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[1] and its answer is that the CAHs in fact will be subject to RAC review. An adjustment will be reflected on the final PS&R and then cost-based reimbursement will be adjusted if any overpayments are discovered.

We know, then, that the RACs can examine CAHs – the question now becomes, will they? And, if so, when will they? The most obvious issue is the cost report itself. A cost report is a highly technical document, and to fully examine and audit one would represent a very real investment of RAC resources. Most likely the RACs will look for areas of overutilization, which drive up the overall payment to a CAH. Identifying possible overpayment issues for CAHs requires a significant change in perspective. For instance, in the case of a prospective payment hospital, a short-stay inpatient admission that should have been an observation will generate a significant overpayment. For a CAH this same situation has little meaning because the costs incurred for the short stay, either as an inpatient or as an outpatient, are the same.  Thus, no overpayment, as such, occurs.

We will examine how CAHs are different from prospective payment system (PPS) hospitals and then look at some examples of issues that CAHs need to address in order to prepare for the RACs.

How Are CAHs Different?

CAHs are reimbursed for Medicare inpatient and outpatient services on a basis of cost. In theory, the RACs are supposed to address fee-for-service payment systems, thus excluding CAHs from scrutiny. However, as noted above, CAHs will be subject to RAC review. Identifying issues for CAHs therefore is a challenge that requires a true paradigm shift in thinking.

There is also a special payment process for physicians that participate with CAHs in Method II reimbursement. The Method II payment process addresses hospital outpatient services provided by physicians. This payment mechanism does not apply to inpatient services. Basically, for hospital outpatient services, physicians receive reduced payment from Medicare – this is called the site-of-service reduction.[2] Method II reimbursement makes up for much of this reduction, and then there is also the hospitals’ cost-based payment. Thus, this payment process and overall reimbursement is quite attractive to providers.

Could this Method II payment process generate possible overpayments? Let us join Dr. Brown, a visiting surgeon at the fictitious Apex Medical Center.

Case Study
CAH Method II Payment – Dr. Brown has scheduled a surgical procedure for a patient. It can be performed on an outpatient basis, generally with a day or two of observation, or it can be performed as an inpatient procedure, again with a day or two in the hospital. Dr. Brown recently joined the Apex Medical Center and is new to implementing Method II billing and associated reimbursement. If the surgery is performed on an inpatient basis, the hospital will be reimbursed on a cost basis, and Dr. Brown will experience a full reduction in professional payment. However, if the surgery is performed on an outpatient basis, the hospital will receive essentially the same cost-based reimbursement, but Dr. Brown will receive increased payment under Method II.

Note the shift in perspective. For PPS hospitals, the concern is generating additional payment by having services performed on an inpatient basis when they could have been performed on an outpatient basis, reducing the Medicare payment. For CAHs using Method II, the concern is switched; there is greater reimbursement overall for outpatient relative to inpatient. This type of shift in perspective leads to some very interesting situations, as illustrated by the case study above.

CAH Overpayment Issues

Some PPS hospital issues apply to CAHs, while others have little relevance. Unless there is some other payment system involved, most of the coding and billing issues found through the automated reviews have limited applicability. Let us take two simple examples:

a.   Two blood transfusion codes, CPT 36430, registered on the same date of service. While this is a coding error, for CAHs there would be no overpayment. Whatever costs were incurred would be reimbursed regardless of the coding.

b.   Inpatient billing for DME is very different. If this is true DME, the billing should be made to the DME Regional Carrier and paid under the DME Fee Schedule. Reported costs for the DME might very well be reimbursed under the cost-based process. Thus, this issue is applicable to CAHs as well as PPS hospitals.

Overutilization is the key issue for CAHs. The fundamental factor is medical necessity. CAH compliance personnel should look for services that were ordered by physicians and then provided, but for which the medical necessity is questionable. Medical necessity issues are those that must be addressed through complex reviews.

