, Seriously deficient, State agency list, Suspended, 
Suspension review, Suspension review official, Termination for cause, 
Termination for convenience, and Unannounced review are added in 
alphabetical order; and
    b. The definition of Institution is amended by adding the words '', 
emergency shelter'' after the words ``outside-school-hours care 
center''.
    The additions read as follows:


Sec. 226.2  Definitions.

* * * * *
    Administrative review means the fair hearing provided upon request 
to:
    (a) An institution that has been given notice by the State agency 
of any action or proposed action that will affect their participation 
or reimbursement under the Program, in accordance with Sec. 226.6(k);
    (b) A principal or individual responsible for an institution's 
serious deficiency after the responsible principal or responsible 
individual has been given a notice of intent to disqualify them from 
the Program; and
    (c) A day care home that has been given a notice of proposed 
termination for cause.
    Administrative review official means the independent and impartial 
official who conducts the administrative review held in accordance with 
Sec. 226.6(k).
* * * * *
    Center means a child care center, an adult day care center, or an 
outside-school-hours care center.
* * * * *
    Days means calendar days unless otherwise specified.
* * * * *
    Disqualified means the status of an institution, a responsible 
principal or responsible individual, or a day care home that is 
ineligible for participation.
* * * * *
    Emergency shelter means a public or private nonprofit organization 
whose primary purpose is to provide temporary shelter and food services 
to homeless families with children.
* * * * *
    Facility means a sponsored center or a family day care home.
* * * * *
    Internal controls means the policies, procedures, and 
organizational structure of an institution designed to reasonably 
assure that:
    (a) The Program achieves its intended result;
    (b) Program resources are used in a manner that protects against 
fraud, abuse, and mismanagement and in accordance with law, 
regulations, and guidance; and
    (c) Timely and reliable Program information is obtained, 
maintained, reported, and used for decision-making.
* * * * *
    National disqualified list means the list, maintained by the 
Department, of institutions, responsible principals and responsible 
individuals, and day care homes disqualified from participation in the 
Program.
    New institution means an institution applying to participate in the 
Program for the first time, or an institution applying to participate 
in the Program after a lapse in participation.
* * * * *
    Notice means a letter sent by certified mail, return receipt (or 
the equivalent private delivery service), by facsimile, or by email, 
that describes an action proposed or taken by a State agency or FNS 
with regard to an institution's Program reimbursement or participation. 
Notice also means a letter sent by certified mail, return receipt (or 
the equivalent private delivery service), by facsimile, or by email, 
that describes an action proposed or taken by a sponsoring organization 
with regard to a day care home's participation. The notice must specify 
the action being proposed or taken and the basis for the action, and is 
considered to be received by the institution or day care home when it 
is delivered, sent by facsimile, or sent by email. If the notice is 
undeliverable, it is considered to be received by the institution, 
responsible principal or responsible individual, or day care home five 
days after being sent to the addressee's last known mailing address, 
facsimile number, or email address.
* * * * *
    Principal means any individual who holds a management position 
within, or is an officer of, an institution or a sponsored center, 
including all members of the institution's board of directors or the 
sponsored center's board of directors.
* * * * *
    Renewing institution means an institution that is participating in 
the Program at the time it submits a renewal application.
    Responsible principal or responsible individual means:

[[Page 43477]]

    (a) A principal, whether compensated or uncompensated, who the 
State agency or FNS determines to be responsible for an institution's 
serious deficiency;
    (b) Any other individual employed by, or under contract with, an 
institution or sponsored center, who the State agency or FNS determines 
to be responsible for an institution's serious deficiency; or
    (c) An uncompensated individual who the State agency or FNS 
determines to be responsible for an institution's serious deficiency.
* * * * *
    Seriously deficient means the status of an institution or a day 
care home that has been determined to be non-compliant in one or more 
aspects of its operation of the Program.
* * * * *
    State agency list means an actual paper or electronic list, or the 
retrievable paper records, maintained by the State agency, that 
includes a synopsis of information concerning seriously deficient 
institutions and providers terminated for cause in that State. The list 
must be made available to FNS upon request, and must include the 
following information:
    (a) Institutions determined to be seriously deficient by the State 
agency, including the names and mailing addresses of the institutions, 
the basis for each serious deficiency determination, and the status of 
the institutions as they move through the possible subsequent stages of 
corrective action, proposed termination, suspension, agreement 
termination, and/or disqualification, as applicable;
    (b) Responsible principals and responsible individuals who have 
been disqualified from participation by the State agency, including 
their names, mailing addresses, and dates of birth; and
    (c) Day care home providers whose agreements have been terminated 
for cause by a sponsoring organization in the State, including their 
names, mailing addresses, and dates of birth.
* * * * *
    Suspended means the status of an institution or day care home that 
is temporarily ineligible for participation (including Program 
payments).
    Suspension review means the review provided, upon the institution's 
request, to an institution that has been given a notice of intent to 
suspend participation (including Program payments), based on a 
determination that the institution has knowingly submitted a false or 
fraudulent claim.
    Suspension review official means the independent and impartial 
official who conducts the suspension review.
    Termination for cause means the termination of a day care home's 
Program agreement by the sponsoring organization due to the day care 
home's violation of the agreement.
    Termination for convenience means termination of a day care home's 
Program agreement by either the sponsoring organization or the day care 
home, due to considerations unrelated to either party's performance of 
Program responsibilities under the agreement.
* * * * *
    Unannounced review means an on-site review for which no prior 
notification is given to the facility or institution.
* * * * *
    3. In Sec. 226.6:
    a. Paragraphs (b) and (c) are revised;
    b. Paragraph (d)(3) is amended in the last sentence by removing the 
reference ``226.6(n)'' and adding in its place the reference 
``226.6(o)';
    c. Paragraph (f)(1) is amended by adding a new sentence at the end 
of the paragraph;
    d. Paragraph (f)(2) is amended by removing the third sentence and 
adding in its place four new sentences;
    e. Paragraph (f)(3) is amended by adding three new sentences at the 
end of the paragraph;
    f. Paragraph (k) is revised;
    g. Paragraphs (l)-(p) are redesignated as paragraphs (m)-(q) and a 
new paragraph (l) is added;
    h. Newly redesignated paragraph (m) is revised;
    i. Newly redesignated paragraph (p) is amended by adding two new 
sentences after the first sentence; and
    j. Newly redesignated paragraph (q) is amended by removing the 
reference ``226.6(l)'' and adding in its place the reference 
``226.6(m)''.
    The additions and revisions specified above read as follows:


226.6  State agency administrative responsibilities.

* * * * *
    (b) Application Approval. Each State agency must establish an 
application procedure to determine the eligibility under this part of 
applicant institutions, and facilities for which applications are 
submitted by sponsoring organizations. Any institution applying for 
participation in the Program must be notified of approval or 
disapproval by the State agency in writing within 30 days of filing a 
complete and correct application. If an institution submits an 
incomplete application, the State agency must notify the institution 
within 15 days of receipt of the application and must provide technical 
assistance, if necessary, to the institution for the purpose of 
completing its application. Any disapproved applicant must be notified 
of the procedures for seeking an administrative review (in accordance 
with paragraphs (k) or (l) of this section, as appropriate). The 
application procedures must include or conform to the following 
requirements:
    (1) Agreements. The State agency, by written consent of the State 
agency and the institutions, must renew agreements with institutions 
not less frequently than annually. The State agency is prohibited from 
entering into an agreement that is effective during two fiscal years, 
but may nevertheless establish an ongoing renewal process for the 
purpose of reviewing and approving applications from participating 
institutions throughout the fiscal year;
    (2) Participant eligibility information. Centers must submit 
current information on the number of enrolled participants who are 
eligible for free, reduced price, and paid meals;
    (3) Enrollment information. Sponsoring organizations of day care 
homes must submit the current total number of children enrolled, with 
an assurance that day care home providers' own children enrolled in the 
Program are eligible for free or reduced price meals;
    (4) Nondiscrimination statement. Institutions must issue a non-
discrimination policy statement and media release;
    (5) Management plan. Sponsoring organizations must submit a 
management plan;
    (6) Administrative budget. Institutions must submit an 
administrative budget;
    (7) Licensing/approval. Institutions must document that each 
facility for which application is made meets Program licensing/approval 
requirements;
    (8) Proprietary centers. Institutions must document that each 
proprietary center for which application is made meets the definition 
of a proprietary title XIX center or a proprietary title XX center, as 
applicable and as set forth at Sec. 226.2;
    (9) Commodites/Cash-in-lieu of commodities. Institutions must state 
their preference to receive cash or cash-in-lieu of commodities;
    (10) Advance payments. Institutions must state their preference to 
receive all, part, or none of the advance payment;
    (11) Unserved facilities or participants.
    (i) Criteria. The State agency must develop criteria for 
determining whether a new sponsoring

[[Page 43478]]

organization's participation will help ensure the delivery of benefits 
to otherwise unserved facilities or participants, and must disseminate 
these criteria to new sponsoring organizations when they request 
information about applying to the Program; and
    (ii) Documentation. The new sponsoring organization must submit 
documentation that its participation will help ensure the delivery of 
benefits to otherwise unserved facilities or participants in accordance 
with the State agency's criteria.
    (12) National disqualified list. A State agency is prohibited from 
approving an institution's application if the institution or any of its 
principals is on the National disqualified list, and is prohibited from 
approving an application submitted by a sponsoring organization on 
behalf of a facility if the facility or any of its principals is on the 
National disqualified list;
    (13) Other publicly funded programs. (i) General. A State agency is 
prohibited from approving an institution's application if, during the 
past seven years, the institution or any of the institution's 
principals have been declared ineligible for any other publicly funded 
program by reason of violating that program's requirements. However, 
this prohibition does not apply if the institution or the principal has 
been fully reinstated in, or determined eligible for, that program, 
including the payment of any debts owed;
    (ii) Certification. As part of an application, institutions must 
submit a certification regarding their past performance in other 
publicly funded programs. The certification shall include language 
stating that institutions and individuals providing false 
certifications will be placed on the National disqualified list and 
will be subject to any other applicable civil or criminal penalties. 
This certification will include:
    (A) A statement listing the publicly funded programs in which the 
institution and its principals have participated in the past seven 
years; and
    (B) A certification that, during the past seven years, neither the 
institution nor any of its principals have been declared ineligible to 
participate in any other publicly funded program by reason of violating 
that program's requirements; or
    (C) In lieu of the certification, documentation that the 
institution or the principal previously declared ineligible was later 
fully reinstated in, or determined eligible for, the program, including 
the payment of any debts owed; and
    (iii) Follow-up. If the State agency has reason to believe that the 
institution or its principals were determined ineligible to participate 
in another publicly funded program by reason of violating that 
program's requirements, the State agency must follow up with the entity 
administering the publicly funded program to gather sufficient evidence 
to determine whether the institution or its principals were, in fact, 
determined ineligible;
    (14) Criminal convictions.
    (i) General. A State agency is prohibited from approving an 
institution's application if the institution or any of its principals 
has been convicted of any activity that occurred during the past seven 
years and that indicated a lack of business integrity. A lack of 
business integrity includes fraud, antitrust violations, embezzlement, 
theft, forgery, bribery, falsification or destruction of records, 
making false statements, receiving stolen property, making false 
claims, obstruction of justice, or any other activity indicating a lack 
of business integrity as defined by the State agency; and
    (ii) Certification. As part of an application, institutions must 
submit a certification regarding any criminal convictions. The 
certification shall include language stating that institutions and 
individuals providing false certifications will be placed on the 
National disqualified list and will be subject to any other applicable 
civil or criminal penalties. This certification will state that neither 
the institution nor any of its principals has been convicted of any 
activity that occurred during the past seven years and that indicated a 
lack of business integrity. A lack of business integrity includes 
fraud, antitrust violations, embezzlement, theft, forgery, bribery, 
falsification or destruction of records, making false statements, 
receiving stolen property, making false claims, obstruction of justice, 
or any other activity indicating a lack of business integrity as 
defined by the State agency;
    (15) Truth of applications and names and addresses. Institutions 
must submit a certification that all information on the application is 
true and correct, along with the name, mailing address, and date of 
birth of the institution's executive director and chairman of the board 
of directors;
    (16) Outside employment policy. Sponsoring organizations must 
submit an outside employment policy. The policy must restrict other 
employment by employees that interferes with an employee's performance 
of Program-related duties and responsibilities, including outside 
employment that constitutes a real or apparent conflict of interest. 
Sponsoring organizations that are participating on July 29, 2002 must 
submit an outside employment policy not later than September 27, 2002. 
The policy shall be effective unless disapproved by the State agency;
    (17) Bond. Sponsoring organizations applying for initial 
participation on or after June 20, 2000, must submit a bond, if such 
bond is required by State law, regulation, or policy. If the State 
agency requires a bond for sponsoring organizations pursuant to State 
law, regulation, or policy, the State agency must submit a copy of that 
requirement and a list of sponsoring organizations posting a bond to 
the appropriate FNSRO on an annual basis; and
    (18) Each new or renewing institution must submit information 
sufficient to document that it is financially viable, is 
administratively capable of operating the Program in accordance with 
this part, and has internal controls in effect to ensure 
accountability. To document this, any new institution must demonstrate 
in its application that it is capable of operating in conformance with 
the following performance standards, and any renewing institution must 
demonstrate in its application that it currently operates in 
conformance with the following performance standards. The State agency 
must only approve the applications of those institutions that meet 
these performance standards, and must deny the applications of those 
institutions that do not meet the standards.
    (i) Performance Standard 1--Financial viability and financial 
management. The new or renewing institution must be financially viable. 
Program funds must be expended and accounted for in accordance with the 
requirements of this part, FNS Instruction 796-2 (``Financial 
Management in the Child and Adult Care Food Program''), and 7 CFR Parts 
3015 and 3016. To demonstrate financial viability, the new or renewing 
institution must document that it meets the following criteria:
    (A) Description of Need/Recruitment. A new sponsoring organization 
must demonstrate in its management plan that its participation will 
help ensure the delivery of Program benefits to otherwise unserved 
facilities or participants, in accordance with criteria developed by 
the State agency pursuant to paragraph (b)(11) of this section. All 
sponsoring organizations must demonstrate that they will use 
appropriate practices for recruiting

