[Federal Register Volume 73, Number 245 (Friday, December 19, 2008)]
[Rules and Regulations]
[Pages 77904-77952]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: E8-30000]



[[Page 77903]]

-----------------------------------------------------------------------

Part III





Department of Health and Human Services





-----------------------------------------------------------------------



Centers for Medicare & Medicaid Services



-----------------------------------------------------------------------



42 CFR Parts 447 and 455



Medicaid Program; Disproportionate Share Hospital Payments; Final Rule

  Federal Register / Vol. 73, No. 245 / Friday, December 19, 2008 / 
Rules and Regulations  

[[Page 77904]]


-----------------------------------------------------------------------

DEPARTMENT OF HEALTH AND HUMAN SERVICES

Centers for Medicare & Medicaid Services

42 CFR Parts 447 and 455

[CMS-2198-F]
RIN 0938-AN09


Medicaid Program; Disproportionate Share Hospital Payments

AGENCY: Centers for Medicare & Medicaid Services (CMS), HHS.

ACTION: Final rule.

-----------------------------------------------------------------------

SUMMARY: This final rule sets forth the data elements necessary to 
comply with the requirements of Section 1923(j) of the Social Security 
Act (Act) related to auditing and reporting of disproportionate share 
hospital payments under State Medicaid programs. These requirements 
were added by Section 1001(d) of the Medicare Prescription Drug, 
Improvement, and Modernization Act of 2003 (MMA).

DATES: Effective Date: This rule is effective on January 19, 2009.

FOR FURTHER INFORMATION CONTACT: Venesa Day, (410) 786-8281; Rory Howe, 
(410) 786-4878; and Rob Weaver, (410) 786-5914.

SUPPLEMENTARY INFORMATION:

I. Background

    Title XIX of the Social Security Act (Act) authorizes Federal 
grants to States for Medicaid programs that provide medical assistance 
to low-income families, the elderly and persons with disabilities. 
Section 1902(a)(13)(A)(iv) of the Act requires that States make 
Medicaid payment adjustments for hospitals that serve a 
disproportionate share of low-income patients with special needs. 
Section 1923 of the Act contains more specific requirements related to 
such disproportionate share hospital (DSH) payments, including 
aggregate annual state-specific limits on Federal financial 
participation under Section 1923(f), and hospital-specific limits on 
DSH payments under Section 1923(g). Under those hospital specific 
limits, a hospital's DSH payments may not exceed the costs incurred by 
that hospital in furnishing services during the year to Medicaid 
patients and the uninsured, less other Medicaid payments made to the 
hospital, and payments made by uninsured patients (``uncompensated care 
costs''). In addition, Section 1923(a)(2)(D) requires States to provide 
an annual report to the Secretary describing the payment adjustments 
made to each disproportionate share hospital.
    Section 1001(d) of the Medicare Prescription Drug, Improvement, and 
Modernization Act of 2003 (MMA) (Pub. L. 108-173, enacted on December 
8, 2003) added Section 1923(j) to the Act to require States to report 
additional information about their DSH programs. Section 1923(j)(1) of 
the Act requires States to submit an annual report that includes the 
following:
     Identification of each DSH facility that received a DSH 
payment under the State's Medicaid program in the preceding fiscal year 
and the amount of DSH payments paid to that hospital in the same year.
     Such other information as the Secretary of Health and 
Human Services determines necessary to ensure the appropriateness of 
DSH payments.
    Section 1923(j)(2) of the Act also requires States to have their 
DSH payment programs independently audited and to submit the 
independent certified audit annually to the Secretary. The certified 
independent audit must verify:
     The extent to which hospitals in the State have reduced 
uncompensated care costs to reflect the total amount of claimed 
expenditures made under Section 1923 of the Act.
     DSH payments to each hospital comply with the applicable 
hospital-specific DSH payment limit.
     Only the uncompensated care costs of providing inpatient 
hospital and outpatient hospital services to Medicaid eligible 
individuals and uninsured individuals as described in Section 
1923(g)(1)(A) of the Act are included in the calculation of the 
hospital-specific limits.
     The State included all Medicaid payments, including 
supplemental payments, in the calculation of such hospital-specific 
limits.
     The State has separately documented and retained a record 
of all its costs under the Medicaid program, claimed expenditures under 
the Medicaid program, uninsured costs in determining payment 
adjustments under Section 1923 of the Act, and any payments made on 
behalf of the uninsured from payment adjustments under Section 1923 of 
the Act.
    In addition to these reporting requirements, under Section 1923(j) 
of the Act, Federal matching payments are contingent upon a State's 
submission of the annual DSH report and independent certified audit.

