Medicare’s home health benefit enables certain beneficiaries with post- acute-care needs (such as recovery from joint replacement) and chronic conditions (such as congestive heart failure) to receive care in their homes. To qualify for home health care, beneficiaries must be confined to their residence (“homebound”); require part-time or intermittent skilled nursing, physical therapy, or speech therapy; be under the care of a physician; and have the services furnished under a plan of care prescribed and periodically reviewed by a physician. If these conditions are met, Medicare will pay for the following types of visits: skilled nursing; physical, occupational, and speech therapy; medical social service; and home health aide. As long as beneficiaries continue to remain eligible for home health services, they may receive an unlimited number of visits. Beneficiaries are not liable for any out-of-pocket costs for this benefit. Medicare home health payments grew at an average annual rate of 25 percent between 1990 and 1997, more than three times the rate of spending growth for the entire Medicare program. The growth in spending was attributable primarily to increases in the number of visits provided and not in the payment per visit. The number of Medicare beneficiaries receiving home health almost doubled during that period, from 57 to 109 beneficiaries per 1,000. At the same time, the average number of visits provided per home health user grew from 36 to 73 visits. The rapid growth in home health use was due, in part, to the cost-based payment method. Under the cost-based system, HHAs were paid their costs up to a per-visit limit for each visit provided. This method, at a time when there was little program oversight, offered few incentives to provide visits efficiently or only when needed. By 1997, home health utilization—as measured by the number of home health users per 1,000 Medicare beneficiaries and the number of visits provided—varied widely across geographic regions. For example, 48 Medicare beneficiaries per 1,000 in Hawaii received home health care in 1997. In the same year, more than 157 beneficiaries per 1,000 received home health care in Louisiana. Meanwhile, Medicare home health users in Washington received an average of 32 visits, compared to an average of 161 visits per user in Louisiana. This wide variation in use persisted even after controlling for patient diagnosis. This variability is partly due to the lack of standards for necessary or appropriate care. Furthermore, even the most basic unit of service—the visit—was not well defined in terms of either the amount of time spent with a patient or the type of services provided. To constrain Medicare home health spending growth, BBA required HCFA to replace Medicare’s cost-based, per-visit payment method with a PPS by fiscal year 2000. Until PPS could be implemented, BBA imposed spending controls under the IPS: For 3 years beginning October 1, 1997, the IPS incorporated tighter per-visit cost limits than had previously been in place and subjected each HHA to an annual Medicare revenue cap, which was the product of an HHA-specific, per-beneficiary amount and the number of beneficiaries that the HHA served. Under the PPS, an HHA receives a single payment for all items and services furnished during each 60-day episode of care. The payment rate is based on the national average cost of providing care in 1997, not an HHA’s actual costs. Because the payment is divorced from an HHA’s cost of delivering care, an HHA that delivers care for less than the payment amount can profit; conversely, an HHA will lose financially if its service costs are higher than the payment. To account for differences in beneficiary care needs, PPS episode payments are adjusted from a base rate (which was $2,115 in fiscal year 2001). These adjustments are based on a classification system that groups home health beneficiaries into 80 payment groups. The payment for a beneficiary in the most intensive payment group is approximately five times greater than the payment for a beneficiary in the least intensive group. In fiscal year 2001, episode payments ranged from $1,114 to $5,947. We have reported the strong financial incentives under the home health PPS to reduce the costs of providing an episode of care. HHAs can do this by reducing unnecessary or excessive visits, delivering care more efficiently, or underserving beneficiaries. We expressed concern that it may be hard to detect when the latter occurs. The lack of standards for necessary or appropriate care makes it difficult to review care and take steps to ensure that needed services are being delivered. We also said that the PPS could lead to substantial overpayments to some HHAs relative to the level of services being provided. Further, we noted industry concerns about the ability of some HHAs to respond to PPS incentives to reduce their costs and about inadequacies in the method used to adjust payments to account for differences in beneficiary care needs. As a result of these concerns, we recommended that risk sharing be incorporated into the PPS design. Risk sharing would limit the total losses and gains an HHA could experience over a period of time for treating beneficiaries by establishing formulas to share losses or gains with the Medicare program. This would involve a settlement process in which an HHA’s actual costs of delivering care over the relevant period would be compared to its actual payments. Such an approach would simultaneously protect beneficiaries against underservice, the Medicare program from overpaying for services, and HHAs serving beneficiaries with greater than average needs when the costs are not accounted for in the payment adjustments. HCFA did not agree with our recommendation, stating that the PPS design and payment adjustments would address our concerns and that risk sharing would be difficult to implement. We subsequently suggested that the Congress consider requiring HCFA to implement risk sharing with the PPS. The average episode payment HHAs received to provide an episode