Medicaid Hospital Outlier Payment Followup for Fiscal Years 2004 Through 2006

Our review found that eight State agencies did not calculate Medicaid inpatient hospital cost outlier payments (Medicaid outlier payments) to effectively limit the payments to extraordinarily high-cost cases. The review is a followup to audits we conducted in 2004 of these payments in eight State Medicaid agencies for fiscal years 1998 through 2003. During this period, Medicaid outlier payments increased substantially faster than Medicaid diagnosis-related group (DRG) base payments and Medicare outlier payments. The base payment within each DRG is fixed. To protect hospitals against large financial losses from extraordinarily high-cost cases, State agencies may supplement base payments with an additional payment, the Medicaid outlier payment. Medicaid outlier payments are calculated using formulas that vary by State. Because hospitals cannot identify actual costs for specific patients, the formulas apply cost-to-charge ratios to current charges to convert those charges to estimated costs. The eight State agencies calculated a hospital-specific cost-to-charge ratio based on actual costs and charges reported on each hospital's Medicaid cost report, but they used outdated cost-to-charge ratios and did not reconcile Medicaid outlier payments upon cost report settlement.

We recommended that CMS encourage all State agencies that make Medicaid outlier payments to (1) use the most recent cost-to-charge ratios to calculate Medicaid outlier payments, (2) reconcile Medicaid outlier payments upon cost report settlement or use an alternative method to ensure that outlier payments are more closely aligned with actual costs, and (3) amend their State plans accordingly. CMS agreed with our first and third recommendations and partially agreed with the second recommendation as it was phrased in our draft report. After reviewing CMS's comments, we revised our second recommendation.