[[Page 43479]]

facilities, consistent with paragraph (p) of this section and any State 
agency requirements;
    (B) Fiscal Resources and Financial History. An institution must 
demonstrate that it has adequate financial resources to operate the 
CACFP on a daily basis, has adequate sources of funds to withstand 
temporary interruptions in Program payments and/or fiscal claims 
against the institution, and can document financial viability (for 
example, through audits, financial statements, etc.); and
    (C) Administrative Budgets. Costs in the institution's 
administrative budget must be necessary, reasonable, allowable, and 
appropriately documented;
    (ii) Performance Standard 2--Administrative capability. The new or 
renewing institution must be administratively capable. Appropriate and 
effective management practices must be in effect to ensure that the 
Program operates in accordance with this part. To demonstrate 
administrative capability, the new or renewing institution must 
document that it meets the following criteria:
    (A) Has an adequate number and type of qualified staff to ensure 
the operation of the Program in accordance with this part;
    (B) If a sponsoring organization, documents in its management plan 
that it employs staff sufficient to meet the ratio of monitors to 
facilities set forth in Sec. 226.16(b)(1), and the factors established 
by the State agency in accordance with Sec. 226.6(f)(2); and
    (C) If a sponsoring organization, has Program policies and 
procedures in writing that assign Program responsibilities and duties, 
and ensure compliance with civil rights requirements; and
    (iii) Performance Standard 3--Program accountability. The new or 
renewing institution must have internal controls and other management 
systems in effect to ensure fiscal accountability and to ensure that 
the Program operates in accordance with the requirements of this part. 
To demonstrate Program accountability, the new or renewing institution 
must document that it meets the following criteria:
    (A) Board of directors. Has adequate oversight of the Program by 
its governing board of directors;
    (B) Fiscal accountability. Has a financial system with management 
controls specified in writing. For sponsoring organizations, these 
written operational policies must assure:
    (1) Fiscal integrity and accountability for all funds and property 
received, held, and disbursed;
    (2) The integrity and accountability of all expenses incurred;
    (3) That claims are processed accurately, and in a timely manner;
    (4) That funds and property are used, and expenses incurred, for 
authorized Program purposes; and
    (5) That a system of safeguards and controls is in place to prevent 
and detect improper financial activities by employees;
    (C) Recordkeeping. Maintains appropriate records to document 
compliance with Program requirements, including budgets, approved 
budget amendments, and, if applicable, management plans and appropriate 
records on facility operations;
    (D) Sponsoring organization operations. A sponsoring organization 
must document in its management plan that it will:
    (1) Provide adequate and regular training of sponsoring 
organization staff and sponsored facilities in accordance with 
Secs. 226.15(e)(13) and 226.16(d);
    (2) Perform monitoring in accordance with Sec. 226.16(d), to ensure 
that sponsored facilities accountably and appropriately operate the 
Program;
    (3) If applicable, accurately classify day care homes as tier I or 
tier II in accordance with Sec. 226.15(f); and
    (4) Have a system in place to ensure that administrative costs 
funded from Program reimbursements do not exceed regulatory limits set 
forth at Secs. 226.12(a) and 226.16(b)(1); and
    (E) Facility level operations. All independent centers and 
sponsored facilities must follow practices which result in the 
operation of the Program in accordance with the meal service, 
recordkeeping, and other operational requirements of this part. These 
practices must be documented in the independent center's application or 
in the sponsoring organization's management plan and must demonstrate 
that independent centers or sponsored facilities will:
    (1) Provide meals that meet the meal patterns set forth in 
Sec. 226.20;
    (2) Comply with licensure or approval requirements set forth in 
paragraph (d) of this section;
    (3) Have a food service that complies with applicable State and 
local health and sanitation requirements;
    (4) Comply with civil rights requirements;
    (5) Maintain complete and appropriate records on file; and
    (6) Claim reimbursement only for eligible meals.
    (c) Denial of applications and termination of agreements. (1) 
Denial of a new institution's application.
    (i) General. If a new institution's application does not meet all 
of the requirements in paragraph (b) of this section and in 
Secs. 226.15(b) and 226.16(b), the State agency must deny the 
application. If, in reviewing a new institution's application, the 
State agency determines that the institution has committed one or more 
serious deficiency listed in paragraph (c)(1)(ii) of this section, the 
State agency must initiate action to:
    (A) Deny the new institution's application; and
    (B) Disqualify the new institution and the responsible principals 
and responsible individuals (e.g., the person who signs the 
application).
    (ii) List of serious deficiencies for new institutions. The list of 
serious deficiencies is not identical for each category of institution 
(new, renewing, participating) because the type of information likely 
to be available to the State agency is different, depending on whether 
the State agency is reviewing a new or renewing institution's 
application or is conducting a review of a participating institution. 
Serious deficiencies for new institutions are:
    (A) Submission of false information on the institution's 
application, including but not limited to a determination that the 
institution has concealed a conviction for any activity that occurred 
during the past seven years and that indicates a lack of business 
integrity. A lack of business integrity includes fraud, antitrust 
violations, embezzlement, theft, forgery, bribery, falsification or 
destruction of records, making false statements, receiving stolen 
property, making false claims, obstruction of justice, or any other 
activity indicating a lack of business integrity as defined by the 
State agency; or
    (B) Any other action affecting the institution's ability to 
administer the Program in accordance with Program requirements.
    (iii) Serious deficiency notification procedures for new 
institutions. If the State agency determines that a new institution has 
committed one or more serious deficiency listed in paragraph (c)(1)(ii) 
of this section, the State agency must use the following procedures to 
provide the institution and the responsible principals and responsible 
individuals with notice of the serious deficiency(ies) and an 
opportunity to take corrective action.
    (A) Notice of serious deficiency. The State agency must notify the 
institution's executive director and chairman of the board of directors 
that the institution has been determined to be seriously deficient. The 
notice must identify the responsible principals and responsible 
individuals (e.g., for new

[[Page 43480]]

institutions, the person who signed the application) and must be sent 
to those persons as well. The State agency may specify in the notice 
different corrective action, and time periods for completing the 
corrective action, for the institution and the responsible principals 
and responsible individuals. At the same time the notice is issued, the 
State agency must add the institution to the State agency list, along 
with the basis for the serious deficiency determination, and provide a 
copy of the notice to the appropriate FNSRO. The notice must also 
specify:
    (1) The serious deficiency(ies);
    (2) The actions to be taken to correct the serious deficiency(ies);
    (3) The time allotted to correct the serious deficiency(ies) in 
accordance with paragraph (c)(4) of this section.
    (4) That the serious deficiency determination is not subject to 
administrative review;
    (5) That failure to fully and permanently correct the serious 
deficiency(ies) within the allotted time will result in denial of the 
institution's application and the disqualification of the institution 
and the responsible principals and responsible individuals; and
    (6) That the State agency will not pay any claims for reimbursement 
for eligible meals served or allowable administrative expenses incurred 
until the State agency has approved the institution's application and 
the institution has signed a Program agreement.
    (B) Successful corrective action.
    (1) If corrective action has been taken to fully and permanently 
correct the serious deficiency(ies) within the allotted time and to the 
State agency's satisfaction, the State agency must:
    (i) notify the institution's executive director and chairman of the 
board of directors, and the responsible principals and responsible 
individuals, that the State agency has rescinded its serious deficiency 
determination; and
    (ii) offer the new institution the opportunity to resubmit its 
application. If the new institution resubmits its application, the 
State agency must complete its review of the application within 30 days 
after receiving a complete and correct application.
    (2) If corrective action is complete for the institution but not 
for all of the responsible principals and responsible individuals (or 
vice versa), the State agency must:
    (i) continue with the actions (as set forth in paragraph 
(c)(1)(iii)(C) of this section) against the remaining parties;
    (ii) at the same time the notice is issued, the State agency must 
also update the State agency list to indicate that the serious 
deficiency(ies) has(ve) been corrected and provide a copy of the notice 
to the appropriate FNSRO; and
    (iii) if the new institution has corrected the serious 
deficiency(ies), offer it the opportunity to resubmit its application. 
If the new institution resubmits its application, the State agency must 
complete its review of the application within 30 days after receiving a 
complete and correct application.
    (C) Application denial and proposed disqualification. If timely 
corrective action is not taken to fully and permanently correct the 
serious deficiency(ies), the State agency must notify the institution's 
executive director and chairman of the board of directors, and the 
responsible principals and responsible individuals, that the 
institution's application has been denied. At the same time the notice 
is issued, the State agency must also update the State agency list and 
provide a copy of the notice to the appropriate FNSRO. The notice must 
also specify:
    (1) That the institution's application has been denied and the 
State agency is proposing to disqualify the institution and the 
responsible principals and responsible individuals;
    (2) The basis for the actions; and
    (3) The procedures for seeking an administrative review (in 
accordance with paragraph (k) of this section) of the application 
denial and proposed disqualifications.
    (D) Program payments. The State agency is prohibited from paying 
any claims for reimbursement from a new institution for eligible meals 
served or allowable administrative expenses incurred until the State 
agency has approved its application and the institution and State 
agency have signed a Program agreement.
    (E) Disqualification. When the time for requesting an 
administrative review expires or when the administrative review 
official upholds the State agency's denial and proposed 
disqualifications, the State agency must notify the institution's 
executive director and chairman of the board of directors, and the 
responsible principals and responsible individuals that the institution 
and the responsible principal and responsible individuals have been 
disqualified. At the same time the notice is issued, the State agency 
must also update the State agency list and provide a copy of the notice 
and the mailing address and date of birth for each responsible 
principal and responsible individual to the appropriate FNSRO.
    (2) Denial of a renewing institution's application.
    (i) General. If a renewing institution's application does not meet 
all of the requirements in paragraph (b) of this section and in 
Secs. 226.15(b) and 226.16(b), the State agency must deny the 
application. If, in reviewing a renewing institution's application, the 
State agency determines that the institution has committed one or more 
serious deficiency listed in paragraph (c)(2)(ii) of this section, the 
State agency must initiate action to deny the renewing institution's 
application and initiate action to disqualify the renewing institution 
and the responsible principals and responsible individuals.
    (ii) List of serious deficiencies for renewing institutions. The 
list of serious deficiencies is not identical for each category of 
institution (new, renewing, participating) because the type of 
information likely to be available to the State agency is different, 
depending on whether the State agency is reviewing a new or renewing 
institution's application or is conducting a review of a participating 
institution. Serious deficiencies for renewing institutions are:
    (A) Submission of false information on the institution's 
application, including but not limited to a determination that the 
institution has concealed a conviction for any activity that occurred 
during the past seven years and that indicates a lack of business 
integrity. A lack of business integrity includes fraud, antitrust 
violations, embezzlement, theft, forgery, bribery, falsification or 
destruction of records, making false statements, receiving stolen 
property, making false claims, obstruction of justice, or any other 
activity indicating a lack of business integrity as defined by the 
State agency;
    (B) Failure to operate the Program in conformance with the 
performance standards set forth in paragraph (b)(18) of this section;
    (C) Failure to comply with the bid procedures and contract 
requirements of applicable Federal procurement regulations;
    (D) Use of a food service management company that is in violation 
of health codes;
    (E) Failure by a sponsoring organization of day care homes to 
properly classify day care homes as tier I or tier II in accordance 
with Sec. 226.15(f);
    (F) Failure by a sponsoring organization to properly train or 
monitor sponsored facilities in accordance with Sec. 226.16(d);