II. Summary of the Proposed Regulations

    On August 26, 2005, we published in the Federal Register (70 FR 
50262-50268) a notice of proposed rulemaking implementing the reporting 
and auditing requirements for State Disproportionate Share Hospital 
payments. In this notice of proposed rulemaking, we proposed modifying 
the DSH reporting requirements in Federal regulations at 42 CFR 447 by 
providing the following changes to our regulations:
1. Reporting Requirements
    To implement the reporting requirements in Section 1923(j)(1) of 
the Act, we proposed to modify the DSH reporting requirements in 
Federal regulations at 42 CFR 447.
     We proposed to add a new paragraph (c) to the reporting 
requirements in Sec.  447.299.
     We proposed to redesignate the documentation requirements 
in paragraph (c) as paragraph (d) and redesignate the deferrals and 
disallowances information in paragraph (d) as paragraph (e), 
respectively.
     We proposed a list of information to reflect the data 
elements necessary to ensure that DSH payments are appropriate such 
that each qualifying hospital receives no more in DSH payments than the 
amount permitted under Section 1923(g) of the act.
     We proposed that paragraph (c) would require each State 
receiving an allotment under Section 1923(f) of the Act, beginning with 
the first full State fiscal year (SFY) immediately after the enactment 
of Section 1001(d) of the Medicare Prescription Drug, Improvement, and 
Modernization Act (MMA) and each year thereafter, to report to us the 
list of information detailed in an Reporting form, which was published 
in the September 23, 2005 correction notice entitled ``Medicaid 
Programs; Disproportionate Share Hospital Payments''.
     We proposed that States will need to consider a Section 
1011 payment when determining the hospital's DSH limit, because the 
total DSH payments should not exceed the total amount of uncompensated 
care at the hospital.
     The information supplied on this spreadsheet would satisfy 
the requirements under Sections 1923(a)(2)(D) and 1923(j)(1) of the 
Act.
2. Audit Requirements
    We explained the statute's requirement for States to verify their 
methodology for computing the hospital specific DSH limit and the DSH

[[Page 77905]]

payments made to hospitals. As required by Section 1923(j)(2) of the 
Act, these five items identified in statute would provide independent 
verification that State Medicaid DSH payments comply with the hospital-
specific DSH limit in Section 1923(g) of the Act, and that such limits 
are accurately computed.
     In Sec.  455.201, we proposed that ``SFY'' stands for 
State fiscal year.
     We proposed to define that an ``independent audit'' means 
an audit conducted according to the standards specified in the 
generally accepted government auditing standards issued by the 
Comptroller General of the United States.
     We proposed adding a new Sec.  455.204(a) to reflect 
Section 1923(j) of the Act's requirement that each State must submit 
annually the independent certified audit of its DSH program as a 
condition for receiving Federal payments under Section 1903(a)(1) and 
1923 of the Act.
     We proposed to add a new Sec.  455.204(b) to reflect the 
requirement that States must obtain an independent certified audit, 
beginning with an audit of its State fiscal year 2005 DSH program.
     We proposed a submission requirement within 1 year of the 
independent certified audit.
     We proposed that in the audit report, the auditor must 
verify whether the State's method of computing the hospital-specific 
DSH limit and the DSH payments made to the hospital comply with the 
five items required by Section 1923(j)(2) of the Act.

III. Discussion of Public Comments

    On August 26, 2005, we set forth a proposed rule implementing the 
reporting and auditing requirements for State disproportionate share 
hospital payments (DSH). In this notice of proposed rulemaking, we 
proposed several modifications to the DSH reporting requirements and 
detailed the statutory auditing requirements for States to verify their 
methodology for computing the hospital-specific DSH limit to ensure 
that DSH payments made to eligible hospitals do not exceed such limits.
    We received 119 timely public comments, in response to the August 
26, 2005, proposed rule. The comments came from a variety of 
correspondents, including professional associations, national and State 
organizations, physicians, hospitals, advocacy groups, State Medicaid 
programs, State Legislators, and members of the Congress. The following 
is a summary of the comments received and our response to those 
comments.

