The debate over payment for Medicare managed care - proposed changes for Medicare managed care payment system

Healthcare Financial Management, Nov, 1996 by Rick Gundling

Momentum for changing HCFA's payment methodology is increasing for several reasons. One reason is that enrollment in Medicare managed care programs is growing. As of September 1, 1996, approximately 4.5 million Medicare beneficiaries across the country were enrolled in 234 risk-based managed care plans. With an increasing number of Medicare beneficiaries covered under HMO risk contracts, a payment methodology that realizes cost savings is necessary.

Current Rate-Setting Methodology

Congress created the Medicare risk contracting program in 1982 to take advantage of the potential cost savings associated with HMOs. The Medicare program makes monthly per-capita payments to HMOs that provide healthcare services to the Medicare beneficiaries enrolled in the plans. Under current law, the annual rate of payment for each enrollee is set at 95 percent of the adjusted average per-capita cost (AAPCC), a prospective estimate of the average per-capita amount that would be payable if services were furnished on a fee-for-service basis by Medicare.

To determine appropriate payments, each enrollee in an HMO plan is assigned to a demographic class based on age, gender, Medicare entitlement status, institutionalization status, Medicaid status, and eligibility for other insurance. A set of AAPCC rates is estimated at the county level for all Medicare beneficiaries (except for those having end-stage renal disease, for which calculations are set at a state level). The calculation of the AAPCC rates is developed using four steps:

Step 1. HCFA projects the Medicare national average per capita costs, known as the United States Per Capita Costs (USPCC). Under both the Hospital Insurance (Part A) and the Supplementary Medical Insurance (Part B) programs, separate USPCCs are projected for the beneficiaries who are aged, disabled, or have end-stage renal disease. The effects of any new legislation or regulation is estimated and used to adjust the USPCCs as necessary.

Step 2. Geographic adjustment factors that adjust the USPCC to the county level are applied. These factors are computed using a five-year historical ratio between the county's and the nation's per-capita costs. Use of this ratio implies that there will be no change in the cost relationship between each county and the nation as a whole. Other adjustments, such as those necessitated by the effect of the prospective payment system on Part A services, may be applied.

Step 3. Six projected per-capita cost figures are developed for each county. Since the AAPCC is developed based on fee-for-service costs, expected Medicare per-capita costs for the county are adjusted to a fee-for-service basis by removing the reimbursement and enrollment costs attributable to organizations with risk contracts.

Step 4. The fee-for-service per-capita cost is converted into individual rates for each Medicare beneficiary; the rates vary according to demographic variables such as age, gender, Medicare entitlement status, institutionalization status, Medicaid status, and eligibility for other insurance.

According to a Congressional report, the current HMO rate-setting methodology hinders the Medicare program's efforts to realize savings. By tying HMO payment to Medicare costs in the fee-for-service sector, the current methodology causes three problems for HCFA. First, the rate-setting formula restricts potential savings and ignores the ability of competitive market forces to help produce additional savings. Second, a lack of adequate risk adjusters in the formula may mean that some HMOs will be overcompensated if the health status of their enrollees is better than average. Third, the formula may discourage plan participation by setting payments that are too low in some areas and by causing rates to vary greatly across geographic areas and over time.

The Prospective Payment Assessment Commission (ProPAC) and the Physician Payment Review Commission (PPRC) have proposed an alternative to the current AAPCC payment system. The commissions have recommended using a blend of a price-adjusted national average per-county cost and the current county AAPCC to reduce geographic variation and develop multicounty payment rates. They also have recommended measures that will help the Medicare program realize more of the savings generated by managed care.

Proposed Rate-Setting Methodology

HCFA has identified three ways to achieve cost savings: increase price competition among HMOs, improve risk adjusters, and revise the AAPCC-based capitation rate.

Increase price competition among HMOs. Under the present system, all HMOs in an area are paid the same capitation rate. With the payment rate fixed and independent of both HMO costs and local market competitiveness, HMOs compete only for the enrollment of Medicare beneficiaries. Beneficiaries may get a more deluxe benefit package, such as prescription drug or eyeglass coverage, but Medicare does not derive any greater savings. In 1995, HCFA's Office of Research and Demonstration announced an initiative called Medicare Choices to test alternate payment and contracting methods for health plans. HCFA recently implemented this demonstration project with 25 HMOs in eight cities and five rural areas. Other competitive bidding projects are in development. ProPAC and PPRC support competitive bidding methods for setting payment rates.