[[Page 43481]]

    (G) Failure to perform any of the other financial and 
administrative responsibilities required by this part;
    (H) Failure to properly implement and administer the day care home 
termination and administrative review provisions set forth at paragraph 
(l) of this section and Sec. 226.16(l); or
    (I) any other action affecting the institution's ability to 
administer the Program in accordance with Program requirements.
    (iii) Serious deficiency notification procedures for renewing 
institutions. If the State agency determines that a renewing 
institution has committed one or more serious deficiency listed in 
paragraph (c)(2)(ii) of this section, the State agency must use the 
following procedures to provide the institution and the responsible 
principals and responsible individuals notice of the serious 
deficiency(ies) and an opportunity to take corrective action.
    (A) Notice of serious deficiency. The State agency must notify the 
institution's executive director and chairman of the board of directors 
that the institution has been determined to be seriously deficient. The 
notice must identify the responsible principals and responsible 
individuals and must be sent to those persons as well. The State agency 
may specify in the notice different corrective action, and time periods 
for completing the corrective action, for the institution and the 
responsible principals and responsible individuals. At the same time 
the notice is issued, the State agency must add the institution to the 
State agency list, along with the basis for the serious deficiency 
determination, and provide a copy of the notice to the appropriate 
FNSRO. The notice must also specify:
    (1) The serious deficiency(ies);
    (2) The actions to be taken to correct the serious deficiency(ies);
    (3) The time allotted to correct the serious deficiency(ies) in 
accordance with paragraph (c)(4) of this section;
    (4) That the serious deficiency determination is not subject to 
administrative review.
    (5) That failure to fully and permanently correct the serious 
deficiency(ies) within the allotted time will result in the State 
agency's denial of the institution's application, the proposed 
termination of the institution's agreement (if the State agency has 
temporarily extended the agreement pursuant to paragraph (c)(2)(iii)(D) 
of this section) and the proposed disqualification of the institution 
and the responsible principals and responsible individuals; and
    (6) That the institution's voluntary termination of its agreement 
with the State agency after having been notified that it is seriously 
deficient will still result in the instituion's formal termination by 
the State agency and placement of the institution and its responsible 
principals and responsible individuals on the National disqualified 
list.
    (B) Successful corrective action.
    (1) If corrective action has been taken to fully and permanently 
correct the serious deficiency(ies) within the allotted time and to the 
State agency's satisfaction, the State agency must:
    (i) Notify the institution's executive director and chairman of the 
board of directors, and the responsible principals and responsible 
individuals, that the State agency has rescinded its serious deficiency 
determination; and
    (ii) Offer the renewing institution the opportunity to resubmit its 
application. If the renewing institution resubmits its application, the 
State agency must complete its review of the application within 30 days 
after receiving a complete and correct application.
    (2) If corrective action is complete for the institution but not 
for all of the responsible principals and responsible individuals (or 
vice versa), the State agency must:
    (i) continue with the actions (as set forth in paragraph 
(c)(2)(iii)(C) of this section) against the remaining parties;
    (ii) at the same time the notice is issued, the State agency must 
also update the State agency list to indicate that the serious 
deficiency(ies) has(ve) been corrected and provide a copy of the notice 
to the appropriate FNSRO; and
    (iii) if the renewing institution has corrected the serious 
deficiency(ies), offer it the opportunity to resubmit its application. 
If the renewing institution resubmits its application, the State agency 
must complete its review of the application within 30 days after 
receiving a complete and correct application.
    (C) Application denial and proposed disqualification. If timely 
corrective action is not taken to fully and permanently correct the 
serious deficiency(ies), the State agency must notify the institution's 
executive director and chairman of the board of directors, and the 
responsible principals and responsible individuals, that the 
institution's application has been denied. At the same time the notice 
is issued, the State agency must update the State agency list and 
provide a copy of the notice to the appropriate FNSRO. The notice must 
also specify:
    (1) That the institution's application has been denied and the 
State agency is proposing to terminate the institution's temporarily-
extended agreement and to disqualify the institution and the 
responsible principals and responsible individuals;
    (2) The basis for the actions;
    (3) That, if the institution voluntarily terminates its agreement 
after receiving the notice of the proposed termination, the institution 
and the responsible principals and responsible individuals will be 
disqualified;
    (4) The procedures for seeking an administrative review (in 
accordance with paragraph (k) of this section) of the application 
denial and proposed disqualifications; and
    (5) That the institution may continue to participate in the Program 
and receive Program reimbursement for eligible meals served and 
allowable administrative costs incurred until its administrative review 
is completed.
    (D) Program payments and extended agreement. If the renewing 
institution's agreement expires before the end of the time allotted for 
corrective action, and/or the conclusion of any administrative review 
requested by the renewing institution:
    (1) The State agency must temporarily extend its current agreement 
with the renewing institution and continue to pay any valid unpaid 
claims for reimbursement for eligible meals served and allowable 
administrative expenses incurred; and
    (2) The actions set forth in paragraph (c)(2)(iii)(D)(1) of this 
section must be taken either until the serious deficiency(ies) is 
corrected or until the institution's agreement is terminated, including 
the period of any administrative review;
    (E) Agreement termination and disqualification. When the time for 
requesting an administrative review expires or when the administrative 
review official upholds the State agency's denial of the institution's 
application, the proposed termination, and the proposed 
disqualifications, the State agency must:
    (1) Notify the institution's executive director and chairman of the 
board of directors, and the responsible principals and responsible 
individuals, that the temporarily-extended agreement has been 
terminated and that the institution and the responsible principals and 
responsible individuals have been disqualified;
    (2) Update the State agency list at the time such notice is issued; 
and
    (3) Provide a copy of the notice and the mailing address and date 
of birth for each responsible principal and responsible individual to 
the appropriate FNSRO.

[[Page 43482]]

    (3) Termination of a participating institution's agreement. (i) 
General. If the State agency holds an agreement with an institution 
operating in more than one State that has been disqualified from the 
Program by another State agency and placed on the National disqualified 
list, the State agency must terminate the institution's agreement 
effective no later than 45 days of the date of the institution's 
disqualification by the other State agency. At the same time the notice 
of termination is issued, the State agency must add the institution to 
the State agency list and indicate that the institution's agreement has 
been terminated and provide a copy of the notice to the appropriate 
FNSRO. If the State agency determines that a participating institution 
has committed one or more serious deficiency listed in paragraph 
(c)(3)(ii) of this section, the State agency must initiate action to 
terminate the agreement of a participating institution and initiate 
action to disqualify the institution and any responsible principals and 
responsible individuals.
    (ii) List of serious deficiencies for participating institutions. 
The list of serious deficiencies is not identical for each category of 
institution (new, renewing, participating) because the type of 
information likely to be available to the State agency is different, 
depending on whether the State agency is reviewing a new or renewing 
institution's application or is conducting a review of a participating 
institution. Serious deficiencies for participating institutions are:
    (A) Submission of false information on the institution's 
application, including but not limited to a determination that the 
institution has concealed a conviction for any activity that occurred 
during the past seven years and that indicates a lack of business 
integrity. A lack of business integrity includes fraud, antitrust 
violations, embezzlement, theft, forgery, bribery, falsification or 
destruction of records, making false statements, receiving stolen 
property, making false claims, obstruction of justice, or any other 
activity indicating a lack of business integrity as defined by the 
State agency;
    (B) Permitting an individual who is on the National disqualified 
list to serve in a principal capacity with the institution or, if a 
sponsoring organization, permitting such an individual to serve as a 
principal in a sponsored center or as a day care home;
    (C) Failure to operate the Program in conformance with the 
performance standards set forth in paragraph (b)(18) of this section;
    (D) Failure to comply with the bid procedures and contract 
requirements of applicable Federal procurement regulations;
    (E) Failure to return to the State agency any advance payments that 
exceeded the amount earned for serving eligible meals, or failure to 
return disallowed start-up or expansion payments;
    (F) Failure to maintain adequate records;
    (G) Failure to adjust meal orders to conform to variations in the 
number of participants;
    (H) Claiming reimbursement for meals not served to participants;
    (I) Claiming reimbursement for a significant number of meals that 
do not meet Program requirements;
    (J) Use of a food service management company that is in violation 
of health codes;
    (K) Failure of a sponsoring organization to disburse payments to 
its facilities in accordance with the regulations at Sec. 226.16(g) and 
(h) or in accordance with its management plan;
    (L) Claiming reimbursement for meals served by a proprietary title 
XX child care center during a calendar month in which less than 25 
percent of its enrolled children, or 25 percent of its licensed 
capacity, whichever is less, were title XX beneficiaries;
    (M) Claiming reimbursement for meals served by a proprietary title 
XIX or title XX adult day care center during a calendar month in which 
less than 25 percent of its enrolled adult participants were title XIX 
or title XX beneficiaries;
    (N) Failure by a sponsoring organization of day care homes to 
properly classify day care homes as tier I or tier II in accordance 
with Sec. 226.15(f);
    (O) Failure by a sponsoring organization to properly train or 
monitor sponsored facilities in accordance with Sec. 226.16(d);
    (P) Use of day care home funds by a sponsoring organization to pay 
for the sponsoring organization's administrative expenses;
    (Q) Failure to perform any of the other financial and 
administrative responsibilities required by this part;
    (R) Failure to properly implement and administer the day care home 
termination and administrative review provisions set forth at paragraph 
(l) of this section and Sec. 226.16(l);
    (S) The fact the institution or any of the institution's principals 
have been declared ineligible for any other publicly funded program by 
reason of violating that program's requirements. However, this 
prohibition does not apply if the institution or the principal has been 
fully reinstated in, or is now eligible to participate in, that 
program, including the payment of any debts owed;
    (T) Conviction of the institution or any of its principals for any 
activity that occurred during the past seven years and that indicates a 
lack of business integrity. A lack of business integrity includes 
fraud, antitrust violations, embezzlement, theft, forgery, bribery, 
falsification or destruction of records, making false statements, 
receiving stolen property, making false claims, obstruction of justice, 
or any other activity indicating a lack of business integrity as 
defined by the State agency; or
    (U) Any other action affecting the institution's ability to 
administer the Program in accordance with Program requirements.
    (iii) Serious deficiency notification procedures for participating 
institutions. If the State agency determines that a participating 
institution has committed one or more serious deficiency listed in 
paragraph (c)(3)(ii) of this section, the State agency must use the 
following procedures to provide the institution and the responsible 
principals and responsible individuals notice of the serious 
deficiency(ies) and an opportunity to take corrective action. However, 
if the serious deficiency(ies) constitutes an imminent threat to the 
health or safety of participants, or the institution has engaged in 
activities that threaten the public health or safety, the State agency 
must follow the procedures in paragraph (c)(5)(i) of this section 
instead of the procedures below. Further, if the serious deficiency is 
the submission of a false or fraudulent claim, in addition to the 
procedures below, the State agency may suspend the institution's 
participation in accordance with paragraph (c)(5)(ii) of this section.
    (A) Notice of serious deficiency. The State agency must notify the 
institution's executive director and chairman of the board of directors 
that the institution has been determined seriously deficient. The 
notice must identify the responsible principals and responsible 
individuals and must be sent to those persons as well. The State agency 
may specify in the notice different corrective action and time periods 
for completing the corrective action for the institution and the 
responsible principals and responsible individuals. At the same time 
the notice is issued, the State agency must add the institution to the 
State agency list, along with the basis for the serious deficiency 
determination, and provide a copy of