of care in the first 6 months of 2001 was about 35 percent higher than the average estimated cost of providing that care. The average episode payment, accounting for the mix of beneficiaries treated in the first 6 months of 2001, was $2,691. (See table 1.) During this period, we estimated that the cost of providing an episode of care was $1,997 after adjusting for the mix of services provided by agencies and changes in the average time spent for each type of visit since the introduction of the PPS. This large difference between the average episode payment and estimated cost is due to three factors. First, the PPS episode payment amount was calculated on the assumption that about 32 visits would be provided during an average episode, although immediately prior to PPS implementation only about 29 visits per episode were provided. Second, HHAs have further lowered their costs since PPS by providing, on average, only about 22 visits per episode during the first half of 2001. Third, HHA payments have increased because a larger proportion of home health users have been categorized into higher payment groups. While the PPS adjusts payment rates to account for expected variation in costs due to patient care needs, the relationship between average payments and average estimated costs masks wider differences between payments and estimated costs across the 80 home health payment groups. The relationship between payments and estimated costs for the 10 payment groups that account for almost half of home health episodes ranged from 72 percent above the estimated cost to 4 percent below in the first 6 months of 2001. (See table 2.) For the five payment groups with the lowest payments relative to estimated costs, which accounted for 8 percent of all episodes, the payment ranged from about 9 percent below to about equal the average estimated cost of services provided. The payment was greater than the average estimated cost for the remaining groups. For any HHA, the relationship between Medicare payments and the costs of providing care will likely vary from the averages we report here. The PPS was designed to provide adequate payments to HHAs that operate efficiently and to provide incentives for HHAs to become more efficient. But certain HHAs may have costs higher than payments if they face extraordinary costs not accounted for by the PPS payment groups. The Medicare program is paying HHAs on average considerably more than the estimated cost of care beneficiaries are receiving. Consequently, implementation of the BBA-mandated 15 percent payment reduction, which would lower fiscal year 2003 PPS payments by 7 percent, should not affect HHAs’ ability to serve Medicare beneficiaries. This payment reduction would move the Medicare program closer to becoming a prudent purchaser of home health care, but the reduction by itself is not sufficient. A single payment to cover all services provided during a 60-day episode of care, combined with the lack of standards for what constitutes necessary or appropriate home health care, leaves beneficiaries vulnerable to underservice, Medicare vulnerable to future overpayments, and HHAs with a disproportionate number of beneficiaries with extensive needs vulnerable to underpayments. Implementing the 15 percent reduction would not lessen these vulnerabilities. This is why we have previously recommended that the PPS include risk sharing to simultaneously protect beneficiaries, the Medicare program, and HHAs. The Congress should consider making no change in the requirement for a reduction in Medicare home health payments. We continue to urge the Congress to require CMS to incorporate risk sharing into the PPS design. In written comments on a draft of this report, CMS stated that our findings are consistent with its preliminary analysis of data for the first year of the PPS. It noted that cost report data, which are not yet available for the first year of the PPS, would be required to determine the costs of home health services under the PPS with certainty. CMS reiterated its concerns about implementing risk sharing as a part of the PPS. It believes that risk sharing would undermine the main benefit of PPS, which is payments that are timely and predictable. Further, CMS stated its belief that the outlier payment policy under the home health PPS and planned monitoring activities should mitigate our concern that some HHAs may be vulnerable to underpayments. Finally, CMS stated that risk sharing is administratively difficult. Although cost report data would more accurately reflect an HHA’s costs, our episode cost estimates build on historic visit costs, adjusted for inflation and changes in visit time, and reflect actual service use, a major determinate of episode costs. We believe that the new evidence we present on the wide disparity between payments and estimated costs on average and across payment groups demonstrates the need for and the value of risk sharing in conjunction with the home health PPS. Risk sharing would not remove the incentives under the PPS for HHAs to provide care efficiently, because they would continue to benefit financially when their costs are below their payments and lose financially when their costs are above their payments. Yet, risk sharing would mitigate extreme gains and losses under the PPS. While the monitoring activities and refinements that CMS discusses such as revisions to the payment groups could mitigate extreme gains or losses, it could be some time until they are implemented. Furthermore, outlier payments, which account for less than 3 percent of payments, are not by themselves sufficient to protect vulnerable HHAs that have higher than average costs across a number of patients, nor do they protect the Medicare program from excessive spending. We believe that CMS could overcome any administrative difficulties in implementing risk sharing. CMS incorporated a risk-sharing arrangement in its demonstration project on the home health PPS while ensuring predictable and timely payments. We note that CMS has considerable experience in adjusting