Testimony of:  
Jodi D. Nudelman 
Regional Inspector General for  
Office of Evaluation and Inspections 
Office of Inspector General 
U.S. Department of Health and Human Services 
 
 
 
Hearing: 
Current Hospital Issues in the Medicare Program 
 
House Committee on Ways and Means 
Subcommittee on Health 
 
May 20, 2014 
1100 Longworth House Office Building 
9:30 AM 
 
 
 
 
 
 
 
 
 
 
 
  Testimony of: 
Jodi D. Nudelman 
Regional Inspector General for  
Office of Evaluation and Inspections 
Office of Inspector General 
U.S. Department of Health and Human Services 
Hearing Title: Current Hospital Issues in the Medicare Program 
House Ways and Means Committee 
Subcommittee on Health 
 
 
Good morning, Chairman Brady, Ranking Member McDermott, and other distinguished 
Members of the Subcommittee.  Thank you for the opportunity to testify about the U.S. 
Department of Health and Human Services (the Department) Office of Inspector Generals 
(OIG) work to improve Medicare oversight and reduce waste, fraud, and abuse.  Fighting waste, 
fraud, and abuse in Medicare is a top goal for OIG.   
 
OIG has recommended numerous actions to advance this goal.  The Department has 
implemented many of OIGs recommendations, resulting in cost savings, improved program 
operations, and enhanced protections for beneficiaries.  In fiscal year (FY) 2013, OIG reported 
estimated savings of more than $19 billion resulting from legislative and regulatory actions 
supported by OIG recommendations.  However, more remains to be done.  In March 2014, OIG 
issued its Compendium of Priority Recommendations,1 which highlights additional opportunities 
for cost savings and program and quality improvements.  Implementing these recommendations 
could result in billions of dollars saved and more efficient and effective programs. 
 
As you requested, my testimony today summarizes OIGs work in three areas that are key to 
improving the Medicare program for taxpayers and beneficiaries.  They are:  hospital observation 
and short inpatient stays; Recovery Audit Contractors (RACs); and the Medicare appeals 
process.  In each of these areas, we identified significant issues and made recommendations to 
address them.  The key takeaways from my testimony today are:  1) the two-midnight hospital 
policy must be carefully evaluated, 2) the Centers for Medicare & Medicaid Services (CMS) 
should enhance its oversight of RACs and follow through on program vulnerabilities that lead to 
improper payments, and 3) fundamental changes are needed in the Medicare appeals system. 
 
The Two-Midnight Hospital Policy Must Be Carefully Evaluated 
 
Last October, CMS implemented a new hospital policy.  The new policy provides guidelines for 
when hospitals should bill for inpatient stays and when hospitals should bill for outpatient 
services, such as observation.  These inpatient-versus-outpatient decisions significantly affect 
                                                           
1 Office of Inspector Generals Compendium of Priority Recommendations, available online at 
http://oig.hhs.gov/reports-and-publications/compendium/index.asp. 
  
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  how much Medicare pays the hospital, how much the beneficiary must pay, and the beneficiarys 
eligibility for skilled nursing facility (SNF) services when he or she leaves the hospital.   
 
We evaluated hospitals use of observation stays and short inpatient stays before the 
implementation of the new hospital policy.2  Our findings highlight important issues that require 
continued attention.  They are summarized below. 
  
Short inpatient stays were often for the same reason as observation stays, but Medicare paid 
nearly three times more for a short inpatient stay than an observation stay, on average  
 
We found that beneficiaries in both short inpatient and observation stays were most commonly 
treated for chest pain.  Additionally, 6 of the 10 most common reasons for short inpatient stays 
were also among the 10 most common reasons for observation stays.  However, short inpatient 
stays were far more costly to Medicare than observation stays.  Medicare paid an average of 
$5,142 per short inpatient stay, but it paid an average of $1,741 per observation stay.  For each of 
the most common reasons the beneficiary was in the hospital, the average Medicare payment was 
always higher for short inpatient stays than for observation stays.   
 
