On August 13, 2019 the D.C. Circuit Court of Appeals (the D.C. Circuit) issued an opinion in Children’s Hospital Association of Texas v. Azar (No. 18-5135), allowing the Department of Health and Human Services (HHS) to include payments from third parties, including Medicare and private insurers, in calculations of Disproportionate Share Hospital (DSH) payment caps. The D.C. Circuit had previously ruled against HHS’ implementation of its 2017 rule, which included third party payments in the calculation of the hospital-specific caps on allowable DSH payments. 

DSH payments are made to hospitals serving a disproportionate number of low income patients, because serving these patients can be costly for these hospitals as Medicaid often does not reimburse for all services or reimburse the full price for particular services, which can result in hospitals receiving little to no reimbursement for providing services to low income patients. However, although DSH payments are intended to provide some relief to hospitals for this disparity, Congress has also determined that DSH payments may not exceed the “costs incurred” caring for low income patients “who either are eligible for medical assistance under the State plan or have no health insurance.” Under this statutory cost-based cap on DSH payments, the higher the costs, the higher the DSH payments.

States are required to submit reports demonstrating each DSH’s total Medicaid uncompensated services as a means to verify compliance with the statutory cap. However, the previous law did not specifically address whether third party payments were to be included in the calculations. HHS promulgated the 2017 rule to require that third party payments, including those from Medicare and private insurance, be subtracted from a DSH’s “costs incurred” in treating low income patients. Multiple hospitals, which would have had lower DSH payment caps as a result of the 2017 rule, brought suit to challenge the HHS rule.

The hospitals advanced two arguments: (1) HHS exceeded its statutory authority, and (2) the rule was arbitrary and capricious. The D.C. Circuit disagreed with both of these arguments. The court reasoned that HHS did not exceed its authority in making the rule because Congress expressly delegated HHS authority to determine “costs incurred” in the statute creating DSH payments, and that the rule utilizes a reasonable method as “the inclusion of payments by Medicare and private insurers … ensures that DSH payments will go to hospitals that have been compensated least and are thus most in need.” Moreover, the D.C. Circuit disagreed with the hospitals’ argument that the rule was arbitrary and capricious, citing HHS’ justification published in the preamble to the rule, which reasoned in part that “[i]n light of the statutory requirement limiting DSH payments on a hospital-specific basis to uncompensated care costs, it is inconsistent with the statute to assist hospitals with costs that have already been compensated by third party payments.” The D.C. Circuit ruled that this was sufficient to overcome an arbitrary and capricious challenge.

As a result of this ruling, hospital-specific DSH payment limits, capped at uncompensated care costs, will take into account payments received from third parties for such care. This is likely to lower the maximum amount that some hospitals are eligible to receive, and reduce DSH payments. It is not yet clear if the hospitals will petition the U.S. Supreme Court for a writ of certiorari.

This post was authored by Karen Rabinovici and Mike Lisitano who are not yet admitted to practice law in Connecticut.