While supplies last! Free 2022 Coding Essentials for Infusion & Injection Therapy Services book with every RACmonitor webcast order. No code required. Order now >

Join the conversation on Twitter. Do you have any comments or other suggestions for improving the Medicare Hospital Admission Programs? If so let us know at http://twitter.com/racmonitor by using #Meyerson

EDITOR’S NOTE: This is the third installment in series of articles, detailing a set of proposed recommendations to revise Medicare’s hospital admission regulations.  Steven J. Meyerson, MD, submitted the proposed recommendations to CMS. In this installment, Dr. Meyerson discusses observation: inpatient versus outpatient.

Differentiating inpatient admission from outpatient observation services has presented a major challenge for hospitals and has been the cause of a great deal of lost revenue when Medicare auditors retrospectively determine that some patients admitted as inpatients should have been treated more appropriately as outpatients. As vigorously as they have tried to comply with Medicare regulations governing such matters, the ambiguity of the regulations and difficulty in applying them has led to a great deal of variability among interpretations of the criteria for inpatient admission by hospitals, the various Medicare auditors and the administrative law judges.

CMS has stated that the purpose of observation is to provide physicians an opportunity to continue the evaluation of a patient in an outpatient hospital setting in order to determine the medical necessity (or lack thereof) for inpatient admission. According to CMS, observation is a time for “short-term treatment, assessment and reassessment that are furnished while a decision is being made regarding whether patients will require further treatment as hospital inpatients or if they are able to be discharged from the hospital.” (Medicare Benefit Policy Manual, Pub 100-04, Chapter 4, Section 290)

RAC auditors have rejected many inpatient admissions, using the argument that care could have been provided “in a less intensive setting,” namely outpatient observation. But CMS has been unable to define the distinction between the two settings in terms of the care that can be provided in each. Hospitals collectively have lost billions of dollars to these retrospective recoveries for failing to assign patients under billing classifications that have ambiguous definitions.

According to MLN Matters Number SE1027, “Inpatient care, rather than outpatient care, is required only if the beneficiary’s medical condition, safety or health would be significantly and directly threatened if care was provided in a less intensive setting.” With that being said, Medicare provides no clear distinction between the inpatient and the “less intensive setting.” The Medicare Benefit Policy Manual, Pub 100-04, Chapter 4, Section 290 indicates that “Observation is a well-defined set of specific, clinically appropriate services,” but the manual never defines those services. In reality it would be impossible to define a set of services that constitutes “observation,” because the list could include nearly any hospital service that does not require inpatient admission (such as inpatient-only surgery or treatment in an intensive care unit).

Lacking a definition of “less intensive setting,” the proper use of observation for “short-term treatment” rendered to any given patient remains open to widely variable interpretation as well. WPS Medicare (LCD L32222) went so far as to note that “In many institutions there is no difference between the actual medical services provided in inpatient and outpatient observation settings; in those cases the designation still serves to assign patients to an appropriate billing category.” So hospitals are required to make a distinction despite WPS implying that there is actually “no difference” – while hospital revenues hang in the balance.

The Medicare Benefit Policy Manual, Chapter 1, states that “The decision to admit a patient is a complex medical judgment which can be made only after the physician has considered a number of factors, including the patient’s medical history and current medical needs, the types of facilities available to inpatients and to outpatients, the hospital’s bylaws and admissions policies, and the relative appropriateness of treatment in each setting.”

According to the Medicare Benefit Policy Manual, Chapter 1, Section 10, “QIOs consider only the medical evidence which was available to the physician at the time an admission decision had to be made. They do not take into account other information (e.g., test results) which became available only after admission, except in cases where considering the post-admission information would support a finding that an admission was medically necessary.”

Since, as discussed above, in many cases there is little or no difference between inpatient and observation in terms of the services provided, the tendency of RACs to focus recently on intensity-of-setting denials is troubling. Without fully acknowledging the value of the “complex medical judgments” made by physicians – decisions based on the patient’s history, severity of symptoms and assessment of the risk of an adverse outcome– this audit focus makes it difficult for hospitals to be sure that Medicare will pay for a short inpatient admission (of two days or less) unless the patient required an inpatient procedure or any type of intensive, high-risk or invasive treatment. This uncertainty has made hospitals and physicians more hesitant to admit patients as inpatients, and that could not have been the intent when CMS developed an APC and agreed to compensate hospitals for observation services. Increased application of observation status, driven at least in part by these considerations, has caught the attention of the U.S. Department of Health and Human Services (HHS) Office of Inspector General, which has included investigation of possible inappropriate overuse of observation in lieu of inpatient admissions in its current Work Plan.

