Rye Psychiatric Hosp. Center, Inc. v. Shalala

• Decision Date: 10 April 1995
• Docket Number: 1253,D,Nos. 921,s. 921
• Citation: 52 F.3d 1163
• Parties: , Medicare & Medicaid Guide P 43,161 RYE PSYCHIATRIC HOSPITAL CENTER, INC., Plaintiff-Appellee-Cross Appellant, v. Donna E. SHALALA, Secretary, United States Department of Health and Human Services, Defendant-Appellant-Cross Appellee. ockets 94-6172, 94-6198.
• Court: U.S. Court of Appeals — Second Circuit

Page 1163

52 F.3d 1163

47 Soc.Sec.Rep.Ser. 522, Medicare & Medicaid Guide

P 43,161

RYE PSYCHIATRIC HOSPITAL CENTER, INC. Plaintiff-Appellee-Cross Appellant, v. Donna E. SHALALA, Secretary, United States Department of Health and Human Services Defendant-Appellant-Cross Appellee.

Nos. 921, 1253, Dockets 94-6172, 94-6198.

United States Court of Appeals Second Circuit.

Argued Jan. 20, 1995.

Decided April 10, 1995.

Frederick A. Nicoll, New York City, for plaintiff-appellee-cross appellant.

Nancy L. Savitt, Asst. U.S. Atty. S.D.N.Y. (Mary Jo White, U.S. Atty., Steven M. Haber, Asst. U.S. Atty. S.D.N.Y., of counsel), for defendant-appellant-cross appellee.

Before: NEWMAN, Chief Judge, MINER, Circuit Judge, and KAPLAN, District Judge. ^*

KAPLAN, District Judge.

Since the 1960s, the Social Security Act's Medicare provisions, 42 U.S.C. Secs. 1395-1395ccc (1988) ("Medicare"), have reimbursed hospitals and other providers for many of the costs of medical care provided to qualifying persons. This case concerns the relationship between two of the hospital cost reimbursement provisions of Medicare.

The prospective payment system ("PPS"), established pursuant to the Social Security Amendments of 1983, requires the Secretary of the Department of Health and Human Services (the "Secretary") to increase payments to hospitals covered by PPS that treat a disproportionate number of low-income patients (the "Disproportionate Share Adjustment" or "DSA"). 42 U.S.C. Sec. 1395ww(d)(5)(F). This reflects a Congressional judgment that low-income patients frequently are in poorer health, and therefore cost more to treat, than others. ¹ Given the structure of the PPS reimbursement system, which bases reimbursement on national and regional average costs for the treatment of particular diseases, the lack of such an adjustment would penalize hospitals treating disproportionate numbers of low-income patients.

Plaintiff Rye Psychiatric Hospital Center, Inc. ("Rye") is not subject to PPS. Its Medicare reimbursements are governed instead by provisions first enacted in the Tax Equity and Fiscal Responsibility Act of 1982 ("TEFRA"). Unlike PPS, the structure of the TEFRA reimbursement system takes into account the presumptively higher cost of treating low-income patients in setting the base reimbursement rate. Thus, while TEFRA provides for adjustment in the reimbursement rates paid to Rye and other TEFRA hospitals for distortions caused by events beyond their control or by extraordinary circumstances, 42 U.S.C. Sec. 1395ww(b)(4)(A), it does not contain a DSA, i.e., a required adjustment based solely on the proportion of low-income patients treated. Accordingly, a regulation adopted by the Secretary limits DSAs to hospitals that are subject to PPS. See 42 C.F.R. Sec. 412.106(a)(1)(ii) (1993) (limiting consideration to "patient days attributable to areas of the hospital that are subject to [PPS] and exclud[ing] all others").

Rye brought this action for, inter alia, a declaration that the regulation excluding TEFRA hospitals from receiving DSAs conflicts with the statute--in other words, that the statute entitles Rye to a DSA--or, alternatively, that the statute deprives Rye of the equal protection of the laws. The District Court, on cross-motions for summary judgment, rejected Rye's contention that 42 U.S.C. Sec. 1395ww(d)(5)(F) requires payment of the DSA to Rye. It nevertheless ruled that the adjustment provision of TEFRA, 42 U.S.C. Sec. 1395ww(b)(4)(A), which requires the Secretary to adjust reimbursements to Rye and other TEFRA hospitals where changes in "the case mix of such hospital[s]," among other factors, create a distortion in cost increases, compels the Secretary to adjust reimbursements to Rye on substantially the same basis as if Section 1395ww(d)(5)(F) applied directly. Rye Psychiatric Hospital Center, Inc. v. Shalala, 846 F.Supp. 1170 (S.D.N.Y.1994). It did so on the theory that the term "case mix" in 42 U.S.C. Sec. 1395ww(b)(4)(A) "includes the concept of a 'significantly disproportionate number of low-income patients' as defined in 42 U.S.C. Sec. 1395ww(d)(5)(F)."

The Secretary appeals from the declaration requiring application of the substance of the DSA under Section 1395ww(b)(4)(A). Rye cross-appeals from the District Court's determination that Section 1395ww(d)(5)(F) does not directly require payment of the DSA to Rye.

