United States: CMS Proposes Major Reforms of Medicare Inpatient Hospital Payment System and Changes for Long-Term Care Hospital Payments

The Centers for Medicare & Medicaid Services ("CMS") has proposed major reforms designed to improve the accuracy of Medicare payment rates for inpatient hospital services and respond to concerns that the existing system may create incentives for certain hospitals to "cherry-pick" more profitable cases. The proposal, included in the CMS proposed inpatient prospective payment system ("IPPS") update for fiscal year ("FY") 2007 ("Proposed Rule"),¹ would redistribute payment among hospital services, generally increasing payment for medical services and decreasing payment for surgical services. While CMS stresses that the Proposed Rule would "significantly affect payments to specialty hospitals," the rule could have a negative impact on Medicare reimbursement to acute care hospitals as well that focus on certain cardiac cases and, to a lesser degree, certain orthopedic cases.

Specifically, CMS is considering two reforms related to diagnosis related groups ("DRGs"): (1) basing the weights assigned to DRGs on hospital costs rather than charges, and (2) adjusting the DRGs for patient severity. CMS is considering phasing in these reforms separately, with implementation of the cost-based DRG weights in FY 2007 and the patient severity adjustments implemented in FY 2008, although CMS reserves the right to implement both components as soon as FY 2007. The sweeping proposal also would impact other aspects of inpatient payment policy, including establishing the market basket update, revising rates for hospitals exempt from the IPPS, updating the outlier payment policy, and discussing options for improving the transparency of hospital pricing and moving towards value-based purchasing, among many other policies.  also includes payment changes for long-term care hospitals ("LTCHs"), including the annual update to long-term care diagnosis related group ("LTC-DRG") relative weights.

CMS will accept comments on the Proposed Rule until June 12, 2006. The final Medicare  IPPS rule is likely to be released by late July or early August 2006.

The following is an overview of the Proposed Rule, focusing on CMS’s DRG reform proposals. While this memo highlights other key provisions of the Proposed Rule, the advance copy of the rule is almost 1200 pages; a comprehensive summary is beyond the scope of this memo. We would be pleased to provide you with additional information on any aspect of the proposal or assist you in filing comments on the Proposed Rule.

According to CMS, the proposed DRG changes respond to Medicare Payment Advisory Commission ("MedPAC") and Congressional concerns that the existing system may create incentives for certain hospitals, including physician-owned specialty hospitals, to concentrate on the most profitable cases. Thus the DRG reforms seek to align Medicare reimbursement more closely with hospital costs – resulting in reductions for many surgical procedures and hospitals that specialize in certain surgical procedures, such as cardiac and orthopedic surgery.

Under the Proposed Rule, changes would occur in two phases. The first step, which is proposed to go into effect on October 1, 2006, would change the basis for the weights assigned to DRGs from hospital charges to hospital costs. CMS believes this change will eliminate biases in the current DRG system that result from differential markups hospitals assign for ancillary services among the DRGs.

CMS’s proposed new weighting system is called the hospital-specific relative value cost center, or HSRVcc, methodology. The proposed system is somewhat different from MedPAC’s HSRV recommendation, which would have required cost-to-charge ratios ("CCRs") to be developed at the individual hospital level and would have involved administratively-difficult claims matching. Instead, CMS proposes to develop hospital-specific charge relative weights at the cost center level to adjust for certain hospital characteristics (e.g., teaching status, disproportionate share hospital ("DSH") status, location, and size) and then scaling the weights to costs using the national cost center charge ratios developed from cost report data. CMS proposes to base HSRV weights on the following 10 hospital cost centers: Routine Days, Intensive Days; Drugs; Supplies & Equipment; Therapeutic Services; Operating Room; Cardiology; Laboratory; Radiology; and Other Services and Charges.

Because ancillary departments have higher markups and account for a larger proportion of total charges in the medical than the surgical DRGs, adopting HSRVcc redistributes payments to the more routine-intensive medical DRGs. To illustrate this impact, CMS compares DRG 558 (Percutaneous Cardiovascular Proc w Drug-Eluting Stent w/o maj CV DX) to DRG 089 (Simple Pneumonia & Pleurisy Age >17 w CC). Adopting HSRVcc weights would result in a 30-percent reduction in payment for DRG 558 because ancillary departments with higher markups account for a large proportion of total charges (medical supplies and the cardiac care represent nearly 80 percent of average total hospital charges, while routine cost center charges account for only 7 percent of total hospital charges). Conversely, payment for DRG 089 would increasing nearly 10 percent from adoption of HSRVcc weights because routine day charges with relatively low markups account for 34 percent of total charges. The new methodology for DRG weights would not directly impact LTCHs because the LTC-DRG weights for LTCHs are calculated using a different methodology.