A. General Comments on Auditing and Reporting Provisions

    We received the following general comments regarding the proposed 
regulation:
    Comment: Many commenters believe the proposed regulation exceeds 
the Congressional intent of the statutory authority of the MMA, makes 
substantive interpretations and changes to longstanding DSH policy not 
required by MMA and attempts to establish new policy.
    Response: The statutory authority under MMA instructed States to 
report and audit specific payments and specific costs. Section 
1923(j)(1)(B) of the Act specifically delegated to the Secretary 
authority to require reporting of information ``necessary to ensure the 
appropriateness of payment adjustments made under this Section.'' These 
regulations require reporting of data elements that are specifically 
related to the appropriateness of DSH payments, and thus are consistent 
with that statutory provision. The regulations provide States with 
uniform instructions that contain detailed identification of the 
necessary data elements. The audit requirements also specified in 
Section 1923(j)(2) of the Act, and these regulations specifically track 
the statutory requirements.
    Comment: Many commenters are concerned that CMS has used the MMA 
provisions, which only relate to reporting and auditing, to 
dramatically change the financing of the Medicaid DSH program; this 
change would have serious implications for hospitals that care for the 
low-income and uninsured.
    Response: Neither the statute nor the implementing regulation 
addresses the financing of DSH payments. The statutory authority under 
MMA instructed States to report and audit specific payments and the 
underlying calculations. While it could be that this information 
discloses impermissible payments (or ``financing''), this does not 
reflect a change in the standards for such payments. Instead the 
information will ensure that payments conform with existing applicable 
law.
    Comment: Several commenters noted that the proposed rule purports 
to implement statutory reporting and audit requirements that do not 
alter any of the substantive standards regarding the calculation of 
costs under the hospital-specific DSH cap. They asserted that it would 
be completely improper for CMS to employ preamble language, or include 
in the rule provisions that would alter substantive standards under the 
auspices of new statutory reporting requirements.
    Response: The provisions of this rule do not alter the fundamental 
statutory requirements to calculate DSH hospital-specific uncompensated 
care costs, and audit such calculations, in order to demonstrate that 
payments are proper. This rulemaking sets forth reporting requirements 
to ensure uniformity in the understanding and implementation of these 
requirements. By doing so, the rule will ensure that the basis for DSH 
payments is clear, including the required hospital-specific 
uncompensated care cost calculations, and set forth the necessary 
elements for an independent audit of those cost calculations and 
payments following the statute as amended by the MMA.
    Comment: A few commenters expressed disagreement with the manner in 
which the proposed regulation would employ audits to determine whether 
States are making Medicaid DSH payments in appropriate amounts. These 
commenters argued that audits should not limit State discretion in the 
manner in which DSH payments are calculated. These commenters objected 
to the proposed requirements that auditors determine whether DSH is 
being calculated ``correctly'' when there has never been a single, 
true, definitive definition of exactly what ``correct'' means. In other 
words, the commenters argued that the regulation proposes counting on 
auditors to help impose a standard that does not currently exist.
    Response: We disagree that the calculations involved in applying 
the hospital-specific DSH limits are discretionary. There have been 
clear and longstanding standards for calculating the costs of hospital 
services that apply to the calculation of hospital-specific DSH limits. 
The statutory authority under MMA instructed States to report and audit 
specific payments and specific costs to ensure compliance with those 
standards.
    The applicable standards are based on existing statutes, 
regulations, and interpretive guidance. In 1993, Congress imposed 
hospital-specific limitations on the level of DSH payments to which 
qualifying hospitals were entitled. Section 1923(g)(1)(A) specifies 
that DSH payments cannot exceed, ``the costs incurred during the year 
of furnishing hospital services (as determined by the Secretary and net 
of payments under this title, other than under this Section, and by 
uninsured patients * * *)''. In 1994, CMS issued guidance that 
clarified that the 1993 hospital-specific ``cost'' limit includes both 
inpatient and outpatient hospital services for Medicaid individuals and 
individuals

[[Page 77906]]