[[Page 43483]]

the notice to the appropriate FNSRO. The notice must also specify:
    (1) The serious deficiency(ies);
    (2) The actions to be taken to correct the serious deficiency(ies);
    (3) The time allotted to correct the serious deficiency(ies) in 
accordance with paragraph (c)(4) of this section;
    (4) That the serious deficiency determination is not subject to 
administrative review.
    (5) That failure to fully and permanently correct the serious 
deficiency(ies) within the allotted time will result in the State 
agency's proposed termination of the institution's agreement and the 
proposed disqualification of the institution and the responsible 
principals and responsible individuals; and
    (6) That the institution's voluntary termination of its agreement 
with the State agency after having been notified that it is seriously 
deficient will still result in the instituion's formal termination by 
the State agency and placement of the institution and its responsible 
principals and responsible individuals on the National disqualified 
list.
    (B) Successful corrective action.
    (1) If corrective action has been taken to fully and permanently 
correct the serious deficiency(ies) within the allotted time and to the 
State agency's satisfaction, the State agency must:
    (i) Notify the institution's executive director and chairman of the 
board of directors, and the responsible principals and responsible 
individuals, that the State agency has rescinded its serious deficiency 
determination; and
    (ii) Offer the renewing institution the opportunity to resubmit its 
application. If the renewing institution resubmits its application, the 
State agency must complete its review of the application within 30 days 
after receiving a complete and correct application.
    (2) If corrective action is complete for the institution but not 
for all of the responsible principals and responsible individuals (or 
vice versa), the State agency must:
    (i) Continue with the actions (as set forth in paragraph 
(c)(3)(iii)(C) of this section) against the remaining parties;
    (ii) At the same time the notice is issued, the State agency must 
also update the State agency list to indicate that the serious 
deficiency(ies) has(ve) been corrected and provide a copy of the notice 
to the appropriate FNSRO; and
    (iii) If the renewing institution has corrected the serious 
deficiency(ies), offer it the opportunity to resubmit its application. 
If the renewing institution resubmits its application, the State agency 
must complete its review of the application within 30 days after 
receiving a complete and correct application.
    (C) Proposed termination and proposed disqualification. If timely 
corrective action is not taken to fully and permanently correct the 
serious deficiency(ies), the State agency must notify the institution's 
executive director and chairman of the board of directors, and the 
responsible principals and responsible individuals, that the State 
agency is proposing to terminate the institution's agreement and to 
disqualify the institution and the responsible principals and 
responsible individuals. At the same time the notice is issued, the 
State agency must also update the State agency list and provide a copy 
of the notice to the appropriate FNSRO. The notice must also specify:
    (1) That the State agency is proposing to terminate the 
institution's agreement and to disqualify the institution and the 
responsible principals and responsible individuals;
    (2) The basis for the actions;
    (3) That, if the institution voluntarily terminates its agreement 
after receiving the notice of proposed termination, the institution and 
the responsible principals and responsible individuals will be 
disqualified.
    (4) The procedures for seeking an administrative review (in 
accordance with paragraph (k) of this section) of the application 
denial and proposed disqualifications; and
    (5) That, unless participation has been suspended, the institution 
may continue to participate and receive Program reimbursement for 
eligible meals served and allowable administrative costs incurred until 
its administrative review is completed.
    (D) Program payments. Unless participation has been suspended, the 
State agency must continue to pay any valid unpaid claims for 
reimbursement for eligible meals served and allowable administrative 
expenses incurred until the serious deficiency(ies) is corrected or the 
institution's agreement is terminated, including the period of any 
administrative review.
    (E) Agreement termination and disqualification. When the time for 
requesting an administrative review expires or when the administrative 
review official upholds the State agency's proposed termination and 
disqualifications, the State agency must:
    (1) Notify the institution's executive director and chairman of the 
board of directors, and the responsible principals and responsible 
individuals, that the institution's agreement has been terminated and 
that the institution and the responsible principals and responsible 
individuals have been disqualified;
    (2) Update the State agency list at the time such notice is issued; 
and
    (3) Provide a copy of the notice and the mailing address and date 
of birth for each responsible principal and responsible individual to 
the appropriate FNSRO.
    (4) Corrective action timeframes.
    (i) General. Except as noted in this paragraph (c)(4), the State 
agency is prohibited from allowing more than 90 days for corrective 
action from the date the institution receives the serious deficiency 
notice.
    (ii) Unlawful practices. If the State agency determines that the 
institution has engaged in unlawful practices, submitted false or 
fraudulent claims or other information to the State agency, or been 
convicted of or concealed a criminal background, the State agency is 
prohibited from allowing more than 30 days for corrective action.
    (iii) Long-term changes. For serious deficiencies requiring the 
long-term revision of management systems or processes, the State agency 
may permit more than 90 days to complete the corrective action as long 
as a corrective action plan is submitted to and approved by the State 
agency within 90 days (or such shorter deadline as the State agency may 
establish). The corrective action must include milestones and a 
definite completion date that the State agency will monitor. The 
determination of serious deficiency will remain in effect until the 
State agency determines that the serious deficiency(ies) has(ve) been 
fully and permanently corrected within the allotted time.
    (5) Suspension of an institution's participation. A State agency is 
prohibited from suspending an institution's participation (including 
all Program payments) except for the reasons set forth in this 
paragraph (c)(5).
    (i) Public health or safety.
    (A) General. If State or local health or licensing officials have 
cited an institution for serious health or safety violations, the State 
agency must immediately suspend the institution's Program 
participation, initiate action to terminate the institution's 
agreement, and initiate action to disqualify the institution and the 
responsible principals and responsible individuals prior to any formal 
action to revoke the institution's licensure or approval. If the State 
agency determines that there is an imminent threat to the health or 
safety of participants at an institution, or that the institution has 
engaged in activities that threaten the public health or safety,

[[Page 43484]]

the State agency must immediately notify the appropriate State or local 
licensing and health authorities and take action that is consistent 
with the recommendations and requirements of those authorities. An 
imminent threat to the health or safety of participants and engaging in 
activities that threaten the public health or safety constitute serious 
deficiencies; however, the State agency must use the procedures in this 
paragraph (c)(5)(i) (instead of the procedures in paragraph (c)(3) of 
this section) to provide the institution notice of the suspension of 
participation, serious deficiency, proposed termination of the 
institution's agreement, and proposed disqualification of the 
responsible principals and responsible individuals.
    (B) Notice of suspension, serious deficiency, proposed termination, 
and proposed disqualification. The State agency must notify the 
institution's executive director and chairman of the board of directors 
that the institution's participation (including Program payments) has 
been suspended, that the institution has been determined to be 
seriously deficient, and that the State agency proposes to terminate 
the institution's agreement and to disqualify the institution and the 
responsible principals and responsible individuals. The notice must 
also identify the responsible principals and responsible individuals 
and must be sent to those persons as well. At the same time this notice 
is sent, the State agency must add the institution and the responsible 
principals and responsible individuals to the State agency list, along 
with the basis for the serious deficiency determination and provide a 
copy of the notice to the appropriate FNSRO. The notice must also 
specify:
    (1) That the State agency is suspending the institution's 
participation (including Program payments), proposing to terminate the 
institution's agreement, and proposing to disqualify the institution 
and the responsible principals and responsible individuals;
    (2) The serious deficiency(ies);
    (3) That, if the institution voluntary terminates its agreement 
with the State agency after having been notified of the proposed 
termination, the institution and the responsible principals and 
responsible individuals will be disqualified;
    (4) That the serious deficiency determination is not subject to 
administrative review;
    (5) The procedures for seeking an administrative review (consistent 
with paragraph (k) of this section) of the suspension, proposed 
termination, and proposed disqualifications; and
    (6) That, if the administrative review official overturns the 
suspension, the institution may claim reimbursement for eligible meals 
served and allowable administrative costs incurred during the 
suspension period.
    (C) Agreement termination and disqualification. When the time for 
requesting an administrative review expires or when the administrative 
review official upholds the State agency's proposed termination and 
disqualifications, the State agency must:
    (1) Notify the institution's executive director and chairman of the 
board of directors, and the responsible principals and responsible 
individuals, that the institution's agreement has been terminated and 
that the institution and the responsible principals and responsible 
individuals have been disqualified;
    (2) update the State agency list at the time such notice is issued; 
and
    (3) provide a copy of the notice and the mailing address and date 
of birth for each responsible principal and responsible individual to 
the appropriate FNSRO.
    (D) Program payments. The State agency is prohibited from paying 
any claims for reimbursement from a suspended institution. However, if 
the suspended institution prevails in the administrative review of the 
proposed termination, the State agency must pay any claims for 
reimbursement for eligible meals served and allowable administrative 
costs incurred during the suspension period.
    (ii) False or fraudulent claims.
    (A) General. If the State agency determines that an institution has 
knowingly submitted a false or fraudulent claim, the State agency may 
initiate action to suspend the institution's participation and must 
initiate action to terminate the institution's agreement and initiate 
action to disqualify the institution and the responsible principals and 
responsible individuals (in accordance with paragraph (c)(3) of this 
section). The submission of a false or fraudulent claim constitutes a 
serious deficiency as set forth in paragraph (c)(3)(ii) of this 
section, which lists serious deficiencies for participating 
institutions. If the State agency wishes to suspend the institution's 
participation, it must use the following procedures to issue the notice 
of proposed suspension of participation at the same time it issues the 
serious deficiency notice, which must include the information described 
in paragraph (c)(3)(iii)(A) of this section.
    (B) Proposed suspension of participation. If the State agency 
decides to propose to suspend an institution's participation due to the 
institution's submission of a false or fraudulent claim, it must notify 
the institution's executive director and chairman of the board of 
directors that the State agency intends to suspend the institution's 
participation (including all Program payments) unless the institution 
requests a review of the proposed suspension. At the same time the 
notice is issued, the State agency must also update the State agency 
list and provide a copy of the notice to the appropriate FNSRO. The 
notice must identify the responsible principals and responsible 
individuals and must be sent to those persons as well. The notice must 
also specify:
    (1) That the State agency is proposing to suspend the institution's 
participation;
    (2) That the proposed suspension is based on the institution's 
submission of a false or fraudulent claim, as described in the serious 
deficiency notice;
    (3) The effective date of the suspension (which may be no earlier 
than 10 days after the institution receives the suspension notice);
    (4) The name, address and telephone number of the suspension review 
official who will conduct the suspension review; and
    (5) That if the institution wishes to have a suspension review, it 
must request a review and submit to the suspension review official 
written documentation opposing the proposed suspension within 10 days 
of the institution's receipt of the notice.
    (C) Suspension review. If the institution requests a review of the 
State agency's proposed suspension of participation, the suspension 
review must be heard by a suspension review official who must:
    (1) Be an independent and impartial person other than, and not 
accountable to, any person involved in the decision to initiate 
suspension proceedings;
    (2) Immediately notify the State agency that the institution has 
contested the proposed suspension and must obtain from the State agency 
its notice of proposed suspension of participation, along with all 
supporting documentation; and
    (3) Render a decision on suspension of participation within 10 days 
of the deadline for receiving the institution's documentation opposing 
the proposed suspension.
    (D) Suspension review decision. If the suspension review official 
determines that the State agency's proposed suspension is not 
appropriate, the State

[[Page 43485]]