RAC auditors tend to rule that patients whose conditions required only short inpatient stays did not require inpatient treatment, yet the Medicare Benefit Policy Manual, Chapter 1, Section 10 emphasizes that length of stay cannot be the sole reason for denying care. “Physicians should use a 24-hour period as a benchmark, i.e., they should order admission for patients who are expected to need hospital care for 24 hours or more, and treat other patients on an outpatient basis,” the manual reads.  “Admissions … are not covered or non-covered solely on the basis of the length of time the patient actually spends in the hospital” (Italics added for emphasis). Thus, it is inappropriate for an auditor to use short length of stay (i.e., a one- or two-day stay) and/or a benign hospital course as the only criteria to deny payment for an inpatient stay. Yet there are many reports of just this happening.

There have also been many payment denials based on a benign hospital course or negative test results reported after the time of admission but according to the Medicare Benefit Policy Manual, Chapter 1, Section 10, “QIOs consider only the medical evidence which was available to the physician at the time an admission decision had to be made. They do not take into account other information (e.g., test results) which became available only after admission, except in cases where considering the post-admission information would support a finding that an admission was medically necessary.”

Clearly  then denials based on length of stay or outcome alone disregard these CMS guidelines.


Proposals for Inpatient and Observation Registration and Billing

1.    CMS should accept nationally recognized screening criteria (InterQual Criteria and/or Milliman Care Guidelines) as a basis for determining whether inpatient admission or observation services are appropriate. Those patients who do not meet screening criteria should be referred to a physician advisor, who, as a member or agent of the utilization management committee, will evaluate for admission based on Medicare inpatient admission and observation criteria.

    • The Medicare Hospital Payment Monitoring Program Compliance Workbook states that “Screening criteria must be … used by the UM staff to screen admissions … The criteria used should screen both severity of illness (condition) and intensity of service (treatment). Cases that fail the criteria (for admission) should be referred to physicians for review. … Because it is not reasonable to expect that physicians can screen all admissions, continued stays, etc., for appropriateness, screening criteria must be adopted by physicians that can be used by the UM staff to screen admissions, length of stay, etc. … For the UM program to screen medical necessity appropriately, the decision to admit, retain or discharge a patient should be made by a physician, either through the use of physician approved or developed criteria or through a physician advisor.”
    • In addition, the Medicare Program Integrity Manual, Chapter 6, Section 6.5.1 requires that “The reviewer shall use a screening toolas part of their medical review of acute IPPS (Inpatient Prospective Payment System, i.e., acute-care hospital) and LTCH (long-term care hospital) claims. CMS does not require that you use a specific criteria set. In all cases, in addition to screening instruments, the reviewer applies his/her own clinical judgment to make a medical review determination based on the documentation in the medical record. As a result of this directive, the reviewer, who may be a nurse or a therapist in accordance with the Recovery Auditor Statement of Work substitutes his or her clinical judgment for that of the admitting physician.”
    • The Medicare Conditions of Participation (Code of Federal Regulations, Title 42, Volume 3, Sec. 482.30, Conditions of participation: Utilization review c) Standard: Scope and frequency of review) requires that “The UR plan must provide for review for Medicare and Medicaid patients with respect to the medical necessity of admissions to the institution.”
    • InterQual Criteria and Milliman Care Guidelines are used throughout the hospital industry to screen patients for level of care. These criteria are reliable (though imperfect) indicators of admission status. The number of truly “inappropriate” admissions among those that meet these objective criteria is very small. Secondary review by a physician advisor is recommended by the publishers of these criteria sets for those patients who don’t meet the first level of screening criteria. Medicare likewise recommends physician review for these patients.
    • If CMS accepted meeting these objective criteria as sufficient evidence for a given level of care, it would provide consistent parameters for care that would be uniform across the country and among the various Medicare contractors and auditors. 
    • An exception to accepting objective criteria should be allowed if treating physicians are found to have failed to address or treat clinical issues that drove the level of care (for example, failing to correct electrolyte abnormalities when abnormal lab values seemed to justify admission).
    • Secondary review applied to those patients who fail to meet admission screening criteria could be judged using current Medicare inpatient criteria (i.e., “a complex medical judgment made by a physician”), which provides a fair description of the application of physician-level clinical decision-making.  However, the physician’s decision to admit should be judged by another physician whose training and experience provides expertise in the clinical area under review and who is trained in the admission regulations.