with no source of third party coverage. Moreover, the calculation of 
hospital costs is subject to longstanding cost principles contained in 
Office of Management and Budget Circulars, including Circular A-110, 
and, to the extent not addressed in those Circulars, in Generally 
Accepted Accounting Principles (GAAP). In addition, over the years CMS 
has addressed hospital cost accounting in considerable detail in the 
Medicare program, and has developed cost reporting forms and procedures 
that offer further guidance on these issues.
    Comment: A few commenters stated that, to the extent that CMS 
retains substantive changes to DSH policy in this regulation, CMS 
should acknowledge that this regulation does more than merely implement 
reporting and auditing requirements against existing standards.
    Response: This regulation does not alter any of the substantive 
standards regarding the calculation of hospital costs, but requires 
that auditors apply those standards in determining the hospital-
specific DSH limit. The preamble and the regulation set forth reporting 
requirements to ensure that the basis for DSH payments is clear, 
including the required hospital-specific uncompensated care cost 
calculations, and set forth the necessary elements for an independent 
audit of those cost calculations and payments.
    Comment: Several commenters noted that States have implemented and 
carried out their DSH programs pursuant to methodologies set forth in 
CMS-approved Medicaid State plan amendments which were developed 
consistent with the DSH statute that provides States the flexibility to 
adopt procedures and methodologies tailored to each State's health care 
delivery system. The commenters asserted that the proposed rule would 
impose new substantive requirements that would be implemented through 
third-party auditors applying standards that are at odds with existing 
State plan provisions. They asserted that the approved Medicaid plan in 
each Medicaid State plan should provide the substantive basis for the 
independent audits and reports required under Section 1923(j). Because 
CMS approved the Medicaid State plan provisions and has not implemented 
the statutory process that would be required to render them invalid, 
the commenters stated that the Medicaid State plans should be deemed to 
reflect current Federal policy on the implementation of the Medicaid 
DSH program and be the standard by which FFP is available for State 
Medicaid expenditures.
    Response: In reviewing State DSH payments, auditors must first 
determine whether the DSH payments were initially calculated using the 
methodology authorized by the approved Medicaid State plan. These 
Medicaid State plans, in part, articulate the methods and standards by 
which States set payment rates. Section 4.19-A of the Medicaid State 
plan includes the methodologies States utilize to make Medicaid DSH 
payments. The statutory hospital-specific limit, however, overlays that 
methodology because it is determined by actual uncompensated costs of 
inpatient and outpatient hospital services. States typically include a 
provision within the Medicaid State plan that DSH payments will not 
exceed each qualifying hospital's DSH limit.
    The DSH payment methodologies contained in Section 4.19-A of the 
Medicaid State plan do not specifically identify the cost components 
included in the hospital-specific DSH limits but are governed by 
longstanding principles set forth in statutes, regulations, and agency 
guidance.
    While CMS recognizes that States must use prospective estimates to 
determine DSH payments in a given Medicaid State plan rate year, the 
audits required by the MMA are statutorily required to verify the 
extent to which such estimates are reflective of the actual costs and 
that resultant payments do not exceed such cost limitations imposed by 
Congress.
    Comment: Several commenters noted that the proposed rule would 
establish DSH policy that reaches beyond the reporting and audit 
requirements outlined in Section 1001(d). They cited the example that, 
if a State fails to comply with the reporting and auditing 
requirements, CMS proposes to impose a penalty that would result in the 
loss of Federal matching Medicaid dollars.
    Response: Section 1923(j) of the Act very clearly stipulates that 
Medicaid DSH payments are conditioned upon the submission of the annual 
report and independent certified audit is required. However, with 
respect to requiring recovery of any overpayments, the regulation does 
not impose an immediate penalty that would result in the loss of 
Federal matching dollars. As described in subsequent responses to 
comments specific to the auditing component of the regulation, because 
a trial period will be required for auditors to refine audit 
methodologies, findings from Medicaid State plan rate year 2005 through 
2010 will be used only for the purpose of determining prospective 
hospital-specific cost limits and the actual DSH payments associated 
with a particular year.
    Beginning in Medicaid State plan rate year 2011, to the extent that 
audit findings demonstrate that DSH payments exceed the documented 
hospital-specific cost limits, CMS will regard them as representing 
discovery of overpayments to providers that, pursuant to 42 CFR Part 
433, Subpart F, triggers the return of the Federal share to the Federal 
government (unless the DSH payments are redistributed by the State to 
other qualifying hospitals as an integral part of the audit process). 
This is not a ``penalty'' but instead reflects adjustment of an 
overpayment that was not consistent with Federal statutory limits. We 
note that, to the extent that States wish to redistribute DSH payments 
that exceed hospital-specific limits, the Federally approved Medicaid 
State plan must reflect that payment policy.
    Comment: A few commenters said there are existing administrative 
procedures for determining a Medicaid State plan's compliance with 
Federal Medicaid law, which include a notice and hearing process. 
Nothing in Section 1923 or its legislative history suggests that 
Congress intended to circumvent these longstanding procedures through 
the audit and reporting requirements. Therefore, any attempt to do so 
in the guise of these implementing regulations would be invalid.
    Response: The MMA independent audit procedures establish a process 
for discovery of DSH overpayments that trigger existing 
responsibilities for States to refund the Federal share of Medicaid 
overpayments to providers. The audits provide information that will 
identify DSH payments that exceed the amounts permitted under Section 
1923(g)(1) of the Act and incorporated by reference into approved State 
plans. This information, in the form of an independent certified audit 
obtained by the State, will result in discovery of DSH overpayments and 
will trigger requirements to refund the Federal share of those 
overpayments, pursuant to existing requirements at 42 CFR Part 433, 
Subpart F. States that do not refund the Federal share of overpayments 
will be subject to disallowance of claims for Federal funds, and will 
have notice and an opportunity for a hearing through the Medicaid 
disallowance process. We believe this is consistent with the apparent 
purpose of the audit requirement to ensure the financial integrity of 
State DSH payments, and to ensure that DSH payments are targeted at 
addressing the burdens faced by hospitals which serve a

