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In re Hospitals' Petitions for Adjustment of Rates for Reimbursement of Inpatient Services to Medicaid Beneficiaries

February 17, 2006


On appeal from the Final Decision of Medical Assistance and Health Services, Department of Human Services, HMA-10800-99.

The opinion of the court was delivered by: Payne, J.A.D.



Argued January 10, 2006

Before Judges Axelrad, Payne and Sabatino.

In these consolidated appeals, a substantial number of New Jersey acute care hospitals that participate in the Medicaid program and also receive supplemental payments because they serve a disproportionate share of the State's indigent population challenge final administrative determinations by the Division of Medical Assistance and Health Services (Division) denying their rate appeals. The Division found that none had sustained a marginal loss pursuant to N.J.A.C. 10:52-9.1(b)2 as the result of providing inpatient services to Medicaid and NJ FamilyCare-Plan A*fn1 recipients at rates established for the years 1996 to 2001, and thus rate relief was not warranted.

On appeal, the hospitals contend the Division acted arbitrarily, in violation of existing regulations and in violation of the rulemaking requirements of the Administrative Procedure Act (APA), N.J.S.A. 52:14B-1 to -15, by (1) recognizing as "Medicaid reimbursement for inpatient services" revenues received as the result of the provision of indigent and other services and limiting marginal costs when determining whether a marginal loss had been demonstrated warranting rate relief and (2) utilizing only the hospitals' Medicare Cost Reports (MCRs) to demonstrate marginal costs associated with inpatient treatment of Medicaid beneficiaries and failing to consider the hospitals' Standard Hospital Accounting and Rate Evaluation (SHARE) reports. In addition, the hospitals claim that their administrative due process rights to fundamental fairness were violated as the result of alleged multiple changes in rate appeal criteria, in violation of the express terms of applicable regulations and in the absence of new regulations. They claim that the Division's conduct from 1996, when the first appeal was filed, to 2004, when final agency decisions were made, was designed to ensure that no hospital could successfully appeal its Medicaid inpatient fee-for-service rates.

This appeal represents a further iteration of disputes between the hospitals and the Division regarding Medicaid reimbursement rates that commenced in 1995 and, eleven years later, remain unresolved.*fn2 At issue in the present appeal is how revenue and costs are to be calculated under N.J.A.C. 10:52-9.1(b)2 for purposes of determining whether the appellant hospitals sustained a "marginal loss" as the result of incremental costs incurred in providing inpatient services to Medicaid and NJ FamilyCare-Plan A fee-for-service beneficiaries, thereby entitling the hospitals to rate relief in the years 1996 through 2001.

N.J.A.C. 10:52-9.01(b)2, the regulation in question, provided in 1995 that:

The Division will not approve an increase in a hospital's rates unless the hospital demonstrates that it would sustain a marginal loss in providing inpatient services to Medicaid recipients at the rates under appeal even if it were an economically and efficiently operated hospital. (Emphasis supplied.)

A definition of "marginal loss," absent from the 1995 regulation, was added in amendments proposed in September 1996 in order to "standardize the accounting practices of hospitals in relation to Medicaid." 28 N.J.R. 4022(a), 4023 (September 3, 1996). The regulation as adopted in January 1997 provided:

Marginal loss is the amount by which a hospital's rate year's Medicaid reimbursement for inpatient services is expected to fall short of the incremental costs, defined as the variable or additional out-of-pocket costs, that the hospital expects to incur providing inpatient hospital services to Medicaid patients during the rate year. These incremental costs are over and above the inpatient costs the hospital would expect to incur during the rate year even if it did not provide service to Medicaid patients.

[29 N.J.R. 350(b), 355 (January 21, 1997); N.J.A.C. 10:52-9.1(b)(2) (1997) (emphasis supplied).]

A further amendment in 2000 added NJ KidCare-Plan A feefor-service beneficiaries to Medicaid beneficiaries as the recipients of services included within the ambit of the marginal loss calculation. 31 N.J.R. 3151(a), 3179 (Nov. 1, 1999); 32 N.J.R. 276, 297 (Jan. 18, 2000).*fn3

In accordance with N.J.A.C. 10:52-9.1(b)2, in order to prevail on a rate appeal, a hospital must demonstrate (1) that it would sustain a "marginal loss" in providing inpatient services to Medicaid fee-for-service beneficiaries at the rates under appeal even if it were an economically and efficiently operated hospital; (2) the cost it must incur in providing services to Medicaid recipients; and (3) the extent to which it has taken all reasonable steps to contain or reduce the costs of providing inpatient hospital services. In re Zurbrugg Mem. Hosp., 349 N.J. Super. 27, 31 (App. Div. 2002).

The hospitals argue that because the regulation requires that they demonstrate a marginal loss at the "rates under appeal," they are entitled to an increase in rates whenever their marginal costs exceed the per-patient reimbursement that they receive pursuant to the diagnostic related group (DRG) methodology set forth in N.J.A.C. 10:52-4.1 through 10:52-7.3. The Division acknowledges that the "rates under appeal" constitute the per-patient DRG rates. However, the Division argues that, when calculating marginal loss, the hospitals must include as revenue their entire "Medicaid reimbursement for inpatient services," a sum that includes not only DRG reimbursements but also the lump-sum payments that the hospitals receive as Medicaid rate supplements because they serve a disproportionate share of the State's indigent population. Under the hospitals' methodology, a rate increase would be virtually assured; under the Division's methodology, a rate increase would be unlikely.


