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FY 2008 Inpatient Prospective Payment System Proposed Rule


Email Alert

April 16, 2007

Efforts Continue to Ensure that Medicare Payments Better Recognize the Cost of Care

On April 13, 2007, the Centers for Medicare & Medicaid Services (CMS) issued a proposed rule to update the hospital inpatient prospective payment system (IPPS) for fiscal year (FY) 2008. In FY 2008, payments to all hospitals are expected to increase by an average of 3.3 percent, or by more than $3.3 billion, taking into account all changes in the proposed rule.

The proposed reforms to the payment system included in this rule continue efforts, for the third consecutive year, to implement the most significant revision of Medicare's inpatient hospital rates since 1983.

These reforms are measured steps to improve the accuracy of Medicare's payment for inpatient stays to better account for the severity of the patient's condition.

  • These reforms continue with the changes that were begun last year to improve the accuracy of Medicare's inpatient hospital payments by using hospital costs rather than charges to set rates.
  • They adjust payment under the IPPS to better recognize severity of illness and the cost of treating Medicare patients by increasing payment for some services and decreasing payment for others.
  • They will help to eliminate biases in the current system that have provided incentives for physician-owned specialty hospitals to treat the healthiest and most profitable cases leaving the sickest and least profitable patients to general acute care hospitals.

The policies in this year's proposed rule reflect CMS' continued commitment to refine the current payment system to ensure hospitals are provided with incentives to invest in service areas based on the clinical needs of their patients rather than financial incentives.

Revising the Current DRGs to Better Account for Severity

CMS is proposing to adopt a severity diagnosis related group (DRG) system for FY 2008, called the Medicare-Severity DRGs (or MS-DRGs).

  • CMS updated an analysis of a severity DRG system that it considered adopting in the mid-1990s and is proposing to create 745 new DRGs to replace the current 538.
  • The proposed change represents a significant improvement to the Medicare programs' ability to recognize severity of illness in its inpatient hospital payments.

The new DRG system will be a budget neutral change to Medicare's IPPS payments. Overall spending under the MS-DRGs is not projected to differ significantly from payments under the prior system. The proposal will increase payment for some cases while decreasing payment for others.

  • Hospitals treating more severely ill and costlier patients will receive higher payments. Payments to hospitals for treating less severely ill patients will decline.
  • Cardiac specialty hospitals generally treat the healthiest and least costly patients and their payments are projected to decline by 4 percent from the MS-DRGs. This reduction is in addition to reductions of over 5 percent that CMS had estimated last year for changes made for FY 2006 and FY 2007.

The statute requires that CMS not increase or decrease payments when adopting a DRG system. The new DRG system presents opportunities to improve documentation and coding to receive higher payments without a real increase in patient severity of illness. Without an adjustment to the IPPS rates to account for this case mix growth, the proposed MS-DRGs would not meet the statutory budget neutrality requirement. The Office of the Actuary estimates an adjustment of 2.4 percent to the IPPS rates for each of FY 2008 and FY 2009 will be necessary to account for the anticipated improvements in coding and documentation. CMS will revisit the adjustment in two years if projected and actual data are different.

Consistent with commitments made in last year's IPPS final rule, CMS contracted with RAND Corporation to evaluate five commercially available DRG products to determine whether they could be used by Medicare to better recognize severity of illness in its inpatient hospital payments. CMS is continuing with this evaluation of alternative DRG systems for long-term use by Medicare. In addition, CMS has also asked RAND to evaluate the proposed MS-DRGs using the same criteria it is applying to the other DRG systems. CMS will not make a decision as to which DRG system to adopt permanently until the RAND evaluation is complete.

Improving the Accuracy of Payments by Adopting Cost-Based Weights

Prior to FY 2007, the DRG relative weights were based on hospital charges. The charges were intended to be a proxy for costs. However, hospital charges exceeded costs for some services than others. By using hospital charges rather than costs to set the relative weights, the Medicare payment system allowed some cases to be more profitable than others. In FY 2007, CMS adopted cost weights using hospital data for 13 separate departments. CMS transitioned implementation of the weights over a 3-year period to study additional issues that were raised in the IPPS rule comment period.

More specifically, CMS received comments on last year's rule that Medicare is aggregating high and low cost items in the same hospital department and that more refined data is needed to avoid underpaying for high cost devices. In response to these concerns, CMS contracted with RTI to study this issue. RTI's analysis suggests CMS could expand from 13 to 19 hospital departments to improve payment accuracy. However, these changes are very complex and could not be modeled for the FY 2008 proposed rule. CMS is asking for public comments on whether to adopt these changes in the final rule.

We would like to thank Hal McCard (Chaffe McCall LLP, New Orleans, LA) for providing this email alert.

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