[[Page 77907]]

disproportionate share of low income patients.
    Comment: Many commenters said that the Medicaid DSH program was 
designed to recognize the financial burden borne by those hospitals 
that take care of a disproportionate number of low income and uninsured 
individuals, and to provide financial assistance essential for these 
safety net providers to continue to take care of patients. Medicaid DSH 
funds are critical to the future viability of their hospitals. They 
were concerned that any new policy interpretation that results in 
substantially lower DSH payments or affects prior year DSH payments 
will have a significant financial impact on (safety net) hospitals, and 
will threaten their ability to continue to serve the community. Because 
of the negative impact on hospitals and on the patients they serve, the 
commenters strongly urge CMS to rethink its approach in this proposed 
rule. A few commenters stated that changing the Federal position on 
this matter could cause significant financial problems for State 
Medicaid programs.
    Response: This rule does not impose any new restrictions on DSH 
payments. The statute calls for reporting and auditing of DSH payments, 
to ensure that such payments comply with existing statutory 
requirements limitations. This rule does not restrict the aggregate DSH 
funding that is available, nor does it effect DSH payments that comply 
with all statutory requirements. Consequently, there should be no 
effect on DSH payments that have been properly made to hospitals to 
account for the burden of treating a disproportionate share of low 
income patients.
    Comment: Several commenters referenced the 1994 guidance to State 
Medicaid Directors in which CMS granted flexibility in allowing a State 
to use the definition of allowable costs in its State Medicaid plan or 
any other definition as long as the costs determined under such a 
definition do not exceed the amounts that would be allowable under the 
Medicare principles of cost reimbursement. They argued that this 
pronouncement was consistent with the principle that Medicaid is a 
Federal-State partnership and should be continued. Since this is a 
Medicaid DSH program, they assert that the State should be permitted to 
determine the definition of allowable costs as either not exceeding 
amounts allowable under Medicare principles of cost reimbursement or 
amounts that would be consistent with the State's existing Medicaid 
program. They asked that the rule reaffirm State flexibility in 
defining allowable costs.
    Response: States have considerable discretion to determine 
allowable inpatient and outpatient costs when determining payment rates 
under their Medicaid State plan, but Section 1923(g)(1) of the Act 
provides for a Federal limitation based on costs that must be 
calculated in accordance with Federal accounting standards. In 
accordance with this principle, the 1994 guidance provided State 
flexibility to define Medicaid costs for purposes of setting Medicaid 
payment rates. But this flexibility does not apply to calculation of 
hospital-specific DSH limits to the extent that State-defined costs 
exceed those permitted under Medicare cost principles.
    Moreover, the hospital-specific limit is based on the costs 
incurred for furnishing ``hospital services'' and does not include 
costs incurred for services that are outside either the State or 
Federal definition of inpatient or outpatient hospital services. While 
States have some flexibility to define the scope of ``hospital 
services,'' States must use consistent definitions of ``hospital 
services.'' Hospitals may engage in any number of activities, or may 
furnish practitioner or other services to patients, that are not within 
the scope of ``hospital services.'' A State cannot include in 
calculating the hospital-specific DSH limit cost of services that are 
not defined under its Medicaid State plan as a Medicaid inpatient or 
outpatient hospital service.
    Comment: Numerous commenters said the proposed rule violates 
Administrative Procedure's Act rulemaking requirements because there 
was inadequate notice and opportunity for public comment on the 
proposed policy to limit hospital costs includable in the Medicaid DSH 
calculation. The commenters stated this is a proposed regulation for a 
reporting requirement only and that the cited statutory authority for 
the proposed rule has no bearing on allowability of costs in DSH 
calculation. These commenters stated the rule would substantively 
change longstanding DSH policy without appropriately calling for direct 
public comment.
    Response: CMS published the Notice of Public Rule Making on August 
26, 2005. As part of this publication, a 60 day comment period was 
provided. CMS received and considered numerous comments, as discussed 
in this preamble. Through this process, rulemaking requirements under 
the Administrative Procedure Act have been met. Moreover, the rule does 
not substantively change the standards for DSH payments, or for the 
review of hospital-specific limits on such payments. Even if the rule 
did make changes to those standards, however, CMS has followed the 
appropriate rulemaking procedures for such changes. Fundamentally, this 
rule implements statutory requirements to review and audit the 
calculation of DSH hospital-specific limits, including only the costs 
of those hospital services that are specified in the statute, and 
accounting for such costs consistently with existing applicable cost 
accounting principles.
    Comment: One commenter further indicated that this is not just an 
issue of notice and comment rulemaking as required under the 
Administrative Procedure Act, it is an issue of Federal-State comity. 
The commenter asserted that the requirements contained in the proposed 
rule are not consistent with Supreme Court decisions providing that, if 
Congress intends to impose a condition on the grant of Federal moneys, 
it must do so unambiguously.
    Response: The statute expressly requires that States report and 
audit DSH payments consistent with existing statutory limitations on 
such payments; this rule simply defines the nature and scope of these 
reporting and audit requirements. These requirements are related to 
ensuring Medicaid program integrity and transparency by providing 
information to identify improper payments, and the cost of meeting 
those requirements may be claimed as an administrative cost of the 
Medicaid program, eligible for Federal matching funding. As such, the 
statutory requirements are not new substantive responsibilities, but 
are part of existing State responsibilities to administer State 
Medicaid programs. Moreover, the Medicaid statute expressly requires 
the Secretary to identify necessary reporting requirements and the 
Secretary has oversight authority to ensure compliance with the 
statutory audit requirements. This rule provides detailed 
identification of the data elements necessary to comply with such 
reporting and auditing requirements expressly contained in statute. As 
an interpretation and implementation of clear statutory 
responsibilities, this rule is consistent with the cited Supreme Court 
decisions.

