Complexity, caution mark start of PPS for capital - prospective payment system's effect on hospitals and healthcare facilities

Healthcare Financial Management, Nov, 1991 by Marion M. Torchia

After a summer spent negotiating improvements to the Health Care Financing Administration's (HCFS's) proposal to incorporate capital payments into Medicare's prospective payment system (PPS), healthcare facilities bowed to the inevitable and setteld down to live with the new system on Oct. 1. A complex new payment structure has emerged from these negotiations, and its effects on hospitals and the nation's healthcare system cannot be entirely determined. But the industry can at least read the fine print, begin to assess the new system's effects, predict some implementation problems, prepare to cpe with them, and take stock of unanswered questions that policy makers must confront in the next few years.

Negotiations with HCFA on the final rule were difficult. Hospitals and industry groups clearly resisted the change from cost-based reimbursement, but hospitals were divided into "winners" and "losers" by the very nature of a plan to pay then based on national average costs. HCFA's Feb. 28 proposed rule also was carefully crafted and difficult to modify without upsetting a delicate balance among hospitals.

Particular problems arose from Congressionally mandated "budget neutrality." This policy created a zero-sum game, eliminating prospects for new funding and requiring that existing funds be spread among hospitals.

Two payment tracks

As expected, HCFA's finla regulation, published in the Aug. 30 Federal Register, retains the basic framework of the February proposal (see related article on page 72). During a 10-year transition, hospitals will be divided into two groups according to whether they are "high cost" or "low cost" in HCFA's view. High-cost hospitals will be "lheld harmless" to a degree, meaning that a portion of their old capital (projects already on the books or demonstrably obligated) will continue to receive cost-based payments. Low-cost hospitals will be paid according to a fully prospective method, but heir payments will be based on a proportion of their own costs. This portion of the payment method declines gradually during the transition.

HCFA made a series of major adjustments to the strongest industry criticisms (see October "Updata").

Hold harmelss provisions. First and foremost, hospitals sought and gained more complete sheltering of old capital. As originally proposed, HCFA's hold harmless payment method would have paid qualifying capital expenses at 90 percent of costs.

Hospitals argued that this protection fell short in two major respects. First, cut-off points for old capital made no provision for projects that were ireeversibly obligated but would not be completed until several years into the transtition. Second, HCFA's definition of old capital unjustifiably excluded certain important categories of capital costs, notably leases, rentals, taxes, and insurance expenses.

HFMA and other industry groups pointed out that major capital projects typically have pipelines of three or more years. Industry groups also demonstrated that many hospitals now in the early stages of capital projects could be seriously harmed because, in years leading up to a large expenditure, a hospital's capital expense often are lower than normal. If a facility's capital hospital-specific base year happened to fall on a low-cost, pre-project year, its payments would be permanently underpriced.

Defining old capital. In public comments on the proposed rule, HFMA also warned that, it HCFA insisted on excluding leases, rentals, and other costs from its definition of old capital, hospitals would be unfairly penalized by their choice of financing. What is more, hospital finance officers and Medicare auditors would face a difficult task of separating out various sub-categories of old and new capital because of arbitrary new distinctions among categories of allowable capital costs.

HCFA listened to these arguments. It set a later cut-off point for old capital with a "date certain" (Dec. 31, 1990) rather than a cost report end point. As a result, HCFA eliminated unequal treatment of hospitals with different fiscal years. HCFA also agreed to recognize obligated capital assets once they are put into use, while it imposed specific requirements to avoid paying for cost over-runs or expansions of project plans subsequent to the cut-off date.

More Flexibility

In granting these concessions, HCFA made the payment system significantly more flexible in the early years of the transition that it proposed in February.

Between now and the end of hospital's cost reporting period that begins' in FY94, facilities can get credit for obligated capital as it comes into use. Each year, a hospital can request that its hospital-specific rate be redetermined and that its payment method be changed accordingly. Yearly opportunities for reassessment will play much better than the rigid, locked-in system HCFA proposed in February.

The final rule contains several other improvements. Hold harmless payments will not, as proposed, fall under the budget neutrality adjustment that is built into the Federal rate and applied to the hospital-specific rate. HCFA also deleted an unwarranted limit on payments that hold harmless hospitals could receive for new capital.