CMS and MedPAC Guidelines and Trends

MedPAC report: Cost-based reimbursement isn’t an ideal way to sustain rural hospitals

June 16, 2021 10:09 pm

The report describes four reasons why cost-based reimbursement falls short in efforts to stabilize the finances of rural hospitals.

As healthcare policymakers assess ways to improve the sustainability of rural healthcare providers, taking more expansive approaches to cost-based reimbursement shouldn’t be a focal point, according to the Medicare Payment Advisory Commission (MedPAC).

As part of its semiannual report to Congress, released June 15, MedPAC examined Medicare beneficiaries’ access to care in rural areas. The review was conducted at the request of the House Ways and Means Committee.

“Some stakeholders have supported expanding the number of hospitals eligible for cost-based reimbursement or increasing cost-based payments to well above 100% of costs (e.g., 115% of costs) to prevent rural hospital closures,” MedPAC wrote.

The commission described four drawbacks to those ideas.

1. Cost-based reimbursement does not prevent all closures. For the report, the commission examined characteristics of 40 rural hospitals that closed between 2015 and 2019. Among that set, 15 were critical access hospitals (CAHs) that received Medicare payments on a cost basis.

“Closures among CAHs reflect the fact that Medicare is one payer in a multi-payer system,” the report states. “Because Medicare pays CAHs based on reasonable costs, the CAHs need to obtain enough grant funds and profits on private-pay patients to cover any losses on the uninsured. As a result, CAHs in poorer communities with few privately insured patients and more uninsured patients may struggle to remain financially viable.”

2. Cost-based reimbursement can distort competition. The commission compared cost-based payments to CAHs for swing-bed services with payments to skilled nursing facilities (SNFs) under the SNF prospective payment system between 2005 and 2014.

Findings of the comparison showed that the average cost-based payment to CAHs increased rapidly during the 10-year period, including to facilities that eventually closed, “reflecting increased costs as the number of inpatient days declined.”

Specifically, the CAHs in the cohort received more than $2,000 per day for swing-bed services, while Medicare would have paid SNFs less than $450 per day, on average, for post-acute care.

“Even considering potential differences in case mix and the effect of SNF days on hospital cost accounting, these large payment differentials may give hospitals an unfair advantage in attracting rural patients, leading to high Medicare spending for episodes with post-acute care in swing beds,” the report states. “Setting Medicare payment rates more equally would allow discharge planning to focus on quality and patient preferences.”

3. Cost-based reimbursement can benefit wealthier communities. CAHs in wealthier communities tend to have higher revenue per patient due to a more advantageous payer mix, the report notes. When those hospitals spend those revenues, they generate higher costs and thus increase their Medicare payment. “Thus, cost-based reimbursement can direct the highest payment rates to hospitals that can afford the highest costs.”

4. Paying more than 100% of costs can distort incentives for cost control. “Allowing Medicare payment rates to increase by more than a dollar for every dollar increase in costs creates an incentive to increase costs,” according to the report.

One incentive in such a scenario would be to “distort charges by increasing services received by Medicare beneficiaries,” the report states. “This behavior would increase their cost-based payments and increase cost sharing paid by Medicare beneficiaries.”

A viable way to bolster rural healthcare access

The 2020 year-end appropriations bill passed by Congress will allow certain rural hospitals to convert to designated rural emergency hospitals (REHs) beginning in 2023. An REH will be prohibited from delivering inpatient care but can provide emergency department services and other care.

Medicare payments to REHs will consist of monthly payments to help cover fixed costs, while outpatient care will be paid for at Outpatient Prospective Payment System rates plus a 5% add-on. Other services will be covered at standard provider-based rates.

Historically, facilities have been eligible to receive Medicare payment for ED services only if they maintain inpatient operations. But increasingly, rural residents have been bypassing their local hospitals for inpatient care while relying on them for outpatient and ED care.

“As a consequence, small rural communities that want an ED must maintain a low-occupancy inpatient department in the hospital,” the report states. “This requirement can lead to financial losses when inpatient volumes fall too low to cover fixed inpatient costs, potentially risking the solvency of the hospital.”

 The REH model “will allow hospitals to eliminate the costs of maintaining an underutilized inpatient department while providing financial flexibility to furnish outpatient care that the local community desires,” the report states.

“Hospitals’ decisions on whether to convert to an REH will be influenced by a number of factors, such as how CMS chooses to calculate the monthly payments REHs are scheduled to receive.”


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