agency is prohibited from suspending participation. If the suspension 
review official determines, based on a preponderance of the evidence, 
that the State agency's action was appropriate, the State agency must 
suspend the institution's participation (including all Program 
payments), effective on the date of the suspension review decision. The 
State agency must notify the institution's executive director and 
chairman of the board of directors, and the responsible principals and 
responsible individuals, that the institution's participation has been 
suspended. At the same time the notice is issued, the State agency must 
also update the State agency list and provide a copy of the notice to 
the appropriate FNSRO. The notice must also specify:
    (1) That the State agency is suspending the institution's 
participation (including Program payments);
    (2) The effective date of the suspension (the date of the 
suspension review decision);
    (3) The procedures for seeking an administrative review (in 
accordance with paragraph (k) of this section) of the suspension; and
    (4) That if the administrative review official overturns the 
suspension, the institution may claim reimbursement for eligible meals 
served and allowable administrative costs incurred during the 
suspension period.
    (E) Program payments. A State agency is prohibited from paying any 
claims for reimbursement submitted by a suspended institution. However, 
if the institution suspended for the submission of false or fraudulent 
claims is a sponsoring organization, the State agency must ensure that 
sponsored facilities continue to receive reimbursement for eligible 
meals served during the suspension period. If the suspended institution 
prevails in the administrative review of the proposed termination, the 
State agency must pay any valid unpaid claims for reimbursement for 
eligible meals served and allowable administrative costs incurred 
during the suspension period.
    (F) Maximum time for suspension. Under no circumstances may the 
suspension of participation remain in effect for more than 120 days 
following the suspension review decision.
    (6) FNS determination of serious deficiency. (i) General. FNS may 
determine independently that a participating institution has committed 
one or more serious deficiency listed in paragraph (c)(3)(ii) of this 
section, which lists serious deficiencies for participating 
institutions.
    (ii) Serious deficiency notification procedures. If FNS determines 
that an institution has committed one or more serious deficiency listed 
in paragraph (c)(3)(ii) of this section (the list of serious 
deficiencies for participating institutions), FNS will use the 
following procedures to provide the institution and the responsible 
principals and responsible individuals with notice of the serious 
deficiency(ies) and an opportunity to take corrective action.
    (A) Notice of serious deficiency. FNS will notify the institution's 
executive director and chairman of the board of directors that the 
institution has been found to be seriously deficient. The notice will 
identify the responsible principals and responsible individuals and 
will be sent to them as well. FNS may specify in the notice different 
corrective action and time periods for completing the corrective 
action, for the institution and the responsible principals and 
responsible individuals. The notice will also specify:
    (1) The serious deficiency(ies);
    (2) The actions to be taken to correct the serious deficiency(ies);
    (3) The time allotted to correct the serious deficiency(ies) in 
accordance with paragraph (c)(4) of this section;
    (4) That failure to fully and permanently correct the serious 
deficiency(ies) within the allotted time, or the institution's 
voluntary termination of its agreement(s) with any State agency after 
having been notified that it is seriously deficient, will result in the 
proposed disqualification of the institution and the responsible 
principals and responsible individuals and the termination of its 
agreement(s) with all State agencies; and
    (5) That the serious deficiency determination is not subject to 
administrative review.
    (B) Suspension of participation. If FNS determines that there is an 
imminent threat to the health or safety of participants at an 
institution, or that the institution has engaged in activities that 
threaten the public health or safety, any State agency that holds an 
agreement with the institution must suspend the participation of the 
institution. If FNS determines that the institution has submitted a 
false or fraudulent claim, it may require any State agency that holds 
an agreement with the institution to initiate action to suspend the 
institution's participation for false or fraudulent claims in 
accordance with paragraph (c)(5)(ii) of this section (which deals with 
an institution's suspension by a State agency for submission of false 
or fraudulent claims). In both cases, FNS will provide the State agency 
the information necessary to support these actions and, in the case of 
a false and fraudulent claim, will provide an individual to serve as 
the suspension review official if requested by the State agency.
    (C) Successful corrective action.
    (1) If corrective action has been taken to fully and permanently 
correct the serious deficiency(ies) within the allotted time and to 
FNS's satisfaction, FNS will notify the institution's executive 
director and chairman of the board of directors, and the responsible 
principals and responsible individuals, that it has rescinded its 
serious deficiency determination; and
    (2) If corrective action is complete for the institution but not 
for all of the responsible principals and responsible individuals (or 
vice versa), FNS will continue with the actions (as set forth in 
paragraph (c)(6)(ii)(D) of this section) against the remaining parties.
    (D) Proposed disqualification. If timely corrective action is not 
taken to fully and permanently correct the serious deficiency(ies), FNS 
will notify the institution's executive director and chairman of the 
board of directors, and the responsible principals and responsible 
individuals, that FNS is proposing to disqualify them. The notice will 
also specify:
    (1) That FNS is proposing to disqualify the institution and the 
responsible principals and responsible individuals;
    (2) The basis for the actions;
    (3) That, if the institution seeks to voluntarily terminate its 
agreement after receiving the notice of proposed disqualification, the 
institution and the responsible principals and responsible individuals 
will be disqualified;
    (4) The procedures for seeking an administrative review (in 
accordance with paragraph (k) of this section) of the proposed 
disqualifications;
    (5) That unless participation has been suspended, the institution 
may continue to participate and receive Program reimbursement for 
eligible meals served and allowable administrative costs incurred until 
its administrative review is completed; and
    (6) That if the institution does not prevail in the administrative 
review, any State agency holding an agreement with the institution will 
be required to terminate that agreement and the institution is 
prohibited from seeking an administrative review of the termination of 
the agreement by the State agency(ies).
    (E) Disqualification. When the time for requesting an 
administrative review expires or when the administrative review 
official upholds FNS's proposed

[[Page 43486]]

disqualifications, FNS will notify the institution's executive director 
and chairman of the board of directors, and the responsible principals 
and responsible individuals, that the institution and the responsible 
principal or responsible individual have been disqualified.
    (F) Program payments. If the State agency holds an agreement with 
an institution that FNS has determined to be seriously deficient, the 
State agency must continue to pay any valid unpaid claims for 
reimbursement for eligible meals served and allowable administrative 
expenses incurred until the serious deficiency(ies) is corrected or the 
State agency terminates the institution's agreement, including the 
period of any administrative review, unless participation has been 
suspended.
    (G) Required State agency action. (1) Disqualified institutions. If 
the State agency holds an agreement with an institution that FNS 
determines to be seriously deficient and subsequently disqualifies, the 
State agency must terminate the institution's agreement effective no 
later than 45 days after the date of the institution's disqualification 
by FNS. As noted in paragraph (k)(3)(iv) of this section, the 
termination is not subject to administrative review. At the same time 
the notice of termination is issued, the State agency must add the 
institution to the State agency list and provide a copy of the notice 
to the appropriate FNSRO.
    (2) Disqualified principals. If the State agency holds an agreement 
with an institution whose principal FNS determines to be seriously 
deficient and subsequently disqualifies, the State agency must 
determine the institution to be seriously deficient and initiate action 
to terminate and disqualify the institution in accordance with the 
procedures in paragraph (c)(3) of this section. The State agency must 
initiate these actions no later than 45 days after the date of the 
principal's disqualification by FNS.
    (7) National disqualified list.
    (i) Maintenance and availability of list. FNS will maintain the 
National disqualified list and make it available to all State agencies 
and all sponsoring organizations.
    (ii) Effect on institutions. No organization on the National 
disqualified list may participate in the Program as an institution. As 
noted in paragraph (b)(12) of this section, the State agency must deny 
the application of a new or renewing institution if the institution is 
on the National disqualified list. In addition, as noted in paragraphs 
(c)(3)(i) and (c)(6)(ii)(G)(1) of this section, the State agency must 
terminate the agreement of any participating institution that is 
disqualified by another State agency or by FNS.
    (iii) Effect on sponsored centers. No organization on the National 
disqualified list may participate in the Program as a sponsored center. 
As noted in Sec. 226.16(b) and paragraph (b)(12) of this section, a 
sponsoring organization is prohibited from submitting an application on 
behalf of a sponsored facility (and a State agency is prohibited from 
approving such an application) if the facility is on the National 
disqualified list.
    (iv) Effect on individuals. No individual on the National 
disqualified list may serve as a principal in any institution or 
facility or as a day care home provider.
    (A) Principal for an institution or a sponsored facility. As noted 
in paragraph (b)(12) of this section, the State agency must deny the 
application of a new or renewing institution if any of the 
institution's principals is on the National disqualified list. As noted 
in paragraphs (c)(3)(ii)(B) and (c)(6)(ii)(G)(2) of this section, the 
State agency must declare an institution seriously deficient and 
initiate action to terminate the institution's agreement and disqualify 
the institution if the institution permits an individual who is on the 
National disqualified list to serve in a principal capacity for the 
institution or one of its facilities.
    (B) Principal for a sponsored facility. As noted in Sec. 226.16(b) 
and paragraph (b)(12) of this section, a sponsoring organization is 
prohibited from submitting an application on behalf of a sponsored 
facility (or a State agency from approving such an application) if any 
of the facility's principals are on the National disqualified list.
    (C) Serving as a day care home. As noted in Sec. 226.16(b) and 
paragraph (b)(12) of this section, a sponsoring organization is 
prohibited from submitting an application on behalf of a sponsored 
facility (and a State agency is prohibited from approving such an 
application) if the facility is on the National disqualified list.
    (v) Removal of institutions, principals, and individuals from the 
list. Once included on the National disqualified list, an institution 
and responsible principals and responsible individuals remain on the 
list until such time as FNS, in consultation with the appropriate State 
agency, determines that the serious deficiency(ies) that led to their 
placement on the list has(ve) been corrected, or until seven years have 
elapsed since they were disqualified from participation. However, if 
the institution, principal or individual has failed to repay debts owed 
under the Program, they will remain on the list until the debt has been 
repaid.
    (vi) Removal of day care homes from the list. Once included on the 
National disqualified list, a day care home will remain on the list 
until such time as the State agency determines that the serious 
deficiency(ies) that led to its placement on the list has(ve) been 
corrected, or until seven years have elapsed since its agreement was 
terminated for cause. However, if the day care home has failed to repay 
debts owed under the Program, it will remain on the list until the debt 
has been repaid.
    (8) State agency list. (i) Maintenance of the State agency list. 
The State agency must maintain a State agency list (in the form of an 
actual paper or electronic list or retrievable paper records). The list 
must be made available to FNS upon request, and must include the 
following information:
    (A) Institutions determined to be seriously deficient by the State 
agency, including the names and mailing addresses of the institutions 
and the status of the institutions as they move through the possible 
subsequent stages of corrective action, proposed termination, 
suspension, agreement termination, and/or disqualification, as 
applicable;
    (B) Responsible principals and individuals who have been 
disqualified from participation by the State agency, including their 
names, mailing addresses, and dates of birth; and
    (C) Day care home providers whose agreements have been terminated 
for cause by a sponsoring organization in the State, including their 
names, mailing addresses, and dates of birth.
    (ii) Referral of disqualified day care homes to FNS. Within 10 days 
of receiving a notice of termination and disqualification from a 
sponsoring organization, the State agency must provide the appropriate 
FNSRO the name, mailing address, and date of birth of each day care 
home provider whose agreement is terminated for cause on or after July 
29, 2002.
    (iii) Prior lists of disqualified day care homes. If on July 29, 
2002 the State agency maintains a list of day care homes that have been 
disqualified from participation, the State agency may continue to 
prohibit participation by those day care homes. However, the State 
agency must remove a day care home from its prior list no later than 
the time at which the State agency determines that the serious 
deficiency(ies) that led to the day care

[[Page 43487]]

