Ruminations on Observation: OIG Report Highlights Inpatient vs. Observation Status

Posted by Health Law Informer Author on August 22, 2013

On July 29, 2013, the OIG released a memorandum report finding that Medicare paid more on average for short inpatient stays than for observation stays in 2012.  The report, Hospitals’ Use of Observation Stays and Short Inpatient Stays for Medicare Beneficiaries, OEI-02-12-00040, touches on observation versus inpatient status, which has been and continues to be a hot button issue.


Medicare beneficiaries receiving care at a hospital are classified as either inpatients or observation patients.  Observation patients are outpatients who receive treatments and assessments to determine whether they require further treatment as inpatients or can be discharged.  CMS policy provides that observation services are usually needed for 24 hours or less.  

Although the care that observation patients receive may be identical to the care received by inpatients, the consequences for beneficiaries who are not admitted as inpatients can be significant.  First, they may have more out-of-pocket costs than if they were admitted as inpatients.  Second, and most significantly, they may not qualify for skilled nursing facility (SNF) services if such services are needed following discharge from the hospital because Medicare will not pay for SNF services under Part A unless the patient has a qualifying three-day inpatient stay.

According to the report, CMS, members of Congress and others are concerned that beneficiaries may be spending long periods of time in observation without being admitted as inpatients which would make them ineligible for post-discharge SNF services and that Medicare may be improperly paying for short inpatient stays where the beneficiaries should have been treated as outpatients.

The OIG’s Analysis of 2012 Medicare Data

In its report, the OIG classifies hospital stays into three categories:  observation, long outpatient and short inpatient (i.e., stays that last less than two nights).  In 2012, 72% of hospital stays were observation or long outpatient stays and 28% were short inpatient stays.  Medicare beneficiaries had 1.5 million observation stays and 1.1 million short inpatient stays in 2012, which were often for the same reason as observation stays.  The OIG found that Medicare paid an average of $1,741 for an observation stay, compared with $5,142 on average for a short inpatient stay.

Beneficiaries also paid more on average for short inpatient stays.  In 2012, beneficiaries paid an average of $401 for an observation stay, while a short inpatient stay cost an average of $725 per short inpatient stay, a difference of $324.  According to the report, even when patients were being treated for the same conditions, short inpatient stays were typically more costly than observation stays.

Most importantly, Medicare beneficiaries had 617,702 observation and long outpatient stays that lasted more than three nights, but that did not qualify them for SNF services.  In some of these stays, beneficiaries were first classified as outpatients and then subsequently admitted as inpatients.

In its conclusion, the OIG recommends that CMS ensure that beneficiaries with similar post-discharge needs have the same access to and cost-sharing for SNF services.  It also suggests that the ability to count outpatient nights towards the qualifying three-day inpatient stay may reduce the number of observation and long outpatient stays, but notes that such a policy change would likely require action by Congress.  The OIG further recommends that CMS ensure that Medicare does not inappropriately pay when beneficiaries do not qualify for SNF services.  Despite this recommendation, OIG plans to identify the SNFs that received Medicare payments for patients who did not have a qualifying inpatient stay so that CMS can look into recoupment.

Observations about the Future of Observation and Inpatient Status

H.R. 1179 and S. 569 are currently before Congress and seek to amend the Social Security Act to permit the counting of outpatient nights towards the qualifying three-day inpatient stay for SNF coverage by Medicare.  Despite bipartisan support, it remains to be seen how quickly these bills will move through the legislative process.

Interestingly, the OIG’s report and CMS’s focus on observation services and short stays coincides with the Pennsylvania DPW’s consideration of comments on a new proposal to cover and fund observation services under the MA program.  In a recently published Pennsylvania Bulletin, DPW indicated that it is considering the establishment of an observation rate for hospital cases in which an inpatient admission is not medically necessary but observation of the patient is required.  It intends to set a comprehensive rate to cover observation services determined to be compensable under the MA Program.

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