Although CMS intends to implement the HSRVcc methodology on October 1, 2006, CMS is seeking public comments on whether to provide a transition (perhaps over two years) to the hospitalspecific cost weights.

The second DRG reform is designed to better reflect severity of illness among patients. Under this reform, CMS proposes replacing the 526 current DRGs with approximately 861 consolidated proposed DRGs adjusted for patient severity. These 861 DRGs are based on the All Patient Refined Diagnosis Related Group System ("APR DRG"), which was developed by 3M and currently is used by the State of Maryland. The APR DRG system provides a mechanism for addressing high severity cases that occur in low volume through assignment of the case to one of four severity of illness subclasses. CMS is soliciting comments on whether there are alternative DRG systems that could result in better recognition of severity than the proposed consolidated severity-adjusted DRGs.

CMS expects the adoption of the consolidated severity-adjusted DRGs to result in a redistribution of payment from the surgical to the medical DRGs, but to a much lesser extent than the HSRVcc weighing changes. For instance, payments for DRG 558 would fall 4.1 percent due to the severity adjustment, compared to the 30 percent reduction attributable to the HSRVcc change. The Proposed Rule provides a link to a 3M website -- http://www.aprdrgassign.com -- where hospitals can model how given cases would be assigned to a consolidated severity-adjusted DRG under the new system.

CMS notes that a drawback to the APR DRG structure is that it currently does not accommodate distinctions based on complexity related to medical technology that do not necessarily involve greater severity of illness. For instance, the APR DRGs do not differentiate between coronary angioplasty performed with or without insertion of stents; while the insertion of the stent makes the patient’s case more complex, it does not mean the patient is more severely ill. CMS invites comments on criteria for determining when it is appropriate to recognize increased complexity in the structure of the DRG system and how these criteria interact with the existing statutory provisions for new technology add-on payments.

CMS intends to adopt severity refinements in FY 2008, although it may choose to implement the severity adjustments earlier. At that time, CMS will decide whether to propose an APR DRG system or similar revisions to the patient classification system under the LTCH PPS. Any proposed changes will include a notice and comment period. CMS recognizes, however, that hospitals may need additional time to plan for these changes, and such reforms could have implications for other hospital policies (e.g., the outlier threshold, case-mix measurement, and indirect medical education and DSH adjustments) that necessitate further analysis. The agency would consider other ways to adjust DRG relative weights in FY 2007 as an interim way to improve recognition of severity in the current DRG system. Moreover, CMS has considered the possibility of blending the current DRG system and the proposed consolidated severity DRGs. Although CMS does not believe there is a practical and simple mechanism to implement such a transition, it welcomes public comments on this issue.

According to CMS, the primary result of moving to consolidated severity-adjusted DRGs with HSRVcc relative weights is a redistribution of the relative weights from the surgical DRGs to the medical DRGs. As a result, CMS anticipates that specialty hospital payments will fall because of the case mix of these hospitals, with payment changes to general acute care hospitals expected to be less dramatic, as illustrated in the following table:

The impact of the two reforms on specific DRGs varies widely, as the following examples show:

The Proposed Rule includes the following proposed changes that would affect LTCHs:

• FY 2007 LTC-DRG Relative Weight Update. The proposed LTC-DRG relative weights would have an effective date of October 1, 2006. CMS developed the proposed weights using the December 2005 update of the MedPAR file. The regulatory impact analysis at Appendix A of the Proposed Rule quantifies an approximate 1.4 percent decrease in aggregate LTCH PPS payments in FY 2007 due to the proposed changes to the LTC-DRG classifications and relative weights. CMS says that this decrease does not account for any proposed changes in the rate year 2007 LTCH-PPS proposed rule published January 27, 2006.² The 1.4 percent decrease generally is attributable to the significant number of LTCDRGs with lower proposed relative weights under this Proposed Rule.

• Proposed Wage Index Reweighting and Reclassifications. CMS is proposing to adjust the wage index levels for acute care hospitals based on cost report wage data from 2003. The wage index levels for all acute care hospitals change on a yearly basis because the wage index adjustments must be made in a budget neutral manner. These wage index changes, except for reclassifications, affect payments to LTCHs. The effect on individual LTCHs can be determined by consulting Tables 4A-1, 4A-2, and 4B of the Proposed Rule. CMS will not respond to comments from LTCHs on wage index issues in the comment period for this Proposed Rule; comments on this issue were due during the proposed LTCH rule comment period, which is now closed.

