Medicare DSH payments ruling could boost hospital reimbursement under 1115 waivers

Hospitals obtained a victory in a case about Medicare disproportionate share hospital (DSH) payments, with potentially significant reimbursement implications.

In a July 27 ruling, a judge with the U.S. District Court for Northern Texas struck down an HHS rule that excluded certain patients from the DSH formula if they were covered through a Medicaid Section 1115 uncompensated-care waiver.

The Biden administration issued the rule, which was implemented in October 2023 and affected the numerator of the Medicaid fraction, which is a component in the formula for calculating a hospital’s DSH percentage. That percentage, in turn, determines a hospital’s DSH supplemental payment.

“The bigger the numerator, the greater the proportion of patient days factored into the DSH percentage, resulting in more money for qualifying DSHs,” Judge Mark T. Pittman (a Trump appointee) wrote in his July decision.

A 2024 case about the same issue was decided in favor of 14 Texas hospitals by the same judge but was subsequently overturned for procedural reasons. In their initial complaint, those hospitals estimated they collectively would lose $10.4 million per year due to the government’s interpretation of the DSH formula.

DSH percentages also establish eligibility for the 340B Drug Pricing Program. In the 2024 complaint, the plaintiffs said the regulations would “wrongfully disqualify many of the Plaintiff hospitals and other DSH hospitals from the 340B program.”

How the 2023 rule changed the Medicare DSH calculation

Texas previously was granted a Section 1115 waiver that set up several pilot programs, including a payment pool to cover uncompensated care costs (UCCs) when uninsured or underinsured patients receive hospital care. Hospitals viewed patient days associated with that pool as countable in the numerator of the Medicaid fraction.

The 2023 rule restricted hospitals from regarding such patients as Medicaid-eligible for purposes of the DSH calculation. Only patients who received health insurance through an 1115 waiver could be included.

Hospitals appealed to Medicare’s Provider Reimbursement Review Board (PRRB), which dismissed the appeal on the basis that the disputed policy first needed to affect a hospital’s Medicare cost report.

In the 2024 litigation, Pittman rejected the PRRB’s conclusion and ruled that the regulations wrongly interpreted who should be included in the Medicaid fraction’s numerator. But the U.S. Court of Appeals for the Fifth Circuit overturned the decision in December 2025, essentially agreeing with the PRRB that the issue was not reviewable at that stage.

Cost reports allowed hospitals to renew their challenge

In the interim before the recently decided case, hospitals filed cost reports that reflected the 2023 regulation. Covenant Medical Center, a Lubbock, Texas, facility that’s part of the Providence health system, appealed to the PRRB, which authorized pursuing the matter in federal court on an expedited basis. The case was filed in January 2026.

In late July, Pittman again ruled that the Medicare statute clarifies that patients in demonstration programs should be counted in the Medicaid fraction numerator, as long as HHS has approved the program.

“The Court declares [the 2023 regulations] to be unlawful under the statute,” per the ruling.

Precedent worked in favor of the plaintiff hospitals beyond the earlier case that Pittman heard. A 2019 appellate ruling on a Mississippi case similarly supported inclusion of patient days for patients treated as Medicaid-eligible under an approved 1115 waiver setting up a UCC pool.

“The clarity of Forrest obviates the need for additional analysis vis-à-vis HHS’s already-rejected arguments here,” Pittman wrote.

“As in Forrest, HHS again argues the Secretary has discretion to decide which days go in the calculation. But the Fifth Circuit addressed this point in Forrest, noting ‘[t]he Secretary may exercise discretion, and the Secretary did exercise discretion when he authorized the [state plan].’ Thus, the Secretary exercised his discretion when he approved Texas’s plan.”

By referring to the Forrest case as a “spotted dog decision,” Pittman indicated that the two cases matched to the degree that the 2019 ruling essentially bound his decision.

What the ruling means for hospital reimbursement and 340B

Other states with UCC pools or similar Section 1115 pools have included Arizona, California, Florida, Hawaii, Kansas, Massachusetts, New Mexico, Tennessee and Wyoming.

In the wake of the ruling, according to an analysis by attorneys with Hall, Render, Killian, Heath & Lyman, P.C., hospitals in Texas and other affected states “should reevaluate cost-report protest positions and opportunities to appeal recent settlements, as well as opportunities to amend open cost reports submitted in compliance with the vacated rule.”

Another worthwhile step is to take stock of changes to 340B eligibility, the analysis states.

The ruling theoretically applies to any 1115 program that has been approved by HHS and meets statutory requirements, although patients included in 1115 waivers that entail providing direct coverage were already treated as Medicaid-eligible in the DSH formula and were not subject to the 2023 regulations.