One other issue that extends to CAHs is that of the 3-day inpatient qualifying staff engaged prior to a skilled nursing placement. Issues such as the DRG pre-admission window and the DRG discharge status do not apply. Let us consider a case study that is not of concern to PPS hospitals, but is a concern to CAHs.

Case Study
Post Outpatient Surgery Observation – An elderly patient is having a laparoscopic cholecystectomy. Normally, patients undergoing this procedure are discharged after several hours of recovery. In this case, the patient is being kept in observation for two days, primarily because he lives alone and there is nobody to care for him at home.

For a PPS hospital, there is no additional payment for the observation services other than possibly invoking an inappropriate cost outlier under APCs. The incentive is to get the patient out the door, because the payment for the operative services is fixed in advance. However, for a CAH, each day the patient stays increases utilization and thus cost and reimbursement.

This case study illustrates the need to adjust the way we think about possible RAC issues affecting CAHs.  This is the challenge for CAH compliance personnel. Any and all RAC issues must be considered and then tested to see if they apply to CAHs. Additionally, any situations in which medically unnecessary overutilization might be claimed should be examined carefully.

Will the RACs Investigate CAHs?

While the RACs have the green light from CMS to include CAHs in their reviews, whether the RACs will be willing to invest the resources to pursue possible overpayments is yet to be determined.

He simply will have to prepare, make adjustments and then wait to see if there will be such activity. Whether or not RACs actively engage the CAHs, however, there is still significant need for CAH compliance personnel to maintain an appropriate compliance stance. There certainly still will be Medicare contractor audits, and the OIG has included CAHs in its annual work plans. Also, CAHs become involved with mid-level practitioners and provider-based clinics. Compliance challenges exist in these areas as well, although providers must reorient their thinking to accommodate the cost-based reimbursement process.

For instance, a CAH, if criteria are met, can have a provider-based ambulance service. For a provider-based situation, the ambulance services would be paid on a cost basis. A CAH also may own and operate a freestanding ambulance service that is paid under the Medicare Ambulance Fee Schedule (AFS). Hence, there is the potential of a payment differential between the two situations, and CMS will be interested in making certain that a provider-based ambulance service meets all of the criteria in the provider-based rule (PBR).[3] Thus, a potential RAC issue is that overpayments may have resulted (i.e., from the cost basis) when the services should have been paid under AFS because PBR requirements are not met.[4]

About the Author

Duane C. Abbey, Ph.D., CFP, is an educator, author and management consultant working in the healthcare area.  He is president of Abbey & Abbey, Consultants, Inc. that specializes in healthcare consulting and related areas.  His firm is based in Ames, Iowa.  Dr. Abbey earned his graduate degrees at the University of Notre Dame and Iowa State University.

Contact the Author






  1. Abbey, Duane C. “RAC Program Issues – Part 4 – CAHs”, Medical Reimbursement Newsletter, ISSN 1061-0936, June, 2008, Volume 20, Number 6, Pages 31-32.
  2. Abbey, Duane C. “CAHs and the Provider-Based Rule”, Medical Reimbursement Newsletter, ISSN 1061-0936, September, 2009, Volume 21, Number 9, Pages 51-53.

[1] See CMS Question & Answer with ID=9437, dated 11-25-2008.

[2] See the Medicare Physician Fee Schedule (MPFS) for information on the difference between facility and non-facility payments to physicians and practitioners.

[3] See 42 CFR §413.65.

[4] See July 27, 2009 Federal Register, Page43941-43944. (74 FR 43941)


Duane C. Abbey, PhD, CFP

Duane C. Abbey, PhD, CFP, is an educator, author, and management consultant working in the healthcare field. He is president of Abbey & Abbey Consultants, Inc., which specializes in healthcare consulting and related areas. His firm is based in Ames, Iowa. Dr. Abbey earned his graduate degrees at the University of Notre Dame and Iowa State University. Dr. Abbey is a member of the RACmonitor editorial board and is a frequent guest on Monitor Mondays.

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