B. Reporting

1. Retroactivity
    Comment: One commenter stated that their State would need to make 
several regulation changes that would need to be retroactive to July 1, 
2005. The State

[[Page 77908]]

currently does not have a procedure to change regulations 
retroactively.
    Response: CMS does not agree that States would need to 
retroactively change their programs to comply with the audit and 
reporting requirements associated with Medicaid State plan rate year 
2005. The audit and reporting requirements discussed in this regulation 
can be met through prospective actions by States, and thus do not have 
retroactive effect. While the information disclosed by the audit and 
reporting requirements may reveal the need for retroactive adjustments 
to account for payments that are improper, this is no different from 
any other audit situation. Moreover, in order to ensure a period for 
developing and refining audit practices, we are providing for a 
transition period through Medicaid State plan rate year 2010, before 
audit results will be given weight other than in making prospective 
estimates of hospital costs for the purposes of ongoing DSH payments.
    Comment: Many commenters stated that applying the proposed rule's 
requirements to dates of service prior to State fiscal year (SFY) 2005 
would represent an undue administrative burden and a hardship for 
States and hospitals. Several commenters stated that it is unreasonable 
to expect that States are going to have readily available to them for 
SFY 2005, the data elements that CMS is just now requiring to be 
reported under this proposal. Applying the changes to the reporting 
requirements to SFY 2005 is a retroactive application and puts the 
States in the position of struggling to retrieve data that was not 
collected during SFY 2005. This would ultimately be to the detriment of 
the providers if the States are unable to capture all of the 
uncompensated care costs when they submit their reports. Many other 
commenters suggested all reporting and auditing requirements be 
prospective. In addition, they suggested linking the new reporting and 
auditing requirements to the first State fiscal year beginning after 
the finalization of the rule, no earlier than SFY 2006, with an audit 
being no earlier than 2 years later.
    A few commenters stated that the effective date of State Fiscal 
Year (SFY) 2005 would not give hospitals time needed to modify their 
procedures to comply with State instructions for reporting made 
pursuant to the final regulations.
    Response: We have modified the regulation to address concerns 
regarding the inability to complete the audit one year from the end of 
SFY 2005. The final regulation provides at 447.204(b) that:
    1. The Medicaid State plan rate year 2005, rather than State fiscal 
year 2005, is the first time period subject to the audit. The basis for 
this modification is recognition of varying fiscal periods between 
hospitals and States. The Medicaid State plan rate year is the one 
uniform time period under which all States estimate uncompensated costs 
in order to make DSH payments under the approved Medicaid State plan.
    2. In recognition of timing issues related to initiating the audit 
process, States may concurrently complete the Medicaid State plan rate 
year 2005 and 2006 audits by no later than September 30, 2009.
    3. Each subsequent audit beginning with Medicaid State plan rate 
year 2007 must be completed by the last day of the Federal fiscal year 
(FFY), September 30, ending three years from the Medicaid State plan 
rate year under audit. This means that the 2007 Medicaid State plan 
rate year must be audited by September 30, 2010.
    4. Each audit report must be submitted to CMS within 90 days of the 
completion of the audit. The report associated with Medicaid State plan 
rate years 2005 and 2006 are due no later than December 31, 2009. The 
