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This report examines the formulas that the Health Care Financing Administration (HCFA) uses to pay for the extra expenses incurred by unusual hospital cases (outliers) and recommends changes in these formulas. Outlier payments are those made in addition to the regular diagnosis-related-group payment and are designed to reduce hospitals' financial risks and their financial incentives to refuse to serve, or to underserve, exceptionally costly cases. There are two kinds of outliers--day outliers (cases that remain in the hospital beyond a certain number of days) and cost outliers (cases whose standardized charges exceed a cost threshold). The authors describe how the average cost of day outlier cases increases as a function of length of stay. They also consider the forms of the day outlier per diem and the cost outlier threshold, which determines which cases will be paid as outliers and the amount of the payment. The authors find a large percentage of day outlier payments go to profitable cases, which is contrary to policy intent. They recommend a reduction in the day outlier per diem to the level that would provide the same coinsurance to day and cost outliers. They suggest replacing the current formula for the cost outlier threshold with a fixed loss cost outlier threshold.

Medical care, Cost of --- Medical policy --- United States.

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The authors studied the ratio of costs to charges (RCC) used to estimate the cost of Medicare hospital cases in the formula which sets cost outlier payments. The authors estimate that, under current payment policy, the cost of the average cost outlier case is overestimated by 23 percent. The causes of this overestimate are a secular decline in RCC of between 2 and 3 percent a year and the fact that cost outlier cases typically receive a higher percentage of ancillary charges that have a very low actual RCC. The inaccurate estimate of the cost of cost outlier cases contravenes current policy intent in two important ways. First, it changes the fraction of the excess costs that are insured from the intended 75 percent to 92 percent. Secondly, cases face different cost outlier thresholds, and therefore receive different payment amounts, depending on the mix of ancillary and accommodation services required by the patient. It would be possible to improve the measurement of the cost of cost outlier cases by using separate RCCs for ancillary and accommodation charges. The outcomes of alternative policies are estimated in the report.

Medicare. --- Hospitals --- Outliers, DRG --- Prospective Payment System --- Prospective payment --- economics