Beneficiaries also paid far more for short inpatient stays than for observation stays, on average 
 
Beneficiaries paid almost two times more for a short inpatient stay than an observation stay on 
averagethat is, $725 per short inpatient stay compared to $401 per observation stay.  For all 
but two of the most common reasons for treatment, beneficiaries paid more, on average, for short 
inpatient stays than for observation stays.  The two exceptions were stays for circulatory 
disorders and for coronary stent insertions.  Only 6 percent of beneficiaries in observation stays 
paid more than they would have paid had they been in an inpatient stay.  
 
Hospitals varied widely in their use of short inpatient and observation stays 
  
Some hospitals were far more likely to use short inpatient stays while others were far more likely 
to use observation stays.3  Nationally, just over one-quarter of these stays were short inpatient 
stays.  However, some hospitals used short inpatient stays for less than 10 percent of their stays, 
while others used them for over 70 percent of their stays. 
 
Some beneficiaries had hospital stays that lasted three nights or more but did not qualify for SNF 
services under Medicare 
 
Beneficiaries had almost 618,000 hospital stays that lasted 3 nights or more but did not include 
3 inpatient nights.  Because their stays did not include three inpatient nights, these beneficiaries 
                                                           
2 OIG, Hospitals Use of Observation Stays and Short Inpatient Stays for Medicare Beneficiaries, OEI-02-12-00040, 
July 2013.  Short inpatient stays are inpatient stays that lasted one night or less. 
3 This analysis includes outpatient stays that lasted at least one night, but were not coded as observation stays.  For 
some of these stays, hospitals may have provided observation services without coding the claims as observation 
stays.  Hospitals are not always paid a separate amount for coding claims as observation stays. 
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  did not qualify for SNF services under Medicare.  For about 25,000 of the 618,000 hospital stays, 
beneficiaries received SNF services following their discharge from the hospital.  Medicare nearly 
always paid (inappropriately) for these SNF services.  However, for about 2,000 of the hospital 
stays, Medicare did not pay for the SNF services, and the beneficiary was charged an average of 
about $11,000. 
 
The new hospital policy must be evaluated  
 
The issues that we highlighted in the July 2013 report continue to be relevant.  CMSs new 
policy will affect hospitals use of observation stays and short inpatient stays, which in turn will 
affect Medicare and beneficiary payments to hospitals.  The new policy may also affect 
beneficiaries access to SNF services.  Information about the impact of the new policy is needed 
to ensure that policymakers take these issues into account as they move forward.   
 
CMS Should Strengthen its Oversight of RACs and Follow through on Vulnerabilities That 
Lead to Improper Payments 
 
Recovery Audit Contractors (RACs) play a critical role in identifying improper payments and 
protecting the fiscal integrity of Medicare.  An OIG review found that RACs identified improper 
payments totaling $1.3 billion in FYs 2010 and 2011.4  While most of these improper payments 
were overpayments and resulted in dollars returned to the Medicare Trust Funds, some were 
underpayments and resulted in dollars returned to providers.  Approximately 88 percent of the 
recovered and returned improper payments came from inpatient hospital claims.  Medical 
services delivered in inappropriate facilities accounted for about a third of the improper 
payments.  This includes claims in which the RAC found that services provided to a beneficiary 
in an inpatient setting could have been provided in an outpatient setting.   
 
Providers did not appeal RAC decisions for about 94 percent of claims identified as 
overpayments.  Of the 6 percent that were appealed, almost half were decided in favor of the 
appellant. 
 