2007 Medicaid State plan rate year audit report must be submitted to 
CMS by December 31, 2010.
    In addition, we have added a transition period at 447.204(d) to 
reflect concerns that auditing techniques may need to be reviewed and 
refined. Findings of the Medicaid State plan rate year audits through 
2010 will not be given weight other than for purposes of prospective 
Medicaid State plan rate year uncompensated care cost estimates and 
associated DSH payments. This means that, starting in Medicaid State 
plan rate year 2011, such findings should be used in the calculation of 
prospective estimates related to DSH payments.
    We are also making clear that DSH payments that, after the 
regulatory transition period, are found in the audit process to exceed 
the hospital-specific cost limits are provider overpayments that must 
be promptly returned to the Federal Government or redistributed by 
States to other qualifying hospitals. (Such redistribution authorities 
must be articulated in the Federally approved Medicaid State plan.) 
After the transition period to ensure the accuracy and reliability of 
audit techniques, such audit findings represent discovery of an 
overpayment under existing regulations at 42 CFR Part 433, Subpart F. 
We note that the regulatory transition provision is not intended to 
preclude review of DSH payments and discovery of overpayments prior to 
Medicaid State plan rate year 2011, to the extent that such review is 
independent of the State audit process.
    Comment: One commenter noted that the proposed reporting 
requirements do not provide for any option to request an extension for 
the submission of the information or audit.
    Response: As indicated in the response above, we have extended the 
audit and report submission date in the regulation. These extended time 
frames are detailed in a prior response and the regulation has been 
revised accordingly. Based on the revisions, the time frames are 
sufficiently long that there should be no need for extensions beyond 
the revised time frames. In the event of a natural disaster, or other 
incident beyond a State's control, we would consider providing relief 
in the context of a demonstration project that addresses the overall 
circumstances of the State.
    Comment: Many commenters noted that the NPRM applies these new 
changes to retroactively FY 2005 when most DSH plans are already in 
place. Medicaid State Plans, regulations, and/or statutes will need to 
be amended to reflect the new reporting and audit requirements, which 
are retroactive to 7/1/05.
    Response: CMS does not agree that States would need to 
retroactively change regulations to comply with the audit and reporting 
requirements associated with Medicaid State plan rate year 2005. In the 
audit process, Medicaid State plan DSH payments in the State plan rate 
year 2005 will be reviewed against uncompensated care costs during that 
same period (for example, OBRA 93 hospital-specific limits), which is 
consistent with the existing statutory provisions of Section 
1923(g)(1). States will not need to retroactively modify their Medicaid 
State plans to comply with this regulation. The DSH reimbursement 
methodologies contained in Medicaid State plans articulate the methods 
by which States make DSH payments and already contain assurances that 
such DSH reimbursement methodologies will not exceed the OBRA 93 
hospital-specific DSH limits. Typically, States currently rely on 
unaudited surveys to estimate uncompensated care in eligible hospitals, 
and this regulation would simply require reconciliation based on 
statutory cost limits using a more accurate audit methodology.
    Under this regulation, the State DSH audit and report will use 
actual cost and payment data beginning with the Medicaid State plan 
rate year 2005 to ensure that DSH payments in the

