Capital PPS: trekking through the labyrinth - Health Care Financing Administration's new method in prospective payment system

Healthcare Financial Management,  Nov, 1991  by Paul L. Grimaldi

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The rules governing Medicare's new capital payment system are intricate and will complicate a hospital's capital planning process. They also will expand Medicare's cost report and impose new reporting requirements on hospitals, such as separately identifying the components of old and new capital costs. Full implications of the new rules may not be known or felt for several months or years.

Effective for cost reporting periods beginning after Sept. 30, 1991, Medicare will pay for inpatient capital costs on a per discharge basis rather than an aggregate reasonable cost basis.

The Health Care Financing Administration (HCFA) will phase in the new system over 10 years. An exceptions policy will ensure that a hospital's capital reimbursement does not fall below a certain level and will provide additional payments to qualifying hospitals that incur unanticipated capital costs of at least $5 million.

The new approach applies to all prospective payment system (PPS) hospitals and PPS-exempt distinct part units. The approximately 2,500 non-PPS hospitals and units are exempt from the new system and will continue to receive capital payments on a cost-related basis. Rural primary care hospitals also are exempt.

Under the new approach, Medicare will calculate a hospital's capital payments for inpatient care under either a fully prospective or hold harmless method. The method in effect for a hospital's cost reporting period beginning in FY94 generally applies for the remainder of the transition period. Beginning in FY2001, payments to all PPS hospitals and units will be predicated on the fully prospective method.

Fully Prospective

Medicare will pay a hospital's capital expenses under a fully prospective method if its hospital-specific capital rate per Medicare discharge is below the Federal capital rate per Medicare discharge. For FY92, the fully prospective capital rate is 90 percent of the hospital-specific rate and 10 percent of the Federal rate. In each of the next nine transition years, the blend is slated to change by 10 percent, as shown in Exhibit 1 -- 80/20 in FY93, 70/30 in FY94, and so on. HCFA predicts that 71 percent of the hospitals will receive a fully prospective rate in FY92.

Hospital-specific capital rate. Exhibit 2 calculates the hospital-specific capital rate for a hypothetical teaching facility in Denver, Colo. The calculation excludes sub-provider capital costs because they are not paid under the new method. The hospital's cost reporting period is assumed to start on Oct. 1, 1991.

The fully prospective payment method will use a hospital's allowable Medicare inpatient capital costs in FY90 to establish the hospital-specific capital rate for FY92. Capital cost is divided by the number of transfer-adjusted Medicare discharges in a base year. This calculation recognizes the fact that a transferring hospital is paid less than diagnosis related group (DRG) rates when it transfer patients before their geometric mean lengths of stay are reached.

A hospital arrives at its number of transfer adjusted discharges by multiplying its number of Medicare discharges by its transfer factor. A transfer factor cannot be greater than 1.0 and usually is between .98 and 1.0, recognizing that some patients have been transferred before reaching the geometric mean lengths of stay for their DRGs. The fractional value for a transferred patients is obtained by dividing the patient's length of stay by the geometric mean length of stay for the DRG. If such a patient is hospitalized for four days, for instance, and the geometric mean stay is five days, the patient is counted as 0.8 of a discharge.

EXHIBIT 1: Capital

payment blend (a)

  Federal           Hospital            Federal
fiscal year (b)    percentage          percentage
    1992              90%                 10%
    1993              80                  20
    1994              70                  30
    1995              60                  40
    1996              50                  50
    1997              40                  60
    1998              30                  70
    1999              20                  80
    2000              10                  90
    2001               0                 100

(a) Under the fully prospective method.

(b) Oct. 1 through Sept. 30.

Similarly, the hospital-specific, transfer-adjusted, case-mix index does not assign a full DRG cost weight to a transferred patient who is hospitalized less than the geometric average. The adjusted DRG weight would be computed by multiplying the DRG weight by the ratio of the transferred patient's stay to the DRG's geometric average stay. For a DRG weight of 2.5 and a ratio of 0.6, the adjusted DRG weight would be 1.5.

The update factor represents the increase in inpatient capital cost per Medicare discharge (adjusted for case-mix change) expected to occur between the base and rate periods. The hospital's base period is its latest 12-month cost reporting period ending before Jan. 1, 1991. The net update factor for Federal FY90-FY92 is 16.45 percent.