2.    Observation should be redefined as “a period of time immediately following an evaluation in the emergency department or physician’s office during which a patient is placed in an outpatient hospital bed so that the physician either may a) continue the diagnostic testing and clinical evaluation of a patient’s acute medical condition in order to determine whether the patient will be stable for release within 24 hours or require admission to the hospital as an inpatient; or b) order simple, short-term treatment that reasonably can be expected (at the time it is ordered) to be completed within 24 hours. This would apply to any patient deemed not to require inpatient admission (a decision, again, based on recognized screening criteria supplemented by physician judgment and, when needed, secondary review).

    • The role of observation should be defined more clearly than it is at present. Observation should be limited to a brief period in which to complete a diagnostic workup as an extension of an ED visit or office visit, and used to determine the need for continued in-hospital care. If this process takes longer than 24 hours, inpatient admission would be appropriate.
    • Inpatient admission should be appropriate for any patient who requires more than 24 hours in a hospital bed for medically necessary care that can only be provided in a hospital.
    • This proposal is in alignment with current CMS admission policies, which state that when the physician expects a patient’s care to require more than 24 hours, the patient should be admitted as an inpatient. Actual length of stay of greater than 24 hours also should require admission when the physician’s expectation of release in less than 24 hours turns out to be too optimistic. The notion that actual length of stay does not determine coverage should be replaced by this standard.
    • Observation is not a substitute for a one- or two-day hospital admission and should not be used as such by a hospital (or imposed upon it, based on retrospective record review by a recovery auditor or Medicare contractor) if admission criteria were met at the time of admission (as determined by either InterQual or Milliman criteria or the physician advisor, per the process described above).



3.    A physician ordering observation should document the medical necessity for the service, recording a) the signs and symptoms being evaluated or treated, b) the diagnostic and/or treatment plan, and c) certification that observation is medically necessary based on an explicit risk assessment. That assessment should include a) a presumptive diagnosis or differential diagnosis and b) a statement of potential adverse outcome(s) specific to the patient’s condition.

    • Medical necessity may be documented using an optional form to be developed and provided by CMS for this purpose.

4.    Observation should not be ordered when a patient can be released from the ED safely. The physician must justify medical necessity for observation to avoid overuse of those services. The current documentation requirements for observation are vague and open to widely varying interpretation. (The Medicare Benefit Policy Manual, Section 70.4.A, simply states that observation must be “to evaluate an outpatient’s condition or determine need for an inpatient admission.”) Observation may last no longer than 24 hours. If a patient is not stable for release after 24 hours, the physician should document the medical necessity for admission, taking into account the medically necessary services the patient must receive (services that cannot be performed in a home setting, if the patient came from home, or in the institution where the patient has been residing, admitted as an inpatient).

    • The physician must document via either progress notes or medical orders the patient’s medical needs that require continued in-hospital care and the risk of specific adverse outcomes if the patient were to be released.
    • This approach clarifies that observation is a continuation of the diagnostic evaluation begun in the ED, and that there is a limited amount of time available for this. It defines medical necessity for admission after 24 hours of observation as a need for continued in-hospital care. This is quite different from the standard for admission initially made in the ED, when the patient’s clinical future during the next 24 hours is unknown and unknowable.
    • To prevent “gaming the system” by intentionally prolonging an observation stay – and to avoid rewarding hospital inefficiency or unnecessary delays caused by physicians, patients or families – inpatient admission should not be allowed if a stay of longer than 24 hours occurred due to a hospital’s inability to provide services in a timely manner or if due to one of the other non-clinical causes mentioned. For instance, admission may not be ordered for patients who are stable but “waiting for a procedure;” there would be no weekend inpatient stays due to unavailability of services such as cardiac catheterization or endoscopy on weekends. When a stay is prolonged by hospital-caused delays or physician or patient/family delays, the observation stay may extend beyond 24 hours without inpatient admission. However, there would be no additional reimbursement for the hospital.  Billing for observation hours should cease once the patient is stable and just “waiting for a procedure.”
    • Admission should not be used for convenience or prolonged for testing unrelated to the reason for the observation stay.

