District court upholds perversity of Medicare

The following is a guest post by Nicholas Bagley, University of Michigan Assistant Professor of Law.

So here’s a sad story about medicine and the law. Sarah Mulcahy was 96 years old when she suffered a bad fall. The pain was so severe that she became incontinent and nauseous. After going to the emergency room, she was hospitalized and spent three nights at Manchester Memorial Hospital in Connecticut. While there, she was X-rayed, CT scanned, hooked up to an IV, treated with an incentive spirometer, and given compression cuffs to prevent deep vein thrombosis. After being discharged, she went to a skilled nursing facility (SNF) to recuperate. She stayed there for more than three months at a price tag of about $30,000.

Fortunately, Medicare covers the costs of SNF care for patients who first spend at least three days as a hospital inpatient. (This is known in the lingo as the “three-midnight rule.”) Unfortunately for Ms. Mulcahy, however, she was never technically admitted as an inpatient to Manchester Memorial. Instead, the hospital had put her on “observation status,” an ill-defined halfway house for a patient who’s too sick to go home but who might not be sick enough to need the full range of hospital services. Because Ms. Mulcahy wasn’t ever an inpatient, Medicare wouldn’t cover her subsequent SNF stay.

From Ms. Mulcahy’s perspective, this was perverse. Observation status or not, she was in fact admitted to the hospital for three days. What basis could Medicare possibly have for saying she was never an inpatient? So Ms. Mulcahy, together with a bunch of elderly people with the same sort of problem, sued the Centers for Medicare and Medicaid Services (CMS).

This past Monday, a district court in Connecticut issued a careful opinion dismissing the case. In the court’s view, CMS was perfectly within its rights to defer to the hospital’s judgment about whether Ms. Mulcahy had been admitted. If Manchester Memorial said she was on observation status, well, she wasn’t an inpatient. And if she was never an inpatient, then the Medicare statute says the program can’t pay for her stint at the SNF. Q.E.D.

Strictly as a legal matter, this is probably right. When it comes to dispensing government money, Medicare defers left and right to the medical judgments of physicians and hospitals. That said, it bears noting that hospitals have unusually wide discretion in choosing whether to assign a patient to observation status. That’s particularly so because a patient’s technical status won’t much affect the sort of care she receives. At the margins—and maybe more than at the margins—financial incentives will shape how hospitals exercise that discretion.

The bad news for Ms. Mulcahy is that financial incentives have recently been pushing hospitals to put more and more patients on observation status. In one of its perennial efforts to weed out waste and fraud in the Medicare program, Congress in 2006 called on CMS to hire Recovery Audit Contractors (RACs) to police Medicare billing. Since then, the RACs have focused considerable attention on short-term hospital inpatient admissions that could perhaps have been treated on an outpatient basis. A hospital concerned about RAC scrutiny might well prefer to err on the side of caution by putting a borderline patient on observation status (technically an outpatient  designation).

CMS has recently issued regulations to reduce the prevalence of extended, inappropriate observation care. There’s some debate about whether those regulations will work, but in any event, they’re not much consolation to Ms. Mulcahy. No matter how you cut it, she got screwed. (That’s the technical legal term.) But it’s important to see that Ms. Mulcahy got screwed not just because CMS deferred to the hospital’s judgment not to classify her as an inpatient. She got screwed because Congress made SNF payments contingent upon spending three days in a hospital. Why on earth did it do such a thing? If Ms. Mulcahy needed care at a skilled nursing facility, she needed care at a skilled nursing facility. Whether she’d just been discharged from the hospital is irrelevant.

The case serves as a reminder of the unintended consequences—consequences that still matter today—of the decision almost fifty years ago to model Medicare on the employer-sponsored indemnity insurance plans then offered through Blue Cross and Blue Shield. These plans were designed to help workers back onto their feet after an acute illness, not to support those with chronic, debilitating conditions. That’s why Medicare doesn’t cover round-the-clock nursing care for the elderly (we leave that to Medicaid once Ms. Mulcahy paupers herself). Yet it’s precisely these sorts of chronic conditions that disproportionately afflict the elderly. There’s thus a mismatch, reflected here and elsewhere in Medicare, between the needs of the patients who depend on the program and the type of care that Medicare will cover. Poor Ms. Mulcahy just got caught in a bureaucratic snare arising out of one of those mismatches.

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