CMS should enhance its follow-through on improper payment vulnerabilities identified through 
RAC audits 
 
CMS uses RAC audits to identify vulnerabilities and develop corrective action plans to prevent 
future improper payments.  CMS identified 46 program vulnerabilities in FYs 2010 and 2011.  
These included vulnerabilities such as indicating the incorrect place of service on claims or 
billing for services or supplies for deceased beneficiaries.  By June 2012, CMS had taken 
corrective actions to address the majority of these vulnerabilities.  These corrective actions were 
not considered closed, however, because CMS had not yet evaluated their effectiveness, an 
                                                           
4 OIG, Medicare Recovery Audit Contractors and CMSs Actions To Address Improper Payments, Referrals of 
Potential Fraud, and Performance, OEI-04-11-00680, August 2013. 
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  important step in its process.  Thus, it is not clear to what extent these corrective actions have 
prevented improper payments from recurring. 
 
CMS performance evaluations of RACs lacked some key metrics 
 
Although CMS completed performance evaluations for all of its RACs in 2010 and 2011, these 
evaluations lacked metrics related to some key contract requirements.  Most notably, CMS did 
not evaluate RACs on the extent to which they identified improper payments.  In addition, four 
of eight performance evaluations did not include information on the RACs ability, accuracy, or 
effectiveness in identifying overpayments.  In response to our report, CMS noted that it has 
revised its RAC evaluations to incorporate metrics on identification of improper payments and 
accuracy rates.   
 
Key recommendations to CMS include: 
 
  Evaluate the effectiveness of corrective actions to prevent Medicare overpayments. 
  Strengthen performance evaluation metrics and better ensure that contractors meet 
performance standards. 
 
The Medicare Appeals System Needs Fundamental Changes 
 
The administrative appeals system is an essential component of the Medicare program.  Appeals 
decisions affect providers, beneficiaries, and the Medicare program as a whole.  It is imperative 
that the appeals system be efficient, effective, and fair. 
 
The system has experienced an unprecedented surge of appeals over the past two years.  
According to the Office of Medicare Hearings and Appeals (OMHA), the number of appeals 
reaching Administrative Law Judges (ALJ)the third level of appealsdoubled from FY 2012 
to 2013.5  Further, OMHA estimates that its backlog will reach a million claims by the end of 
this fiscal year.  A concerted effort by all key playersincluding OIG, CMS, OMHA, and 
Congressis needed to address this issue and to maintain the integrity of the appeals system.   
 
Before the recent surge, OIG completed work that focused on the ALJ level of appeals.6  
Although the work covered FY 2010, many of the findings and recommendations are relevant to 
understanding and addressing the current challenges.   
 
A small percentage of providers account for a large number of appeals 
 
Medicare providers make up the vast majority85 percentof appellants at the ALJ level of 
appeal.  Beneficiaries filed 11 percent and State Medicaid agencies filed 3 percent of appeals.  
Moreover, only 2 percent of these providers accounted for nearly one-third of all ALJ appeals.  
                                                           
5 Department, Justification of Estimates for Appropriations Committees, Fiscal Year 2015, OMHA. 
6 OIG, Improvements Are Needed at the Administrative Law Judge Level of Medicare Appeals, OEI-02-10-00340, 
November 2012. 
 
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  Specifically, 96 providers filed at least 50 appeals each with 1 provider filing over 1,000 appeals.  
These providers were twice as likely as others to file appeals regarding medical supplies, such as 
wheelchairs.  During interviews, ALJ staff raised concerns that some providers appeal every 
payment denial and may have incentives to appeal because a favorable decision is likely. 
 
For over half of appeals, ALJs decided fully in favor of appellants 
 
In FY 2010, ALJs reversed prior-level decisions and decided fully in favor of appellants for 
56 percent of appeals.  In comparison, Qualified Independent Contractors (QICs)the second 
level of appealsdecided fully in favor of appellants for only 20 percent of appeals.  At the ALJ 
level, appellants were most likely to receive favorable decisions for Part A hospital appeals 
(72 percent) and least likely for Parts C and D appeals (18 percent and 19 percent, respectively).   
 
