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County of Los Angeles v. Sullivan

filed: June 29, 1992.


Appeal from the United States District Court for the Central District of California. D.C. No. CV-85-5778-JSL. J. Spencer Letts, District Judge, Presiding.

Before: Thomas Tang, Stephen Reinhardt and Charles Wiggins, Circuit Judges. Opinion by Judge Tang.

Author: Tang

TANG, Circuit Judge

The County of Los Angeles ("County") challenges the validity of a rule promulgated by the Secretary of Health and Human Services ("Secretary") that limited the amount of reimbursement received by three of the County's hospitals for treating Medicare patients for the fiscal years 1974 through 1980. The County contends that the rule (1) conflicts with the Secretary's statutory mandate to provide the three hospitals with the "reasonable costs" of their services, (2) ignores statutes and regulations requiring the Secretary to accommodate hospitals' accounting capabilities, and (3) violates the Administrative Procedures Act ("APA"), 5 U.S.C. § 553, because the Secretary did not abide by the APA's rulemaking requirements. The County initially appealed the rule to the Provider Reimbursement Review Board ("PRRB"), an administrative tribunal with jurisdiction over Medicare reimbursement disputes. See 42 U.S.C. § 1395oo. After the PRRB upheld the rule, the County filed an action for judicial review of the PRRB's decision in district court pursuant to 42 U.S.C. § 1395oo(f). The district court granted summary judgment for the Secretary, and the County timely appeals. We have jurisdiction pursuant to 28 U.S.C. § 1291, and we reverse and remand.



Under the Secretary's administration, the Medicare program, Title XVIII of the Social Security Act, 42 U.S.C. §§ 1395-1395ccc, provides federal health insurance for elderly and disabled people. Until 1980, federal law required the Secretary to reimburse certified Medicare health care providers such as hospitals the "reasonable cost" of serving Medicare patients. Id. § 1395f(b). Participating hospitals submitted their Medicare cost reports to "fiscal intermediaries," private agents of the Secretary, which reviewed each report for compliance with Medicare regulations and interpretive rules. Id. § 1395(h); 42 C.F.R.§ 405.45.3(f).

The Medicare program reimburses hospitals for "routine services" and "ancillary services." Routine services include room and board and the minor medical supplies every patient receives. 42 C.F.R. § 405.452(b). Routine services are reimbursed at an average per diem rate for each day the hospitals serve Medicare patients. Id. § 405.452(d)(7).

Ancillary services are "services for which charges are customarily made in addition to routine services," and include such services as x-rays and laboratory tests. Id. § 405.452(b). Because of characteristics unique to the Medicare population, Congress and the Secretary rejected the use of a hospital's average per diem rate for reimbursing ancillary services. The average elderly Medicare patient stays twice as long in the hospital as all other patients, but does not use more ancillary services. Medicare patients' average per diem ancillary costs differ from, and are generally lower than, other patients' average per diem ancillary costs. See id. § 405.403(e).

Congress delegated to the Secretary the responsibility of devising cost-apportionment procedures that would ensure that the costs of treating Medicare patients would not be borne by non-Medicare patients and vice versa. See 42 U.S.C. § 1395x(v)(1)(A). Thus, to account for the atypical ancillary costs of the Medicare population, the Secretary developed in 1968 five alternative methods for reimbursing ancillary costs. DHEW Intermediary Letter No. 321 (April 1968). The five methods also accommodated different hospitals' billing practices and sophistication in recordkeeping. Id. The methods were in effect from 1968 to 1980, and thus applied to the years disputed in this action, 1974 to 1980. Id.

Method A, the most sophisticated and "preferred" method, required hospitals to calculate the ratio of Medicare patients' ancillary costs to all other patients' ancillary costs. Id. This method applied to hospitals, including most private hospitals, that billed separately for ancillary costs. Id.

The Secretary promulgated four other calculation methods, Methods B, C, D, and E, for hospitals with less sophisticated recordkeeping. Id. Such hospitals included public, multi-institutional systems which provide services for small or no charges. Id. At the Medicare program's inception, such hospitals did not account for routine and ancillary service costs separately. Instead, they used an "all-inclusive" rate structure, posting a single per diem rate for all services provided. Id. Because of inadequate data, such hospitals could not use the preferred Method A for calculating Medicare reimbursable ancillary costs. Los Angeles County operated an "all inclusive" hospital system unable to use Method A. During the period 1968 to 1980, Los Angeles County hospitals in this system used Method B.

The accounting rules initially promulgated by the Secretary in 1968 required all providers to implement data collection and billing procedures that would enable them to use Method A by December 1969. DHEW Intermediary Letter No. 321 (April 1968). In 1971, however, the Secretary, through a designated fiscal intermediary contractor, Blue Cross Association, issued a "Medicare Administrative Bulletin" extending indefinitely the deadline for converting to Method A. Administrative Bulletin No. 378 (April 8, 1971). The Bulletin authorized fiscal intermediaries such as Los Angeles County's to grant extensions to government hospitals authorizing use of alternative Methods B through E if the hospitals were "unable to implement Method A because of the failure to secure adequate funding from the pertinent legislature." Id. Accordingly, from 1969 to 1980, Los Angeles County sought and received permission from its designated fiscal intermediary to continue using alternative Method B.

Under Method B, hospitals calculated a weighted estimated percentage of Medicare patients' use of ancillary services based on a ratio of the Medicare patients' average length of stay to the average length of stay of all of the hospital's patients.*fn1 Method B relied on two premises to account for the Medicare population's atypical ancillary costs. First, patients generally receive more ancillary services in the early stages of hospitalization resulting in higher costs in the early days of each patient's stay. DHEW Intermediary Letter No. 321 (April 1968). Second, Medicare patients typically remain hospitalized twice as long as other patients, but require fewer ancillary services over the latter part of the hospital stay. 42 C.F.R. § 405.403(e). Thus, under these premises, because Medicare patients' ancillary costs are averaged over longer stays, their average per diem ancillary costs are lower than the average per diem ancillary costs for all patients. Id.

Accordingly, under Method B, if a patient's hospital stay exceeded the hospital's average for all patients, then the Medicare program reimbursed the hospital for only seventy-five percent of average per diem ancillary costs for each day the Medicare patient's stay exceeded the hospital's average. Conversely, if a Medicare patient's stay was shorter than the hospital's average stay for all patients, then the Medicare program reimbursed the hospital for an amount greater than the average per diem ancillary costs for all patients.

In October 1971, the Secretary modified Method B to provide that a hospital's reimbursement for a Medicare patient's per diem ancillary costs could not exceed 100% of the hospital's average per diem ancillary costs for all patients.*fn2 Method B thus continued to reflect the premise that Medicare patients with hospital stays longer than non-Medicare patients' stays have lower per diem ancillary costs because ancillary costs are greater in the early part of all patients' stays. Method B ceased to reflect the corollary, however, that when Medicare patients' stays were shorter than the hospital's average, their per diem ancillary costs were higher than the hospital's average for all patients.

The modification effectively reduced Medicare reimbursable costs for the three Los Angeles County specialty hospitals, Rancho Los Amigos, Long Beach General, and Mira Loma, for every year they utilized Method B. These hospitals provide rehabilitative services for alcoholics, for people with spine or brain injuries, or for children. Because of their specialties, these three hospitals' patient populations and length of stay averages were atypical. In these three hospitals, Medicare patients remained in the hospital for a shorter stay than each hospital's average for all patient stays. Thus, ...

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