The parties' dispute over the proper interpretation of "rates under appeal" and "Medicaid reimbursement for inpatient services" as they relate to marginal loss calculations can be resolved only by reference to the manner in which Medicaid payments are calculated under federal law, a subject that requires a somewhat lengthy explanation. Medicaid is a joint federal-state program, in which New Jersey participates, established by Title XIX of the Social Security Act to provide medical assistance on behalf of certain categories of persons whose income and resources are insufficient to meet the costs of necessary medical services. 42 U.S.C.A. §§ 1396, 1396a to 1396v. As a participant, the State is required to comply with federal Medicaid statutes and regulations. Harris v. McRae, 448 U.S. 297, 301, 100 S.Ct. 2671, 2680, 65 L.Ed. 2d 784, 794 (1980).

The Medicaid program is administered federally by the Department of Health and Human Services, and at times relevant to this appeal, such administration occurred through the Health Care Financing Administration (HCFA). It is administered in New Jersey by the Division of Medical Assistance and Health Services in the State's Department of Human Services. 42 U.S.C.A. § 1396a(a)(5); N.J.S.A. 30:4D-4, -5. The New Jersey Medical Assistance and Health Services Act, N.J.S.A. 30:4D-1 to -19.2, and associated regulations, N.J.A.C. 10:52-1.1 to 13.7, implement the State's component of the statutory scheme.

Federal law requires New Jersey, as a participating state, to submit for federal approval a Medicaid State Plan that, among other things, describes the methods and standards for reimbursement of providers of Medicaid services. 42 U.S.C.A. §§ 1396, 1396a(a)(13); N.J.S.A. 30:4D-7a. The methodology can be found in Attachment 4.19-A of the Plan. Approval of the State Plan by the Secretary of the Department of Health and Human Services permits receipt of federal matching funds for amounts spent as medical assistance in accordance with the State Plan.

42 U.S.C.A. § 1396b. Over the years, New Jersey has submitted amendments to its State Plan, each of which has been federally approved.

Until 1981, reimbursement to Medicaid-eligible hospitals was based on the "reasonable costs" of services actually provided to Medicaid inpatients, regardless of variances in those costs or the extent of efficiencies realized. See United Hosps. Med. Ctr. v. State of N.J., 349 N.J. Super. 1, 5 (App. Div. 2002) (describing federal statutory history). In 1981, Congress sought to limit the rapidly increasing costs of inpatient hospital care and other medical services and to allow the states more flexibility in designing Medicaid programs by enacting the Boren Amendment as part of the 1981 Omnibus Budget Reconciliation Act, Pub. L. No. 97-35. Under that amendment, states were required to pay rates that were "reasonable and adequate to meet the costs which must be incurred by efficiently and economically operated facilities." 42 U.S.C.A. 1396a(a)(13)(A)(repealed 1997).*fn4 See United Hosps. Med. Ctr., supra, 349 N.J. Super. at 5 (describing Boren Amendment); see also Children's Seashore House v. Waldman, 197 F.3d 654, 656 (3d Cir. 1999), cert. denied, sub. nom, Children's Seashore House v. Guhl, 530 U.S. 1275, 120 S.Ct. 2742, 147 L.Ed. 2d 1006 (2000); New Jersey Hosp. Ass'n v. Waldman, 73 F.3d 509, 511-12 (3d Cir. 1995).

However, at that time, it was recognized that a reduction in Medicaid reimbursement rates could adversely affect hospitals that served a "large volume of Medicaid patients and patients who are not covered by other third party payors." H.R. Rep. No. 97-158, 97th Cong., 1st Sess. 294-96 (1981). In order to assure the continued existence of reasonably accessible, quality care to Medicaid patients, the Congress required that the states "in determining the appropriate reimbursement rate for inpatient hospital services, . . . take into account the special costs of hospitals whose patient populations are disproportionally composed of" Medicaid recipients or uninsured patients. Id. at 295; see also New Jersey Hosp. Ass'n, supra, 73 F.3d at 514. These hospitals are known as disproportionate share hospitals (DSH hospitals).

Because supplemental payments to DSH hospitals provide insurance against hospital closure and thus a reduction in services to a state's Medicaid population, those payments may exceed the cost of furnishing hospital services under Medicaid and may include the costs of serving the uninsured indigent. 42 U.S.C.A. § 1396r-4(g)(1)(A).

The recognition of a need for payment adjustments to disproportionate share hospitals as the result of the nature of their patient populations continued after repeal of the Boren Amendment in 1997.*fn5 42 U.S.C.A. § 1396a, governing the content of State Plans, requires that Medicaid reimbursement rates for hospitals "take into account . . . the situation of hospitals which serve a disproportionate number of low-income patients with special needs." 42 U.S.C.A. §1396a(a)(13)(A)(iv).

42 U.S.C.A. § 1396r-4, a definitional section that was cross-referenced by 42 U.S.C.A. §1396a(a)(13)(A) under the Boren Amendment and after its repeal, in turn states that a State plan will not be considered to meet the requirements of section 1396(a)(13)(A)(iv) unless it defines disproportionate share hospitals in accordance with subsection (b)(1), which defines such hospitals in terms of their Medicaid inpatient utilization rate or low-income utilization rate. 42 U.S.C.A. § 1396r-4(a)(1)(A) and -4(b)(1)(A) and (B). However, no ...

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