home's placement on the list has(ve) been corrected or July 29, 2009 
(unless the day care home has failed to repay debts owed under the 
Program). If the day care home has failed to repay its debt, the State 
agency may keep the day care home on its prior list until the debt has 
been repaid.
* * * * *
    (f) * * *
    (1) * * * The Program agreement must also notify the institution of 
the right of the State agency, the Department, and other State or 
Federal officials to make announced or unannounced reviews of their 
operations during the institution's normal hours of child or adult care 
operations and that anyone making such reviews must show photo 
identification that demonstrates that they are employees of one of 
these entities.
    (2) * * * The State agency must establish factors, consistent with 
Sec. 226.16(b)(1), that the State agency will consider in determining 
whether a sponsoring organization has sufficient staff to perform 
required monitoring responsibilities at all of its sponsored 
facilities. As part of its review of the management plan, the State 
agency must determine the appropriate level of staffing for each 
sponsoring organization, consistent with the staffing range of monitors 
set forth in Sec. 226.16(b)(1) and the factors it has established. The 
State agency must ensure that each new sponsoring organization applying 
for participation after July 29, 2002 meets this requirement. The State 
agency must ensure that each currently participating sponsoring 
organization meets this requirement no later than July 29, 2003.
    (3) * * * For a sponsoring organization of centers, the State 
agency is prohibited from approving the sponsoring organization's 
administrative budget, or any amendments to the budget, if the 
administrative budget shows that the Program will be charged for 
administrative costs in excess of 15 percent of the meal reimbursements 
estimated to be earned during the budget year. However, the State 
agency may waive this limit if the sponsoring organization provides 
justification that it requires Program funds in excess of 15 percent to 
pay its administrative costs and if the State agency is convinced that 
the institution will have adequate funding to provide meals meeting the 
requirements of Sec. 226.20. The State agency must document all waiver 
approvals and denials in writing, and must provide a copy of all such 
letters to the appropriate FNSRO.
* * * * *
    (k) Administrative reviews for institutions and responsible 
principals and responsible individuals.
    (1) General. The State agency must develop procedures for offering 
administrative reviews to institutions and responsible principals and 
responsible individuals. The procedures must be consistent with 
paragraph (k) of this section.
    (2) Actions subject to administrative review. Except as provided in 
Sec. 226.8(g), the State agency must offer an administrative review for 
the following actions:
    (i) Application denial. Denial of a new or renewing institution's 
application for participation (see paragraph (b) of this section, on 
State agency review of an institution's application; and paragraphs 
(c)(1) and (c)(2) of this section, on State agency denial of a new or 
renewing institution's application);
    (ii) Denial of sponsored facility application. Denial of an 
application submitted by a sponsoring organization on behalf of a 
facility;
    (iii) Notice of proposed termination. Proposed termination of an 
institution's agreement (see paragraphs (c)(2)(iii)(C), (c)(3)(iii)(C), 
and (c)(5)(i)(B) of this section, dealing with proposed termination of 
agreements with renewing institutions, participating institutions, and 
participating institutions suspended for health or safety violations);
    (iv) Notice of proposed disqualification of a responsible principal 
or responsible individual. Proposed disqualification of a responsible 
principal or responsible individual (see paragraphs (c)(1)(iii)(C), 
(c)(2)(iii)(C), (c)(3)(iii)(C), and (c)(5)(i)(B) of this section, 
dealing with proposed disqualification of responsible principals or 
responsible individuals in new, renewing, and participating 
institutions, and participating institutions suspended for health or 
safety violations);
    (v) Suspension of participation. Suspension of an institution's 
participation (see paragraphs (c)(5)(i)(B) and (c)(5)(ii)(D) of this 
section, dealing with suspension for health or safety reasons or 
submission of a false or fraudulent claim);
    (vi) Start-up or expansion funds denial. Denial of an institution's 
application for start-up or expansion payments (see Sec. 226.7(h));
    (vii) Advance denial. Denial of a request for an advance payment 
(see Sec. 226.10(b));
    (viii) Recovery of advances. Recovery of all or part of an advance 
in excess of the claim for the applicable period. The recovery may be 
through a demand for full repayment or an adjustment of subsequent 
payments (see Sec. 226.10(b)(3));
    (ix) Claim denial. Denial of all or a part of an institution's 
claim for reimbursement (except for a denial based on a late submission 
under Sec. 226.10(e)) (see Secs. 226.10(f) and 226.14(a));
    (x) Claim deadline exceptions and requests for upward adjustments 
to a claim. Decision by the State agency not to forward to FNS an 
exception request by an institution for payment of a late claim, or a 
request for an upward adjustment to a claim (see Sec. 226.10(e));
    (xi) Overpayment demand. Demand for the remittance of an 
overpayment (see Sec. 226.14(a)); and
    (xii) Other actions. Any other action of the State agency affecting 
an institution's participation or its claim for reimbursement.
    (3) Actions not subject to administrative review. The State agency 
is prohibited from offering administrative reviews of the following 
actions:
    (i) FNS decisions on claim deadline exceptions and requests for 
upward adjustments to a claim. A decision by FNS to deny an exception 
request by an institution for payment of a late claim, or for an upward 
adjustment to a claim (see Sec. 226.10(e));
    (ii) Determination of serious deficiency. A determination that an 
institution is seriously deficient (see paragraphs (c)(1)(iii)(A), 
(c)(2)(iii)(A), (c)(3)(iii)(A), and (c)(5)(i)(B) of this section, 
dealing with proposed disqualification of responsible principals or 
responsible individuals in new, renewing, and participating 
institutions, and participating institutions suspended for health or 
safety violations);
    (iii) Disqualification and placement on State agency list and 
National disqualified list. Disqualification of an institution or a 
responsible principal or responsible individual, and the subsequent 
placement on the State agency list and the National disqualified list 
(see paragraphs (c)(1)(iii)(E), (c)(2)(iii)(E), (c)(3)(iii)(E), and 
(c)(5)(i)(C) of this section, dealing with proposals to disqualify 
related to new, renewing, and participating institutions, and in 
institutions suspended for health or safety violations); or
    (iv) Termination. Termination of a participating institution's 
agreement, including termination of a participating institution's 
agreement based on the

[[Page 43488]]

disqualification of the institution by another State agency or FNS (see 
paragraphs (c)(3)(i) and (c)(7)(ii) of this section).
    (4) Provision of administrative review procedures to institutions 
and responsible principals and responsible individuals. The State 
agency's administrative review procedures must be provided:
    (i) Annually to all institutions;
    (ii) To an institution and to each responsible principal and 
responsible individual when the State agency takes any action subject 
to an administrative review as described in paragraph (k)(2) of this 
section; and
    (iii) Any other time upon request.
    (5) Procedures. Except as described in paragraph (k)(9) of this 
section, which sets forth the circumstances under which an abbreviated 
administrative review is held, the State agency must follow the 
procedures in this paragraph (k)(5) when an institution or a 
responsible principal or responsible individual appeals any action 
subject to administrative review as described in paragraph (k)(2) of 
this section.
    (i) Notice of action. The institution's executive director and 
chairman of the board of directors, and the responsible principals and 
responsible individuals, must be given notice of the action being taken 
or proposed, the basis for the action, and the procedures under which 
the institution and the responsible principals or responsible 
individuals may request an administrative review of the action.
    (ii) Time to request administrative review. The request for 
administrative review must be submitted in writing not later than 15 
days after the date the notice of action is received, and the State 
agency must acknowledge the receipt of the request for an 
administrative review within 10 days of its receipt of the request.
    (iii) Representation. The institution and the responsible 
principals and responsible individuals may retain legal counsel, or may 
be represented by another person.
    (iv) Review of record. Any information on which the State agency's 
action was based must be available to the institution and the 
responsible principals and responsible individuals for inspection from 
the date of receipt of the request for an administrative review.
    (v) Opposition. The institution and the responsible principals and 
responsible individuals may refute the findings contained in the notice 
of action in person or by submitting written documentation to the 
administrative review official. In order to be considered, written 
documentation must be submitted to the administrative review official 
not later than 30 days after receipt of the notice of action.
    (vi) Hearing. A hearing must be held by the administrative review 
official in addition to, or in lieu of, a review of written information 
only if the institution or the responsible principals and responsible 
individuals request a hearing in the written request for an 
administrative review. If the institution's representative, or the 
responsible principals or responsible individuals or their 
representative, fail to appear at a scheduled hearing, they waive the 
right to a personal appearance before the administrative review 
official, unless the administrative review official agrees to 
reschedule the hearing. A representative of the State agency must be 
allowed to attend the hearing to respond to the testimony of the 
institution and the responsible principals and responsible individuals 
and to answer questions posed by the administrative review official. If 
a hearing is requested, the institution, the responsible principals and 
responsible individuals, and the State agency must be provided with at 
least 10 days advance notice of the time and place of the hearing.
    (vii) Administrative review official. The administrative review 
official must be independent and impartial. This means that, although 
the administrative review official may be an employee of the State 
agency, he/she must not have been involved in the action that is the 
subject of the administrative review, or have a direct personal or 
financial interest in the outcome of the administrative review. The 
institution and the responsible principals and responsible individuals 
must be permitted to contact the administrative review official 
directly if they so desire.
    (viii) Basis for decision. The administrative review official must 
make a determination based solely on the information provided by the 
State agency, the institution, and the responsible principals and 
responsible individuals, and based on Federal and State laws, 
regulations, policies, and procedures governing the Program.
    (ix) Time for issuing a decision. Within 60 days of the State 
agency's receipt of the request for an administrative review, the 
administrative review official must inform the State agency, the 
institution's executive director and chairman of the board of 
directors, and the responsible principals and responsible individuals, 
of the administrative review's outcome. This timeframe is an 
administrative requirement for the State agency and may not be used as 
a basis for overturning the State agency's action if a decision is not 
made within the specified timeframe.
    (x) Final decision. The determination made by the administrative 
review official is the final administrative determination to be 
afforded the institution and the responsible principals and responsible 
individuals.
    (6) Federal audit findings. FNS may assert a claim against the 
State agency, in accordance with the procedures set forth in 
Sec. 226.14(c), when an administrative review results in the dismissal 
of a claim against an institution asserted by the State agency based 
upon Federal audit findings.
    (7) Record of result of administrative reviews. The State agency 
must maintain searchable records of all administrative reviews and 
their disposition.
    (8) Combined administrative reviews for responsible principals and 
responsible individuals. The State agency must conduct the 
administrative review of the proposed disqualification of the 
responsible principals and responsible individuals as part of the 
administrative review of the application denial, proposed termination, 
and/or proposed disqualification of the institution with which the 
responsible principals or responsible individuals are associated. 
However, at the administrative review official's discretion, separate 
administrative reviews may be held if the institution does not request 
an administrative review or if either the institution or the 
responsible principal or responsible individual demonstrates that their 
interests conflict.
    (9) Abbreviated administrative review. The State agency must limit 
the administrative review to a review of written submissions concerning 
the accuracy of the State agency's determination if the application was 
denied or the State agency proposes to terminate the institution's 
agreement because:
    (i) The information submitted on the application was false (see 
paragraphs (c)(1)(ii)(A), (c)(2)(ii)(A), and (c)(3)(ii)(A) of this 
section);
    (ii) The institution, one of its sponsored facilities, or one of 
the principals of the institution or its facilities is on the national 
disqualified list (see paragraph (b)(12) of this section);
    (iii) The institution, one of its sponsored facilities, or one of 
the principals of the institution or its facilities is ineligible to 
participate in any other publicly funded program by reason of violation 
of the requirements

[[Page 43489]]

of the program (see paragraph (b)(13) and (c)(3)(ii)(S) of this 
section); or
    (iv) The institution, one of its sponsored facilities, or one of 
the principals of the institution or its facilities has been convicted 
for any activity that indicates a lack of business integrity (see 
paragraphs (b)(14) and (c)(3)(ii)(T) of this section).
    (10) Effect of State agency action. The State agency's action must 
remain in effect during the administrative review. The effect of this 
requirement on particular State agency actions is as follows.
    (i) Overpayment demand. During the period of the administrative 
review, the State agency is prohibited from taking action to collect or 
offset the overpayment. However, the State agency must assess interest 
beginning with the initial demand for remittance of the overpayment and 
continuing through the period of administrative review unless the 
administrative review official overturns the State agency's action.
    (ii) Recovery of advances. During the administrative review, the 
State agency must continue its efforts to recover advances in excess of 
the claim for reimbursement for the applicable period. The recovery may 
be through a demand for full repayment or an adjustment of subsequent 
payments.
    (iii) Program payments. The availability of Program payments during 
an administrative review of the denial of a new institution's 
application, denial of a renewing institution's application, proposed 
termination of a participating institution's agreement, and suspension 
of an institution are addressed in paragraphs (c)(1)(iii)(D), 
(c)(2)(iii)(D), (c)(3)(iii)(D), (c)(5)(i)(D), and (c)(5)(ii)(E), 
respectively, of this section.
    (l) Administrative reviews for day care homes.
    (1) General. The State agency must ensure that, when a sponsoring 
organization proposes to terminate its Program agreement with a day 
care home for cause, the day care home is provided an opportunity for 
an administrative review of the proposed termination. The State agency 
may do this either by electing to offer a State-level administrative 
review, or by electing to require the sponsoring organization to offer 
an administrative review. The State agency must notify the appropriate 
FNSRO of its election under this option, or any change it later makes 
under this option, by September 25, 2002 or within 30 days of any 
subsequent change under this option. The State agency must make the 
same election with regard to who offers the administrative review to 
any day care home in the Program in that State. The State agency or the 
sponsoring organization must develop procedures for offering and 
providing these administrative reviews, and these procedures must be 
consistent with this paragraph (l).
    (2) Actions subject to administrative review. The State agency or 
sponsoring organization must offer an administrative review to a day 
care home that appeals a notice of intent to terminate their agreement 
for cause or a suspension of their participation (see 
Secs. 226.16(l)(3)(iii) and (l)(4)(ii)).
    (3) Actions not subject to administrative review. Neither the State 
agency nor the sponsoring organization is required to offer an 
administrative review for reasons other than those listed in paragraph 
(l)(2) of this section.
    (4) Provision of administrative review procedures to day care 
homes. The administrative review procedures must be provided:
    (i) Annually to all day care homes;
    (ii) To a day care home when the sponsoring organization takes any 
action subject to an administrative review as described in paragraph 
(l)(2) of this section; and
    (iii) Any other time upon request.
    (5) Procedures. The State agency or sponsoring organization, as 
applicable (depending on the State agency's election pursuant to 
paragraph (l)(1) of this section) must follow the procedures in this 
paragraph (l)(5) when a day care home requests an administrative review 
of any action described in paragraph (l)(2) of this section.
    (i) Uniformity. The same procedures must apply to all day care 
homes.
    (ii) Representation. The day care home may retain legal counsel, or 
may be represented by another person.
    (iii) Review of record and opposition. The day care home may review 
the record on which the decision was based and refute the action in 
writing. The administrative review official is not required to hold a 
hearing.
    (iv) Administrative review official. The administrative review 
official must be independent and impartial. This means that, although 
the administrative review official may be an employee of the State 
agency or an employee or board member of the sponsoring organization, 
he/she must not have been involved in the action that is the subject of 
the administrative review or have a direct personal or financial 
interest in the outcome of the administrative review;
    (v) Basis for decision. The administrative review official must 
make a determination based on the information provided by the 
sponsoring organization and the day care home and on Federal and State 
laws, regulations, polices, and procedures governing the Program.
    (vi) Time for issuing a decision. The administrative review 
official must inform the sponsoring organization and the day care home 
of the administrative review's outcome within the period of time 
specified in the State agency's or sponsoring organization's 
administrative review procedures. This timeframe is an administrative 
requirement for the State agency or sponsoring organization and may not 
be used as a basis for overturning the termination if a decision is not 
made within the specified timeframe.
    (vii) Final decision. The determination made by the administrative 
review official is the final administrative determination to be 
afforded the day care home.
    (m) Program assistance.
    (1) General. The State agency must provide technical and 
supervisory assistance to institutions and facilities to facilitate 
effective Program operations, monitor progress toward achieving Program 
goals, and ensure compliance with all requirements of title VI of the 
Civil Rights Act of 1964, title IX of the Education amendments of 1972, 
Section 504 of the Rehabilitation Act of 1973, the Age Discrimination 
Act of 1975, and the Department's regulations concerning 
nondiscrimination (7 CFR Parts 15, 15a, and 15b). The State agency must 
maintain documentation of supervisory assistance activities, including 
reviews conducted, corrective actions prescribed, and follow-up 
efforts.
    (2) Review priorities. In choosing institutions for review, in 
accordance with paragraph (m)(4) of this section, the State agency must 
target for more frequent review institutions whose prior review 
included a finding of serious deficiency.
    (3) Review content. Reviews must:
    (i) Assess institutional compliance with the provisions of this 
part and with any applicable instructions of FNS and the Department;
    (ii) Evaluate the documentation used by sponsoring organizations to 
classify their day care homes as tier I day care homes; and
    (iii) Evaluate sponsoring organizations' implementation of serious 
deficiency and termination procedures and, if delegated to sponsoring 
organizations pursuant to paragraph (l)(1) of this section, the 
administrative review procedures for day care homes.
    (4) Review frequency. The State agency must annually review 33.3 
percent of all institutions. At least 15