Differences between ALJ and prior-level decisions were due to different interpretations of 
Medicare policies and other factors 
 
Several factors led to ALJs reaching different decisions than those in the prior level of appeals.  
We found that ALJs tended to interpret Medicare policies less strictly than did QICs.  In 
addition, ALJ and QIC staff commonly noted that some Medicare policies are unclear.  Many 
noted that unclear policies lead to more fully favorable decisions for appellants and to more 
variation among adjudicators.   
 
ALJs and QICs also differed in the degree to which they specialized in Medicare program areas 
and in their use of clinical experts.  In contrast to QICs, ALJs do not have medical directors and 
clinicians on staff.  Several ALJ staff said ALJs tended to rely on testimony and other evidence 
from treating physicians.   
 
In addition to variation between the two levels of appeals, we also found variation among ALJs.  
In particular, the fully favorable rate for appellants ranged from 18 to 85 percent among the 
66 ALJs.  According to many ALJ staff, different philosophies among ALJs contribute to the 
variation in fully favorable rates.  They said that given the same facts and the same applicable 
Medicare policy, some ALJs would make decisions that are favorable to appellants, while others 
would not. 
 
CMS participation in ALJ appeals affects the outcome  
 
CMS participated in 10 percent of ALJ appeals in FY 2010.  When CMS participated, the ALJs 
were less likely to decide fully in favor of the appellant.  The role of CMS participation was most 
striking with appeals involving medical supplies; the appellant was about half as likely to receive 
a fully favorable decision when CMS participated.   
 
Current practices regarding appeals documents are highly inefficient 
 
Both CMS and ALJ staff identified problems with case files.  They reported that a case file at the 
ALJ level often differed in content, organization, and format compared to the same appeals case 
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  file at the QIC level, creating inefficiencies in the appeals system.  Because the QICs case files 
are almost entirely electronic and ALJs primarily accept only paper case files, the QICs must 
convert the files to paper format before sending to the ALJs.  Most staff noted that this process is 
resource intensive and prone to error. 
 
Key recommendations to OMHA and CMS include: 
 
  Identify and clarify Medicare policies that are unclear and interpreted differently.  
  Develop and coordinate training on Medicare policies.  
  Standardize case files and make them electronic. 
  Continue to increase CMS participation in ALJ appeals. 
  Implement a quality assurance process to review ALJ decisions.  
 
Further Action Is Needed To Ensure that Hospital Payment Policies, RACs, and the 
Medicare Appeals Process Work Efficiently and Effectively 
 
Ensuring that the Medicare program works effectively and efficiently for beneficiaries, 
taxpayers, and providers is of paramount importance.   Clear policies, strong oversight of 
contractors, and an appeals system that is effective, efficient, and fair are critical to 
accomplishing this goal.  This requires a concerted effort by a number of key players, including 
CMS, CMS contractors, providers, OIG, and Congress.  It also requires a commitment to 
evaluating and implementing smart policy, exercising vigilant oversight of contractors, and 
implementing innovative solutions to improve the appeals process.  Such actions are essential for 
fighting fraud, waste, and abuse and for protecting Medicare beneficiaries and the Medicare 
Trust Funds. 
 
OIG is committed to continuing its strong oversight.  At stake are billions of dollars, the 
solvency of the program, and the health and well-being of beneficiaries.  We will continue to 
audit and evaluate these critical program areas and recommend solutions to improve efficiency 
and effectiveness.  We are challenged in meeting this mission by declining resources for 
Medicare and Medicaid oversight at a time when these programs and our responsibilities are 
growing.  By the end of this fiscal year, we expect to reduce Medicare and Medicaid oversight 
by about 20 percent.  Full funding of our 2015 budget request would enable us to provide more 
robust oversight and advance solutions to protect programs, beneficiaries, and taxpayers. 
 
Thank you for your interest and support and for the opportunity to discuss some of our work.  I 
am happy to answer any questions you may have. 
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