The District Court correctly held that Section 1395ww(d)(5)(F) does not require payment of the DSA to TEFRA hospitals like Rye. Its conclusion that the Secretary is obliged to apply the substance of the DSA under Section 1395ww(b)(4)(A), however, fails to give due regard to either the statutory language or the fundamentally different structures of the TEFRA and PPS reimbursement systems. Indeed, a DSA in the context of the TEFRA reimbursement system is unnecessary to take appropriate account of the higher cost of treating low-income patients and, in some circumstances, would lead to overreimbursement. Rye's constitutional challenges are without merit. Accordingly, we affirm the District Court's holding that Rye is not entitled to a Disproportionate Share Adjustment under Section 1395ww(d)(5)(F). We reverse the determination that the Secretary is obliged by Section 1395ww(b)(4)(A) to adjust reimbursement rates based solely on the proportion of low-income patients served by a TEFRA hospital.

Statutory and Regulatory Framework

The Original Reasonable Cost System

At its inception, Medicare reimbursed hospitals primarily through a retrospective, reasonable cost system. At the end of each fiscal year, hospitals reported the total costs for which they sought reimbursement. These were subject to audit. See generally Tucson Medical Center v. Sullivan, 947 F.2d 971, 973-74 (D.C.Cir.1991). Reimbursement was limited to reasonable or necessary charges. 42 U.S.C. Sec. 1395f(b)(1) (1988). The Secretary was given broad discretion to eliminate costs "unnecessary in the efficient delivery of needed health services." 42 U.S.C. Sec. 1395x(v)(1)(A) (1988).

The reasonable cost system, Congress soon concluded, did not provide hospitals with sufficient incentives to be efficient. Because the reasonable cost system was an actual cost system, "[t]he more [hospitals] spent, the more they were reimbursed." Tucson Medical Center, 947 F.2d at 974. In consequence, Congress in 1972 authorized the Secretary to impose prospective limits on certain costs. Social Security Amendments of 1972, Pub.L. No. 92-603, Sec. 223(b), 86 Stat. 1329, 1393 (1972). The Secretary thereupon established a schedule of reimbursable and non-reimbursable expenses in 1974. See 42 C.F.R. Sec. 413.30 (1993).

The TEFRA System

By the early 1980s, Congress concluded that the reasonable cost system, even supplemented by the Secretary's schedule, did not curb costs sufficiently and sought more control. Its first step was the enactment in 1982 of the TEFRA reimbursement system, which was intended to remain in effect for up to three years while the Secretary developed a prospective reimbursement system. Tucson Medical Center, 947 F.2d at 974-75; Pub.L. No. 97-248, 96 Stat. 324 (1982), codified in 42 U.S.C. Sec. 1395ww(b) (1988). Although most hospitals now are covered by the PPS, which became effective in 1983, Rye still is covered by TEFRA for reasons discussed below.

The initial step in fixing a TEFRA hospital's entitlement to reimbursement, generally speaking, is to determine its total "allowable costs" for a base year. 42 C.F.R. Sec. 413.40(b)(1) (1993); Tucson Medical Center, 947 F.2d at 975. Reimbursements in subsequent years, however, do not depend on total or allowable costs incurred in those subsequent years. Rather, a maximum permissible reimbursement, or "target amount," for each subsequent period is established by multiplying the figure for the base year by a legislatively determined percentage. ² 42 U.S.C. Sec. 1395ww(b)(3) (1988); 42 C.F.R. Sec. 413.40 (1993). If a hospital expends more than its target amount, or ceiling, it is reimbursed only up to the amount of the ceiling. If its costs are less than its ceiling, it is given a bonus payment of half the difference between its costs and the ceiling. 42 U.S.C. Sec. 1395ww(b)(1)(A) (1988); 42 C.F.R. Sec. 413.40 (1993); see generally Connecticut Hospital Association v. Weicker, 46 F.3d 211, 214-15 (2d Cir.1995) (hereinafter "CHA ").

Absent successful application for an adjustment, as outlined below, the target amount so determined is the maximum Medicare reimbursement that a TEFRA hospital may receive for any given year. How fully a TEFRA hospital is reimbursed from year to year thus depends on (1) how representative its base period is of its actual total costs in the relevant year, and (2) how closely the Congressionally fixed percentage increase mirrors any increase in the hospital's costs. If a hospital's actual total costs equal its costs in the base period plus the statutory increase, it will be fully reimbursed. If a TEFRA hospital's actual total costs in any given year differ from the costs in the base period plus the statutory increase, however, its reimbursement may either fall short of or exceed its actual total costs. Thus, TEFRA seeks to reward hospitals that spend less than the target amounts and penalize those that spend more.

Congress recognized that a variety of circumstances might prevent the target amount from reflecting fairly the costs for which a hospital should be reimbursed. TEFRA therefore allows for adjusting reimbursement amounts "where events beyond the hospital's control or extraordinary circumstances, including changes in the case mix of such hospital, create a distortion in the increase in costs for a cost reporting period...." 42 U.S.C. Sec. 1395ww(b)(4)(A) (1988). See generally CHA, 46 F.3d at 214-15. The regulations adopted under Section 1395ww(b)(4)(A) permit two types of adjustments.

Under 42 C.F.R. Sec. 413.40(g), the Secretary may adjust the amount of...