[[Page 43490]]

percent of the total number of facility reviews required must be 
unannounced. The State agency must review institutions according to the 
following schedule:
    (i) Independent centers and sponsoring organizations of 1-100 
facilities must be reviewed at least once every three years. A review 
of a sponsoring organization must include 10 percent of its facilities;
    (ii) Sponsoring organizations with more than 100 facilities must be 
reviewed at least once every two years. These reviews must include 
reviews of 5 percent of the first 1,000 facilities and 2.5 percent of 
the facilities in excess of 1,000; and
    (iii) New institutions that are sponsoring organizations of five or 
more facilities must be reviewed within the first 90 days of Program 
operation.
* * * * *
    (p) * * * The State agency must also include in this agreement its 
policy to restrict transfers of day care homes between sponsoring 
organizations. The policy must restrict the transfers to no more 
frequently than once per year, except under extenuating circumstances, 
such as termination of the sponsoring organization's agreement or other 
circumstances defined by the State agency. * * *
* * * * *

    4. In Sec. 226.7, paragraph (g) is amended by adding two new 
sentences after the second sentence to read as follows:


Sec. 226.7  State agency responsibilities for financial management.

* * * * *
    (g) * * * For sponsoring organizations of centers, the State agency 
is prohibited from approving the sponsoring organization's 
administrative budget, or any amendments to the budget, if the 
administrative budget shows the Program will be charged for 
administrative costs in excess of 15 percent of the meal reimbursements 
estimated to be earned during the budget year. However, the State 
agency may waive this limit if the sponsoring organization provides 
justification that it requires Program funds in excess of 15 percent to 
pay its administrative costs and if the State agency is convinced that 
the institution will have adequate funding to provide meals meeting the 
requirements of Sec. 226.20. * * *
* * * * *


Sec. 226.8  [Amended]

    5. In Sec. 226.8(g), the words ``in Sec. 226.6(j) of this part'' 
are removed and the words ``in Sec. 226.6(k)'' are added in their 
place.

    6. In Sec. 226.12, paragraph (b)(2)(i) is revised to read as 
follows:


Sec. 226.12  Administrative payments to sponsoring organizations for 
day care homes.

* * * * *
    (b) * * *
    (2) * * *
    (i) Public status or tax exempt status under the Internal Revenue 
Code of 1986;
* * * * *

    7. In Sec. 226.14, paragraph (a) is amended by adding five new 
sentences after the second sentence to read as follows:


Sec. 226.14  Claims against institutions.

    (a) * * * The State agency may permit institutions to pay 
overclaims over a period of one or more years. However, the State 
agency must assess interest beginning with the initial demand for 
remittance. Further, when an institution requests and is granted an 
administrative review of the State agency's overpayment demand, the 
State agency is prohibited from taking action to collect or offset the 
overpayment until the administrative review is concluded. The State 
agency must maintain searchable records of funds recovery activities. 
If the State agency determines that a sponsoring organization of 
centers has spent more than 15 percent of its meal reimbursements for a 
budget year for administrative costs (or more than any higher limit 
established pursuant to a waiver granted under Sec. 226.6(f)(3)), the 
State agency must take appropriate fiscal action. * * *
* * * * *

    8. In Sec. 226.15:
    a. Paragraph (a) is revised;
    b. The heading and introductory text of paragraph (b) are revised;
    c. The word ``and'' is removed at the end of paragraph (b)(5), the 
period at the end of paragraph (b)(6) is removed, and a semicolon is 
added in its place; and
    b. New paragraphs (b)(7) through (b)(9) are added.
    The revisions and additions specified above read as follows:


Sec. 226.15  Institution provisions.

    (a) Tax exempt status. Except for proprietary title XIX and title 
XX centers, and sponsoring organizations of such centers, institutions 
must be public, or have tax exempt status under the Internal Revenue 
Code of 1986.
    (b) New applications and renewals. Each institution must submit to 
the State agency with its application all information required for its 
approval as set forth in Secs. 226.6(b) and 226.6(f). Such information 
must demonstrate that the institution has the administrative and 
financial capability to operate the Program in accordance with this 
part and with the performance standards set forth at Sec. 226.6 
(b)(18). The State agency must deny the application of any institution 
that does not demonstrate in its application that it is 
administratively and financially capable of operating the Program in 
accordance with this part, and may approve only those applicant 
institutions that meet the performance standards. No institution may 
submit an application if the institution or any of its principals is on 
the National disqualified list, and no sponsoring organization may 
submit an application on behalf of a facility if the facility or any of 
its principals is on the National disqualified list. At a minimum, such 
information must include:
* * * * *
    (7) A list of the publicly funded programs in which the institution 
and its principals have participated in the past seven years and a 
certification that, during the preceding seven years, neither the 
institution nor any of its principals has been declared ineligible to 
participate in any publicly funded program by reason of violating that 
program's requirements. Instead of such a certification, the 
institution may submit documentation that the institution or the 
principal previously declared ineligible was later fully reinstated in, 
or determined eligible for, the program, including the payment of any 
debts owed;
    (8) A statement certifying that neither the institution nor any of 
its principals has been convicted of any activity that occurred during 
the past seven years and that indicated a lack of business integrity. A 
lack of business integrity includes fraud, antitrust violations, 
embezzlement, theft, forgery, bribery, falsification or destruction of 
records, making false statements, receiving stolen property, making 
false claims, obstruction of justice, or any other activity indicating 
a lack of business integrity as defined by the State agency; and
    (9) A statement certifying that all information on the application 
is true and correct, along with the name, mailing address, and date of 
birth of the institution's executive director and chairman of the board 
of directors.
* * * * *

    9. In Sec. 226.16:
    a. The introductory text of paragraph (b) is amended by adding a 
new

[[Page 43491]]

sentence at the beginning of the paragraph;
    b. Paragraph (b)(1) is revised;
    c. Paragraph (b)(2) is amended by removing the word ``and'' at the 
end of the paragraph;
    d. Paragraph (b)(3) is amended by removing the period at the end of 
the paragraph and adding in its place a semicolon;
    e. New paragraphs (b)(4) through (b)(8) are added;
    f. The introductory text of paragraph (d) is revised;
    g. Paragraph (d)(4) is revised; and
    h. A new paragraph (l) is added.
    The additions and revisions specified above read as follows:


Sec. 226.16  Sponsoring organization provisions.

* * * * *
    (b) A sponsoring organization is prohibited from submitting an 
application on behalf of a facility if either the facility or any of 
its principals is on the National disqualified list. * * *
    (1) A sponsoring organization management plan and administrative 
budget, in accordance with Sec. 226.6(f)(2), which includes information 
sufficient to document the sponsoring organization's compliance with 
the performance standards set forth at Sec. 226.6(b)(18). As part of 
its management plan, a sponsoring organization of day care homes must 
document that, to perform monitoring, it will employ the equivalent of 
one full-time staff person for each 50 to 150 day care homes it 
sponsors. As part of its monitoring plan, a sponsoring organization of 
centers must document that, to perform monitoring, it will employ the 
equivalent of one full-time staff person for each 25 to 150 centers it 
sponsors. It is the State agency's responsibility to determine the 
appropriate level of staffing for monitoring for each sponsoring 
organization, consistent with the specified ranges and the factors 
established by the State agency in accordance with Sec. 226.6(f)(2). 
The monitoring staff equivalent may include the employee's time spent 
on scheduling, travel time, review time, follow-up activity, and report 
writing. Sponsoring organizations that are participating in the Program 
on July 29, 2002 must submit a management plan or plan amendment that 
meets the monitoring staffing requirement no later than July 29, 2003. 
For sponsoring organizations of centers, the portion of the 
administrative costs to be charged to the Program as shown on the 
administrative budget and the actual administrative costs charged to 
the Program may not exceed 15 percent of the meal reimbursements 
estimated or actually earned during the budget year, unless the State 
agency grants a waiver in accordance with Sec. 226.6(f)(3). A 
sponsoring organization of centers must include in its administrative 
budget all administrative costs, whether incurred by the sponsoring 
organization or its sponsored centers. If at any point a sponsoring 
organization determines that the meal reimbursements estimated to be 
earned during the budget year will be lower than that estimated in its 
administrative budget, the sponsoring organization must amend its 
administrative budget to stay within the 15 percent limitation (or any 
higher limit established pursuant to a waived granted under 
Sec. 226.6(f)(3)) or seek a waiver. Failure to do so will result in 
appropriate fiscal action in accordance with Sec. 226.14(a).
* * * * *
    (4) For sponsoring organizations applying for initial participation 
on or after June 20, 2000, if required by State law, regulation, or 
policy, a bond in the form prescribed by such law, regulation, or 
policy;
    (5) A copy of the sponsoring organization's notice to parents, in a 
form and, to the maximum extent practicable, language easily 
understandable by the participant's parents or guardians. The notice 
must inform them of their facility's participation in CACFP, the 
Program's benefits, the name and telephone number of the sponsoring 
organization, and the name and telephone number of the State agency 
responsible for administration of CACFP;
    (6) If the sponsoring organization chooses to establish procedures 
for determining a day care home seriously deficient that supplement the 
procedures in paragraph (l) of this section, a copy of those 
supplemental procedures. If the State agency has made the sponsoring 
organization responsible for the administrative review of a proposed 
termination of a day care home's agreement for cause, pursuant to 
Sec. 226.6(l)(1), a copy of the sponsoring organization's 
administrative review procedures. The sponsoring organization's 
supplemental serious deficiency and administrative review procedures 
must comply with paragraph (l) of this section and Sec. 226.6(l);
    (7) A copy of their outside employment policy. The policy must 
restrict other employment by employees that interferes with an 
employee's performance of Program-related duties and responsibilities, 
including outside employment that constitutes a real or apparent 
conflict of interest; and
    (8) For sponsoring organizations of day care homes, the name, 
mailing address, and date of birth of each provider.
* * * * *
    (d) Each sponsoring organization must provide adequate supervisory 
and operational personnel for the effective management and monitoring 
of the program at all facilities it sponsors. Each sponsoring 
organization must employ monitoring staff sufficient to meet the 
requirements of paragraph (b)(1) of this section. At a minimum, Program 
assistance must include:
* * * * *
    (4) Reviews of food service operations to assess compliance with 
meal pattern, recordkeeping, and other Program requirements.
    (i) Reviews of sponsored centers. Reviews must be made at least 
three times each year at each center. In addition:
    (A) At least two of the three reviews must be unannounced;
    (B) At least one unannounced review must include observation of a 
meal service;
    (C) At least one review must be made during the center's first six 
weeks of Program operation; and
    (D) Not more than six months may elapse between reviews.
    (ii) Reviews of day care homes. Reviews must be made at least three 
times each year at each day care home, except as described at paragraph 
(d)(4)(iii) of this section. In addition:
    (A) At least two of the three reviews must be unannounced;
    (B) At least one unannounced review must include observation of a 
meal service;
    (C) At least one review must be made during the day care home's 
first four weeks of Program operation; and
    (D) Not more than six months may elapse between reviews.
    (iii) Variation for sponsoring organizations of day care homes. If 
the State agency believes that improved efficiency and more effective 
management will result, and subject to FNSRO approval, the State agency 
may allow a sponsoring organization to conduct reviews an average of at 
least three times each year per day care home, provided that:
    (A) Each day care home receives at least two unannounced reviews;
    (B) At least one review is made during each day care home's first 
four weeks of Program operations; and
    (C) No more than six months elapse between reviews;