• Proposed Changes for Determining LTCH CCRs and LTCH PPS Outlier Payment Reconciliation. In the proposed rule for FY 2007 LTCH PPS, CMS proposed changes to the methodology for determining LTCH CCRs and reconciliation of high-cost and shortstay outlier payments. CMS states that it received comments noting that the agency did not provide an analysis of the effects of the proposed policy change on CCRs or examples of new CCR values under the proposed methodology. CMS is re-proposing the same policy change in this Proposed Rule; however, CMS now includes an impact analysis and values for the proposed LTCH CCR ceiling. Based on the most recent complete IPPS total CCR data, CMS proposes a total CCR ceiling of 1.313 under the LTCH PPS, effective October 1, 2006. CMS states that the proposed policy change will not significantly impact LTCH payments, based on the most recent complete IPPS and LTCH CCR data, because no LTCHs currently have a CCR greater than the proposed 1.313 ceiling.

• Hospitals within Hospitals ("HwHs"). The Proposed Rule also would modify "hospitalwithin- hospital" grandfathering rules. CMS is proposing revisions to the regulations at §412.22(f) for grandfathered HwHs and at §§412.22(h) and 412.25(e)(5) for grandfathered satellites of hospitals, respectively, to allow these entities to decrease their square footage or number of beds, or both, without jeopardizing their grandfathered status. CMS also is proposing to allow changes in square footage or decreases in the number of beds of the HwH that are needed for specific circumstances beyond the control of the facility (i.e., the relocation of a facility to permit construction or renovation necessary for compliance with federal, state, or local law affecting the physical facility or because of catastrophic events such as fires, floods, earthquakes, or tornadoes). CMS is not proposing to allow an increase in the number of LTCH beds without jeopardizing grandfathered status.

The Proposed Rule would affect many other aspects of Medicare inpatient hospital policies. The following are highlights from the Proposed Rule.

• Market Basket Update/Quality Reporting. CMS estimates that the full market basket update for 2007 will be 3.4 percent full market basket. According to CMS, the market basket increase would increase payments to acute care hospitals by $3.3 billion. To qualify for the full update, hospitals must report certain hospital data as specified by the Secretary of Health and Human Services. Hospitals that do not report the necessary quality data will have their market basket update reduced by 2.0 percentage points. The quality data to be reported is being expanded from the 10 starter measures included in the Medicare Modernization Act to an additional 21 Hospital Quality Alliance clinical quality measures, starting with discharges that occur in CY 2006.

• Outlier Threshold. CMS proposes to increase the outlier threshold for FY 2007 to $25,530, up from $23,600 in 2006. • New Technology Payments. The Proposed Rule discusses temporary add-on payments for technologies which meet certain "newness" standards, cost thresholds and demonstrate substantial clinical improvements. CMS is soliciting comments on technologies that currently have add on status (neurostimulators for deep brain stimulation, endovascular aortic grafts) and technologies under consideration for add on status (distal anastomosis systems, intracerebral hemorrhage drug, interspinous decompression system). Of note, CMS is especially interested in comments on whether the C-Port and X-Stop meet the criteria for demonstrating substantial clinical improvement.

• No DRG for Charite Artificial Disc. CMS declined to assign Charite artificial disc to a DRG because there is a proposed national non-coverage decision pending.

• Value-Based Hospital Purchasing. The Proposed Rule invites comments on issues that must be considered in developing a plan to implement a value-based hospital purchasing plan mandated by the Deficit Reduction Act ("DRA"). Such issues to include measure development and refinement, data infrastructure, incentives, and public reporting. The value-based hospital program must be implemented beginning in FY 2009.

• Pricing Transparency. The Proposed Rule sets forth several potential options for making pricing and quality information available to the public to promote transparency. Proposed options include publishing hospital charges in every region of the country or in selected regions of the country; publishing the rates that CMS pays to individual hospitals for every DRG or for selected DRGs (adjusted to take into account the hospital’s labor market area, teaching hospital status, and DSH status); establishing hospital conditions of participation that require hospitals to post their prices and/or post their policies regarding discounts or other assistance for uninsured patients; and publishing the total cost for an episode of care.

• Other Payment Updates. Among other things, the Proposed Rule would refine geographic reclassification and wage index calculations; modify policies related to the long-term care and relative weights; update payments for the direct and indirect costs of graduate medical education; and modify payments to sole community hospitals and Medicare-dependent, small rural hospitals. The Proposed Rule also would establish rate of-increase limits and policy changes for hospitals and hospital units excluded from the IPPS that are paid in full or in part on a reasonable cost basis.

• Emergency Medical Treatment and Labor Act ("EMTALA") Requirements. CMS is proposing to require that all Medicare-participating hospitals (including specialty hospitals) with specialized capabilities must accept appropriate transfers of unstable individuals, regardless of whether the hospital has an emergency department. CMS notes that this change may result in an increase in the number of specialty hospitals accepting transfers of emergency patients on nights and weekends.

This article is presented for informational purposes only and is not intended to constitute legal advice.