Carol Levine: The New CMS Two-Midnight Rule on Hospital Stays

Observation Status Still Confuses and Costs Medicare Beneficiaries

Release Date: 09.03.2013

“Once upon a midnight dreary….” No, wait.  Make that “Once upon two midnights dreary….”  The Centers for Medicare and Medicaid Services (CMS) probably were not channeling Edgar Allan Poe when they issued a new ruling on hospital observation status. There is nonetheless a certain appropriate gloominess about counting hospital admissions at the witching hour. 

The CMS policy, which was issued as a proposed rule in March and as a final rule on August 2, is in part a response to hospital complaints that auditors were denying large numbers of claims for inpatient care because the patient could have been considered an outpatient under observation status. Observation status is cheaper for Medicare than inpatient care. 

In an attempt to clarify billing for inpatient stays, CMS now says that a physician must sign an admitting order, which must be “supported by the physician admission and progress notes, in order for the hospital to be paid for hospital inpatient services under Medicare Part A.” When the physician “expects to keep the patient in the hospital for only a limited period of time that does not cross 2 midnights, the services are generally inappropriate for payment under Medicare Part A, regardless of the hour that the patient came to the hospital or whether the patient used a bed.”

Auditors reviewing claims are instructed to presume that stays lasting two midnights or longer are reasonable and necessary and will qualify for higher payment under Medicare Part A.  However, stays lasting less than two midnights will not be presumed to qualify as inpatient stays and instead will be paid under Medicare Part B, which covers outpatient services.  The rule goes into effect on October 1, presumably at midnight.

Why should patients and families care about what sounds like just another arcane accounting procedure?  Whatever one thinks about the rule (and most professional organizations aren’t happy with it for their own reasons), it continues to leave patients and families exposed to high and unexpected costs associated with what seems like an ordinary hospital stay. Although not its intent, the rule highlights the need for a systematic review of Medicare policy around inpatient and observation status.

What Is Hospital Observation Status?

When a person comes to an Emergency Department complaining of chest pains or a fainting episode, it is often not immediately clear whether he or she can go home or needs to be admitted to the hospital.  A doctor may say, “We’ll keep you overnight for observation and run some tests.”  Long before the new two-midnight rule, observation was designed to be of short duration, for the purpose of ensuring that an ED-delivered treatment was effective or ruling out illnesses that required immediate intervention. A 24-hour stay was considered standard.

But many observation stays now last longer than 24 hours. In a report issued just a few days before the CMS ruling, the Office of the Inspector General (OIG) of the Department of Health and Human Services found that of the 1.5 million observation stays in 2012, 26% lasted two nights and 11% at least three nights. Some stays were even longer.  Some hospitals have special observation units. More typically, however, patients on observation are transferred to a bed on a regular inpatient unit. There they get the same services as other patients, but are not formally admitted to the hospital. They are outpatients, despite being treated just like inpatients.  This ambiguous status is a source of confusion for patients and their families and a financial burden when unexpected bills start arriving.

What Are the Financial Implications for Patients under Observation Status?

The CMS ruling does not change any of the elements of a Medicare beneficiary’s different financial obligations under Part A and B.  If Medicare beneficiaries are admitted to the hospital, Part A covers the stay, with a one-time deductible for the entire stay. If they are under “observation,” Medicare Part B applies. Under Part B, the hospital gets paid a lower rate for room and board, but services like labs, X-rays, MRIs, and other services are billed individually as if care were being provided as part of a doctor’s office visit. In this scenario the patient pays a copay for each service.  Prescription drugs are not covered, and many hospitals will not allow patients to bring their medications from home.  Although the copay for any individual service under Part B cannot be higher than the deductible under Part A, the total of all copays for Part B services may be higher. Medicare’s guidance to consumers makes this quite clear.

The OIG report found that for 6 percent of all observation stays (over 83,000 stays) the Medicare beneficiary paid more than the inpatient deductible, and for 3,349 observation stays beneficiaries paid more than twice the inpatient deductible.

Especially important, an observation stay, no matter how long it lasts, does not count toward Medicare’s requirement of a consecutive three-day hospital admission for coverage of short-term rehabilitation services in a skilled nursing facility (SNF).  (Observation stays that last three midnights or more still do not count toward SNF coverage.) Patients who don’t meet the three-day requirement must pay privately, try to get rehab services at home, or forego the treatment.  Even at a later date, the hospital or the Medicare auditors can decide that a patient was incorrectly considered an inpatient and deny payment.