[[Page 43492]]

    (iv) Follow-up reviews. If, in a review of a facility, a sponsoring 
organization detects one or more serious deficiency, the next review of 
that facility must be unannounced. Serious deficiencies are those set 
forth at paragraph (l)(2) of this section, regardless of the type of 
sponsored facility.
    (v) Notification. Sponsoring organizations must provide each 
sponsored center written notification of the right of the sponsoring 
organization, the State agency, the Department, and other State and 
Federal officials to make announced or unannounced reviews of their 
operations during the center's normal hours of child or adult care 
operations, and must also notify sponsored centers that anyone making 
such reviews must show photo identification that demonstrates that they 
are employees of one of these entities. For sponsored centers 
participating July 29, 2002, the sponsoring organization must provide 
this notice sent no later than August 29, 2002. For sponsored centers 
that are approved after July 29, 2002, the sponsoring organization must 
provide the notice before meal service under the Program begins. 
Sponsoring organizations must provide day care homes notification of 
unannounced visits in accordance with Sec. 226.18(b)(1).
    (vi) Other requirements pertaining to unannounced reviews. 
Unannounced reviews must be made only during the facility's normal 
hours of child or adult care operations, and monitors making such 
reviews must show photo identification that demonstrates that they are 
employees of the sponsoring organization.
* * * * *
    (l) Termination of agreements for cause. (1) General. The 
sponsoring organization must initiate action to terminate the agreement 
of a day care home for cause if the sponsoring organization determines 
the day care home has committed one or more serious deficiency listed 
in paragraph (l)(2) of this section.
    (2) List of serious deficiencies for day care homes. Serious 
deficiencies for day care homes are:
    (i) Submission of false information on the application;
    (ii) Submission of false claims for reimbursement;
    (iii) Simultaneous participation under more than one sponsoring 
organization;
    (iv) Non-compliance with the Program meal pattern;
    (v) Failure to keep required records;
    (vi) Conduct or conditions that threaten the health or safety of a 
child(ren) in care, or the public health or safety;
    (vii) A determination that the day care home has been convicted of 
any activity that occurred during the past seven years and that 
indicated a lack of business integrity. A lack of business integrity 
includes fraud, antitrust violations, embezzlement, theft, forgery, 
bribery, falsification or destruction of records, making false 
statements, receiving stolen property, making false claims, obstruction 
of justice, or any other activity indicating a lack of business 
integrity as defined by the State agency, or the concealment of such a 
conviction; or
    (viii) Any other circumstance related to non-performance under the 
sponsoring organization-day care home agreement, as specified by the 
sponsoring organization or the State agency.
    (3) Serious deficiency notification procedures. If the sponsoring 
organization determines that a day care home has committed one or more 
serious deficiency listed in paragraph (l)(2) of this section, the 
sponsoring organization must use the following procedures to provide 
the day care home notice of the serious deficiency(ies) and offer it an 
opportunity to take corrective action. However, if the serious 
deficiency(ies) constitutes an imminent threat to the health or safety 
of participants, or the day care home has engaged in activities that 
threaten the public health or safety, the sponsoring organization must 
follow the procedures in paragraph (l)(4) of this section instead of 
those in this paragraph (l)(3).
    (i) Notice of serious deficiency. The sponsoring organization must 
notify the day care home that it has been found to be seriously 
deficient. The sponsoring organization must provide a copy of the 
serious deficiency notice to the State agency. The notice must specify:
    (A) The serious deficiency(ies);
    (B) The actions to be taken by the day care home to correct the 
serious deficiency(ies);
    (C) The time allotted to correct the serious deficiency(ies) (as 
soon as possible, but not to exceed 30 days);
    (D) That the serious deficiency determination is not subject to 
administrative review.
    (E) That failure to fully and permanently correct the serious 
deficiency(ies) within the allotted time will result in the 
institution's proposed termination of the day care home's agreement and 
the proposed disqualification of the day care home and its principals; 
and
    (F) That the day care home's voluntary termination of its agreement 
with the institution after having been notified that it is seriously 
deficient will still result in the day care home's formal termination 
by the State institution and placement of the day care home and its 
principals on the National disqualified list.
    (ii) Successful corrective action. If the day care home corrects 
the serious deficiency(ies) within the allotted time and to the 
sponsoring organization's satisfaction, the sponsoring organization 
must notify the day care home that it has rescinded its determination 
of serious deficiency. The sponsoring organization must also provide a 
copy of the notice to the State agency.
    (iii) Proposed termination of agreement and proposed 
disqualification. If timely corrective action is not taken to fully and 
permanently correct the serious deficiency(ies) cited, the sponsoring 
organization must issue a notice proposing to terminate the day care 
home's agreement for cause. The notice must explain the day care home's 
opportunity for an administrative review of the proposed termination in 
accordance with Sec. 226.6(l). The sponsoring organization must provide 
a copy of the notice to the State agency. The notice must:
    (A) Inform the day care home that it may continue to participate 
and receive Program reimbursement for eligible meals served until its 
administrative review is concluded;
    (B) Inform the day care home that termination of the day care 
home's agreement will result in the day care home's termination for 
cause and disqualification; and
    (C) State that if the day care home seeks to voluntarily terminate 
its agreement after receiving the notice of intent to terminate, the 
day care home will still be placed on the National disqualified list.
    (iv) Program payments. The sponsoring organization must continue to 
pay any claims for reimbursement for eligible meals served until the 
serious deficiency(ies) is corrected or the day care home's agreement 
is terminated, including the period of any administrative review.
    (v) Agreement termination and disqualification. The sponsoring 
organization must immediately terminate the day care home's agreement 
and disqualify the day care home when the administrative review 
official upholds the sponsoring organization's proposed termination and 
proposed disqualification, or when the day care home's opportunity to 
request an administrative review expires. At the same time the notice 
is issued, the sponsoring organization must provide a

[[Page 43493]]

copy of the termination and disqualification letter to the State 
agency.
    (4) Suspension of participation for day care homes.
    (i) General. If State or local health or licensing officials have 
cited a day care home for serious health or safety violations, the 
sponsoring organization must immediately suspend the home's CACFP 
participation prior to any formal action to revoke the home's licensure 
or approval. If the sponsoring organization determines that there is an 
imminent threat to the health or safety of participants at a day care 
home, or that the day care home has engaged in activities that threaten 
the public health or safety, and the licensing agency cannot make an 
immediate onsite visit, the sponsoring organization must immediately 
notify the appropriate State or local licensing and health authorities 
and take action that is consistent with the recommendations and 
requirements of those authorities. An imminent threat to the health or 
safety of participants and engaging in activities that threaten the 
public health or safety constitute serious deficiencies; however, the 
sponsoring organization must use the procedures in this paragraph 
(l)(4) (and not the procedures in paragraph (l)(3) of this section) to 
provide the day care home notice of the suspension of participation, 
serious deficiency, and proposed termination of the day care home's 
agreement.
    (ii) Notice of suspension, serious deficiency, and proposed 
termination. The sponsoring organization must notify the day care home 
that its participation has been suspended, that the day care home has 
been determined seriously deficient, and that the sponsoring 
organization proposes to terminate the day care home's agreement for 
cause, and must provide a copy of the notice to the State agency. The 
notice must:
    (A) Specify the serious deficiency(ies) found and the day care 
home's opportunity for an administrative review of the proposed 
termination in accordance with Sec. 226.6(l);
    (B) State that participation (including all Program payments) will 
remain suspended until the administrative review is concluded;
    (C) Inform the day care home that if the administrative review 
official overturns the suspension, the day care home may claim 
reimbursement for eligible meals served during the suspension;
    (D) Inform the day care home that termination of the day care 
home's agreement will result in the placement of the day care home on 
the National disqualified list; and
    (E) State that if the day care home seeks to voluntarily terminate 
its agreement after receiving the notice of proposed termination, the 
day care home will still be terminated for cause and disqualified.
    (iii) Agreement termination and disqualification. The sponsoring 
organization must immediately terminate the day care home's agreement 
and disqualify the day care home when the administrative review 
official upholds the sponsoring organization's proposed termination, or 
when the day care home's opportunity to request an administrative 
review expires.
    (iv) Program payments. A sponsoring organization is prohibited from 
making any Program payments to a day care home that has been suspended 
until any administrative review of the proposed termination is 
completed. If the suspended day care home prevails in the 
administrative review of the proposed termination, the sponsoring 
organization must reimburse the day care home for eligible meals served 
during the suspension period.

    10. In Sec. 226.17:
    a. Paragraph (b)(2) is amended by removing the comma and all text 
that follows the words ``the Internal Revenue Code of 1986'' and adding 
a period in its place; and
    b. A new paragraph (d) is added.
    The addition above reads as follows:


Sec. 226.17  Child care center provisions.

* * * * *
    (d) If so instructed by its sponsoring organization, a sponsored 
center must distribute to parents a copy of the sponsoring 
organization's notice to parents.

    11. In Sec. 226.18:
    a. A new sentence is added to the introductory text of paragraph 
(b) after the third sentence;
    b. Paragraph (b)(1) is revised;
    c. Remove the word ``and'' at the end of paragraph (b)(8);
    d. Remove the period at the end of paragraphs (b)(9), (b)(10), 
(b)(11), and (b)(12) and add a semicolon in its place; and
    e. New paragraphs (b)(13), (b)(14), (b)(15), and (b)(16) are added.
    The revision and additions specified above read as follows:


Sec. 226.18  Day care home provisions.

* * * * *
    (b) * * * The agreement must be signed by the sponsoring 
organization and the provider and must include the provider's full 
name, mailing address, and date of birth. * * *
    (1) The right of the sponsoring organization, the State agency, the 
Department, and other State and Federal officials to make announced or 
unannounced reviews of the day care home's operations and to have 
access to its meal service and records during its normal hours of child 
care operations. For day care homes participating July 29, 2002, the 
sponsoring organization must amend the current agreement no later than 
August 29, 2002;
* * * * *
    (13) The State agency's policy to restrict transfers of day care 
homes between sponsoring organizations;
    (14) The responsibility of the day care home to notify their 
sponsoring organization in advance whenever they are planning to be out 
of their home during the meal service period. The agreement must also 
state that, if this procedure is not followed and an unannounced review 
is conducted when the children are not present in the day care home, 
claims for meals that would have been served during the unannounced 
review will be disallowed;
    (15) The day care home's opportunity to request an administrative 
review if a sponsoring organization issues a notice of proposed 
termination of the day care home's Program agreement, or if a 
sponsoring organization suspends participation due to health and safety 
concerns, in accordance with Sec. 226.6(1)(2); and
    (16) If so instructed by its sponsoring organization, the day care 
home's responsibility to distribute to parents a copy of the sponsoring 
organization's notice to parents.
* * * * *


Sec. 226.19  [Amended]

    12. In Sec. 226.19, paragraph (b)(2) is amended by removing the 
comma and all text that follows the words ``the Internal Revenue Code 
of 1986'' and adding a period in its place.


Sec. 226.19a  [Amended]

    13. In Sec. 226.19a, paragraph (b)(4) is amended by removing the 
comma and all text that follows the words ``the Internal Revenue Code 
of 1986'' and adding a period in its place.


Sec. 226.23  [Amended]

    14. In Sec. 226.23:
    a. The introductory text of paragraph (h) is amended by removing 
the word ``four'' in the second sentence and adding in its place the 
word ``three'', and by removing the reference ``226.6(l)'' and adding 
the reference ``226.6(m)'' in their place.
    b. Paragraph (h)(1) is amended by removing the words ``section 
226.6(l) of this Part'' in the second sentence and

[[Page 43494]]

adding the words ``Sec. 226.6(m)'' in their place.

    Dated: June 7, 2002.
Eric M. Bost,
Under Secretary for Food, Nutrition, and Consumer Services.
[FR Doc. 02-15776 Filed 6-26-02; 8:45 am]
BILLING CODE 3410-30-P