5.    If the treating physician reasonably believes that a patient’s treatment in the hospital will require greater than 24 hours, he or she should document this expectation and order inpatient admission. 

    • This is similar to current guidelines, but it makes it clear that inpatient admission is acceptable if the expected length of stay is greater than one day. This expectation would have to be stated explicitly by the admitting physician and supported by documentation in the physician’s notes, plan of care and/or admission orders.

6.    Since length of stay greater than 24 hours would be a criterion for inpatient admission, a stay less than 24 hours would be deemed appropriate for observation. With the following exceptions, if an inpatient stay lasts one day or less, the admission should be canceled and the stay billed as outpatient observation – with the observation beginning at the date and time of the inpatient admission order, as if observation had been ordered at that time.

    • Exceptions to retrospective conversion to observation would be when a) patients are transferred to another acute-care hospital; b) patients sign out against medical advice; c) patients die less than 24 hours after admission; and d) patients are admitted for inpatient-only surgery.

7.    The “observation clock” timing an observation stay should begin at the date and time when an order for observation was entered into the medical record. The clock should stop when the last medically necessary service related to the reason for observation is provided, without deductions for “active monitoring” as is currently required.

    • This is to clarify what is meant by beginning observation billing “at the clock time that observation care is initiated:” The term initiated means ordered.
    • Since hospitals are paid a flat rate for observation (APC 8002 or 8003), the hospital incurs the same expense whether a patient is in a bed in the observation unit or is in another part of the hospital receiving another outpatient service. As such, “carving-out” from billed observation hours of time under “active monitoring” should not be required.  CMS has not been able to define active monitoring so hospitals do not even know what services to include. APCs (ambulatory payment classifications) for outpatient services include a nursing component, but the situation is very different when comparing a patient who comes from home to one who is in a hospital bed receiving observation services. Hospital costs for the observation patient are not reduced when the patient receives care in another part of the hospital. Nursing services rendered during a procedure should not be considered “double dipping” when in reality the hospital has double costs – for the observation bed and for the actively monitored procedure, simultaneously. Both services should be reimbursed; this way there is no need to carve out time in which the patient is being monitored off the observation unit or medical/surgical floor.



8.    Hospitals should not bill for medications provided or administered to outpatients at inpatient rates.

    • Patients in observation should be allowed to bring their medications from home (in marked pharmacy bottles) and have them inspected and prepared for administration by the hospital pharmacy for a minimal fee – or they may receive their medications from the hospital’s outpatient pharmacy, at retail rates.
    • Hospitals are allowed to have only one charge master, so they must bill outpatients for medications at the same rate at which they bill inpatients. Since inpatient medication charges are rolling into the DRG payments (per diem for commercial patients), hospitals rarely are paid the full inpatient rate. Hospitals should be allowed to charge retail pharmacy rates to outpatients in hospital beds (e.g., observation patients).

9.    To protect Medicare beneficiaries from excessive costs, their out-of-pocket expenses for an observation stay should be capped at the level of the current inpatient deductible.

    • Patients should not be penalized for being placed in an outpatient status by being required to pay more than if they were admitted as inpatients.

10.    The admitting physician should be responsible for documenting medical necessity of inpatient admission at the time an order for such is given, with specific documentation requirements including the reason for admission, the diagnosis or suspected diagnosis (a “rule-out” diagnosis would be acceptable as a suspected diagnosis, when clinically justified) and an explicit risk assessment. The risk assessment should include the possible adverse outcome(s) associated with the reason(s) for admission. Also, either in his or her admission note or admission orders, the physician should describe the required treatment and/or monitoring that only can be given in a hospital setting. 

    • This provision clarifies the role of the admitting physician and the necessity to document details of the decision to admit. The elements mentioned already either are required by Medicare regulations or represent good medical practice. Medical necessity may be documented using an optional form to be developed by CMS for this purpose.
    • To align the incentives of physicians and hospitals, physician payment for initial hospital care for observation and for inpatient admission will require medical necessity documentation by the physician. This documentation justifies both the hospital stay and the physician’s services.
    • Making physician payment dependent on documentation of medical necessity will ensure compliance with documentation requirements and reduce unnecessary admissions, thus reducing the cost to Medicare.