The result raises serious questions of equity: Researchers at the University of Wisconsin School of Medicine found that two midnights covered as short a  time as 26.6 hours, while stays as long as 47.2 hours may not meet the two-midnight standard. Another way to see it, approximately half of patients who are in the hospital for 36 hours will meet the two-midnight requirement, and the other half will not. In short, Medicare patients with similar conditions and similar needs for follow-up care are treated very differently in terms of their subsequent financial burden. The new CMS rule and hospital billing codes didn’t create this inequity, but they perpetuate it.

Why Have Observation Stays Increased?

In the past several years, hospital observation stays have become more common. The reason, according to researchers at Brown University, may be at least in part related to Medicare payment policies designed to constrain hospital readmissions.  CMS is levying penalties against hospitals that have high rates of readmissions within 30 days for certain diagnoses. A patient who spends two midnights in observation status is not counted as an inpatient and would not be counted as a readmitted patient if he or she comes back to the hospital within 30 days. It is not clear whether patients in observation status are tracked to see whether they return to the ED or are admitted at a later date. 

Stakeholder Response to the Two-Midnight Rule

The new two-midnight rule does not satisfy many of the professional groups that will be affected by the decision.  For example, AMA Executive Vice-President and CEO James L. Madara, MD, wrote in response to the proposed rule that it “would prove overly complicated and would unduly extend beyond the current benchmark of 24 hours.” Speaking on behalf of hospitals, Jeffrey Micklos, an executive vice-president at the Federation of American Hospitals, advocated for a clinical, not a time-based, solution.  It is physicians, he says, who should determine patient status, given that hospitals will focus more on counting hours and ensuring that the services provided are medically necessary, as well as possible denials of claims. In general, these professional group comments stress the impact on hospital and physicians, not on patients and families.

The Center for Medicare Advocacy, however, has taken on patient interests and has opposed the broader CMS policy on observation status.  In November 2012, the Center and the National Senior Citizens Law Center filed a class action lawsuit, Bagnall et al. v. Sebelius, in a federal district court in Connecticut, on behalf of Medicare beneficiaries who were not able to get Medicare coverage for rehab on the basis of their observation stays. Oral hearings were held in May 2013, but the judge has not yet issued a ruling.

And the OIG report supported a broader policy change.  It concluded that “CMS should consider how to ensure that beneficiaries with similar post-hospital care needs have the same access to and cost sharing for SNF services.” It also suggested that allowing nights spent as an outpatient in observation status count toward eligibility for SNF services might require additional statutory authority.

Rep. Joe Courtney (D-CT) has introduced a bill to end observation status altogether. (See the House bill, H. R. 1179 IH, introduced by Courtney (D-CT) and Latham (R-IA); and the related Senate bill, S. 569, introduced by Sen. Sherrod Brown (D-OH).)

CMS’s rule has not achieved the clarity it intended. Meanwhile, Medicare beneficiaries and their family caregivers should ask—repeatedly—about their inpatient/outpatient status.  See for more information.  And, in addition to all the paperwork and material to bring to the hospital, think about bringing a clock.

Updates (September 2, 2015): The NOTICE Act, signed by President Obama in August 2015, requires hospitals to inform Medicare patients who are in a hospital under observation status to be informed that they are not officially admitted and what this means in terms of potential financial obligations and eligibility for post-discharge rehabilitation services. The law, which won’t go into effect until the summer of 2016, doesn’t create any new right for patients to change their status. In the interim, several states, including Virginia, New York, Pennsylvania, and Connecticut, have already enacted their own laws requiring such notification.  Also in August 2015, the Centers for Medicare and Medicaid Services announced that it would delay enforcement of the two-midnight rule, which had been set to expire September 30, 2015, until the end of 2015.

In another recent development, the Centers for Medicare and Medicaid Services proposed, in July 2015, substantive changes to the Medicare rules on observation status. For stays for which the admitting physician expects the patient to need less than two midnights of hospital care (and don’t fall under other exceptions), an inpatient admission would be payable under Medicare Part A (the hospital benefit) on a case-by-case basis, in accordance with physician judgment. There would be no change in policy for stays over the two-midnight benchmark. A final rule is expected around November 1, 2015.

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