prospective payments to providers based on expectations for a provider’s costs in the coming year, most recently in implementing the hospital outpatient PPS, which has a provision to protect hospitals from losses. CMS’ comments are included as appendix II. We received oral comments on a draft of this report from representatives of three home health care associations—American Association for Homecare (AAHomecare), National Association for Home Care (NAHC), and Visiting Nurse Associations of America (VNAA). These organizations disagreed with our conclusions. All three associations expressed concern about the effect of a potential payment reduction on the industry’s stability and, in particular, its ability to care for medically complex patients. The associations said it was too early in the experience of the PPS to accurately measure home health care use, visit costs, episode costs, or industry profit margins. VNAA stated that our cost estimates do not reflect current fixed costs under the PPS. NAHC raised questions about the timeliness of payments if risk sharing is a part of the home health PPS. The associations said that more information was needed on how low- utilization episodes, partial episodes, and outlier payments would affect the relationship between average episode costs and payments to HHAs. Our results are consistent with CMS’ analysis of a full year of experience under the PPS. Our analysis of 1.48 million episodes did not consider the payment reduction for partial episodes, payment enhancement for outliers, or variable payment adjustments for a significant change in a beneficiary’s condition. When calculating episode payments and estimated costs we treated these as full episodes. The impact of these payment adjustments on average episode payments is likely to be minimal because they are partially offsetting and apply to less than 8 percent of episodes. Whether the visit costs for these types of episodes is different from the average visit costs is not known. We excluded low-utilization episodes from our analysis because they are not paid an episode rate. HHA visits per user have been dropping since 1997, allowing ample time for HHAs to bring their fixed costs in line with current use patterns. The magnitude of the difference between payments and estimated costs provides compelling evidence that the legislated reduction would not destabilize the home health industry. Further, risk sharing if implemented would moderate any negative effects on the HHAs that may incur costs that are higher than these estimates including when HHAs treat medically complex patients. We are sending copies of this report to the Administrator of CMS. We will also make copies available to others upon request. If you or your staff have any questions, please call me at (202) 512-7114. Other contacts and staff who contributed to this report are listed in appendix III. We conducted our analyses using Medicare provider, claims, and beneficiary files for calendar years 2000 and 2001. We included only those providers that were listed as active in each year. For episodes ending on January 1, 2001 through June 30, 2001, we used all final bills from the home health Standard Analytic File (SAF) for 2001 that were available as of January 24, 2002. Our file of 1.48 million episodes, which excludes all low-utilization episodes, does not include any claims for the first 6 months of 2001 submitted after January 24, 2002. For 2000, we used all final bills ending on January 1, 2000 through June 30, 2000. To compute our estimate of average episode costs, we used HCFA’s per- visit cost estimates that were used to establish the PPS episode rates and that were calculated from the sample of fiscal year 1997 audited costs reports. The per-visit costs, which include all costs of home health services covered and paid for on a reasonable cost basis, were inflated to 2001 cost levels using the market basket index for home health services. Then we adjusted the per-visit costs to account for the change in the time spent for each type of visit in 2001 compared to 2000. We estimated episode costs by multiplying the adjusted per-visit cost for each type of visit by the average mix of visits provided in each payment group in a 2001 episode. We also added an additional amount for the costs of other services not included in the per-visit costs. Our methodology assumes that the relationship between direct patient care costs and overhead costs has remained the same over time and therefore that administrative costs have not increased or decreased since the PPS. We calculated the average payment as the payment amount for each of the 80 payment groups weighted by the proportion of all episodes in 2001 provided within each payment group. We interviewed CMS officials and industry representatives from the American Association for Homecare, National Association for Home Care, Gentiva Health Services, Rocky Mountain Health Care, and the Visiting Nurse Associations of America regarding the changes in provider practices since the implementation of PPS. In addition to those named above, Leslie V. Gordon, Dan Lee, Carolyn Manuel-Barkin, Lynn Nonnemaker, and Paul M. Thomas made key contributions to this report.

Summary: The Balanced Budget Act of 1997 significantly changed Medicare's home health care payments to home health agencies (HHAs). Under a prospective payment system (PPS), HHAs are paid a fixed amount, adjusted for beneficiary care needs, for providing up to 60 days of care---termed a "home health episode." The act also imposed new interim payment limits to moderate spending until the PPS could be implemented. Although PPS was designed to lower Medicare spending below what it was under the interim system, GAO found that Medicare's payments for full home health care episodes were 35 percent higher than estimated in the first six months of 2001. These disparities indicate that Medicare's PPS overpays for services actually provided, although some HHAs facing extraordinary costs not accounted for by the payment system may be financially disadvantaged.