11.   Documentation by a physician adviser, recorded at or near the time of admission and used by the admitting physician to help determine level of care, should be considered by any auditor in assessing medical necessity for admission.

12.   In light of the increased number of short inpatient stays that likely will result from this policy, CMS should reevaluate DRG relative weights. This will require a reduction in base DRG payments for higher-level DRGs so the result will be revenue-neutral.

    • Admission from observation after 24 hours will increase the number of short inpatient stays. Adjustment of all DRG payments to account for this additional cost can keep the conversion to inpatient stays revenue-neutral and protect hospital finances as well as patient out-of-pocket costs.
    • Consideration should be given to developing “short stay” DRGs to reimburse hospitals for non-surgical short stay admissions.

13.   For those patients admitted as inpatients following a period of observation, the three-day stay required to qualify for SNF coverage should be applied retroactive to the date on which the patient was placed in observation.

    • Patients will still require a medically necessary inpatient stay to qualify for SNF care, but the three-day inpatient requirement will be dropped, so that any valid three-day stay that included at least one medically necessary inpatient day would be sufficient. An order for observation would represent the initiation of the episode of care. Inpatient admission following observation indicates that the patient actually required inpatient care from the outset. Physicians cannot always predict when this will be the case.

14.   Retroactive orders should be allowed when used to correct billing errors. Medicare recipients would be held harmless from any additional charges due to changes in billing status made after discharge or without proper notice. 

    • The goal in billing for hospital care should be correct billing based on the patient’s clinical condition and the services required, not compliance with timing rules.
    • When a UR committee determines that an inpatient admission should have been billed as observation, but Condition Code 44 cannot be implemented because the patient already has been discharged, the hospital should be allowed to bill the entire stay as an outpatient encounter, including billing for observation. Administrative law judges have recognized the reasonable nature of this proposed policy and have been ordering payment for Part B and observation when denying Part A payment. CMS has acknowledged this practice and directed contractors to follow these ALJ orders (CMS Memorandum TDL-12309, dated July 13, 2012: “Administrative Law Judge Decisions”). There appears to be no logical reason why this shouldn’t be allowed without an ALJ order when a Medicare auditor disallows payment under Part A if there had been medical necessity for observation at the outset.
    • Just as they are now, patients would be held harmless from any increased charges they might be exposed to under Part B billing. Physicians must be notified of changes in hospital billing so their billing can be consistent with that of the hospital.

EDITOR’S NOTE: In his next article, to be published on Thursday, Feb. 7, 2013, Dr. Meyerson proposes additional recommendations for revising the classification of patients undergoing inpatient and outpatient surgery and procedures as well as the use of observation for these patients.

About the Author

Steven J. Meyerson, MD, is vice president of the Regulations and Education Group (“the REGs group”) for AccretivePAS®. He is Board Certified in Internal Medicine and Geriatrics. Before joining Accretive Physician Advisory Services in 2010 he served as the medical director of care management at Baptist Hospital in Miami, Florida. He has distinguished himself by contributing to the development of innovative service lines and managing education on Medicare regulatory compliance for AccretivePAS®.

Contact the Author


To comment on this article please go to editor@racmonitor.com

Disclaimer: The content of this article does not constitute legal or clinical advice upon which readers may rely, and the appropriate professionals should be contacted if there are any questions regarding the content as it applies to the reader.

Click to read Part 2 of this article

Click to read Part 1 of this article

Join the conversation on Twitter. Do you have any comments or other suggestions for improving the Medicare Hospital Admission Programs? If so let us know at http://twitter.com/racmonitor by using #Meyerson


Steven J. Meyerson, MD, CHCQM-PHYADV

Steven Meyerson, MD, CHCQM-PHYADV, is the founder of Steven Meyerson Consulting. Dr. Meyerson is a nationally recognized expert and consultant in the physician advisor role, case management, and hospital Medicare compliance. He is board certified in internal medicine and geriatrics and serves on the board of the American College of Physician Advisors (ACPA). He edits and writes for the ACPA online blog.

You May Also Like

Leave a Reply

Your Name(Required)
Your Email(Required)