Medicare prospective payment without separate urban and rural rates

Health Care Financing Review, Winter, 1992 by Sheila M. O'Dougherty, Philip G. Cotterill, Steven Phillips, Elizabeth Richter, Nancy De Lew, Barbara Wynn, Thomas Ault

Payments to outlier cases

Outliers are cases that have either an extremely long length of stay (LOS) (in relation to the geometric mean LOS for the DRG) or extraordinarily high costs. Outlier policy recognizes that hospitals cannot be expected to balance these unusually costly cases with cases that exhibit lower-than-average costs. Therefore, outlier payments are a form of insurance for hospitals, providing some protection against these high-cost cases.

By law, outlier payments must comprise between 5 and 6 percent of case-level DRG payments and are funded by separate reductions to the urban and rural standard rates. The threshold at which a case qualifies for day-outlier payments increased from the lesser of 20 days or 1.94 standard deviations from the mean DRG LOS in FY 1984 (the first year of PPS), to the lesser of 32 days or 3 standard deviations from the mean DRG LOS in FY 1992. The corresponding threshold for cost outliers increased from the greater of 1.5 times the case-level DRG payment or $12,000 in FY 1984, to the greater of 2 times the case-level DRG payment or $44,000 in FY 1992. The outlier thresholds rose because of increases in both cost per case and the number of high-cost cases. Higher thresholds increase the losses that must be incurred before a case qualifies to receive outlier payments.

By law, outlier payments are required to approximate the marginal cost of care beyond the outlier threshold. The marginal cost factor is currently 60 percent for day outliers and 75 percent for cost outliers. Day outliers are paid a per diem amount for each covered day of care beyond the LOS threshold. The per diem amount is 60 percent of the case-level DRG payment divided by the average LOS for that DRG. Cost outliers are paid 75 percent of the difference between the hospital's cost for the discharge and the cost threshold.

In FY 1989, HCFA implemented several changes in the way that outlier payments were calculated in an effort to better target outlier payments to the expensive cases where hospital losses were greatest. First, the marginal cost factor for cost outliers was increased from 60 to 75 percent (90 percent for cost-outlier burn cases.) Second, hospital-specific cost-to-charge ratios replaced a single national average cost-to-charge ratio in computing the costs against which the marginal cost factor is applied in deriving cost-outlier payments. Third, instead of paying outlier cases that qualified as both day and cost outliers as day outliers, they were paid the greater of the day- or cost-outlier payment.

In this issue of the Review, Carter and Farley assess the effects of the FY 1989 changes in outlier payment policy. They conclude that, although the FY 1989 changes to outlier policy succeeded in reducing financial risk to hospitals, continued evaluation and implementation of other improvements would increase the effectiveness of outlier policy.

Outlier payment refinements

Table 4 presents outlier payment-to-cost ratios, the number of outlier cases, and outlier payments per outlier case for current law, the proposed New York grouper, and potential refinements to the outlier policy. The outlier payment-to-cost ratio indicates the proportion of the cost of the entire stay that is covered by the PPS payment, including outlier payments. The outlier payment-to-cost ratios differ from the payment-to-cost ratios used elsewhere in this article in that they are not normalized and include only outlier cases. The four types of outlier cases (day-only, paid-as-day, etc.) are defined in terms of how each case qualifies to become an outlier and whether it is paid as a day or cost outlier.