[[Page 77909]]

approved Medicaid State plan did not exceed DSH eligible costs in 
hospitals receiving DSH payments. As noted above, to allow a period to 
develop and refine audit techniques, we also have included a transition 
period before audit results will be directly used to identify provider 
overpayments.
    Comment: One commenter stated that the proposed reporting 
requirements refer to submission timing on two different pages, which 
are inconsistent with each other. On Page 50264 of the Federal Register 
under the Audit Requirements Section, it states, ``We are proposing a 
submission requirement within 1 year of the independent certified 
audit.'' On Page 50268 of the Federal Register under the List of 
Subjects Section, where the proposed revisions to Section 455.204(b) 
are indicated, it states, ``Timing. Beginning with State fiscal year 
(SFY) 2005, a State must submit to CMS an independent certified audit 
report no later than 1 year after the completion of each State's fiscal 
year.''
    Response: The regulation has been modified to achieve consistent 
audit and reporting time frames. Generally, audits will examine prior 
period DSH payments and such audit must be completed by the last day of 
the FFY ending three years from the Medicaid State plan rate year under 
audit. Reports of the audit will be due within 90 days of completion of 
the audit. A special transition period is provided for Medicaid State 
plan rate year 2005 and 2006 audits. Further detail of audit and 
reporting are described in other responses to comments.
2. Effect of Lag in Medicaid Claims
    Comment: Several commenters noted that there is already a 
requirement for States to indicate the regular Medicaid rate payments 
paid to the hospital for the SFY as part of the Medicaid claims 
information provided to CMS through the Medicaid Statistical 
Information System (MSIS). Claims may be submitted to the State for 
payment up to one year after the date of service. Therefore, payments 
made by the State for claims with dates of service in the SFY may be 
submitted up to a year after the service date by the hospital. The 
payment information would not be available before 12 months after the 
SFY at a minimum. Obtaining the amount paid by the State for the SFY 
being reported is not possible by the end of the SFY.
    Response: Based on the modifications to the audit and reporting 
deadlines, the existing requirement at 42 CFR 447.45(d) for provider 
claims to be filed within a year from the date of service and promptly 
paid by the State, and the existing two-year timely claim filing 
requirement at 45 CFR 95.7, there should not be a significant 
adjustment to Medicaid payments that would warrant a corrected report. 
To the extent that such an adjustment to Medicaid payments occurs and 
States claim Federal matching dollars (or return Federal matching 
dollars) as a prior period adjustment, States should correct the audit 
and report by indicating post-audit adjustments to Medicaid and DSH 
payments (or uncompensated care costs if Medicaid payment adjustments 
affect the Medicaid shortfall).
    States must consider post-audit adjustments, as information about 
them becomes available, to the extent that the State's DSH methodology 
involves prospective estimates of uncompensated care, at least 
beginning in Medicaid State plan rate year 2011. Similarly, such 
adjustments must be reported in the quarter the underlying claims were 
paid, and must be considered to determine if there were overpayments, 
beginning with Medicaid State plan rate year 2011 (although in some 
cases, the State plan may authorize the State to redistribute the 
overpaid funds to another eligible hospital). The regulation has been 
modified to include this provision.
    Comment: A few commenters noted that the proposed rules do not 
indicate the submission dates for the Annual DSH Reports. Based on 1) 
the data reporting that is required, 2) the fact that some of these 
data will need to be audited under the proposed provisions of Sec.  
455.204, and 3) the fact that the audit is proposed to be required by 
one year after the close of the State fiscal year to which the 
reporting and the audit apply, we assume the reporting is contemplated 
to be submitted less than a year after the close of the State fiscal 
year. To the extent that CMS is requesting actual (and potentially 
audited) cost data for the fiscal year, that information must be 
gathered from hospitals and reviewed by the States prior to completion 
of the Annual DSH Report. The commenters pointed out that much of the 
required data are found only on Medicare cost reports, which are 
submitted no sooner than five months after year-end and are desk 
reviewed no sooner than 11 months after year end. Given this, the 
reporting timeframes that appear to be contemplated are not realistic. 
The commenters urged that CMS allow sufficient time for the States to 
complete this process.
    Response: We have modified the regulation to clarify that the 
annual DSH reports are due at the same time as the completed 
independent audits. We believe that this time frame is sufficient for 
the State, hospitals and auditors to meet their respective 
responsibilities to review the accuracy of the State's DSH payments.
3. Eligible Uncompensated Care
    Comment: Many commenters asserted that the language in the proposed 
regulation that excluded bad debts from being considered part of 
uncompensated care exceeded the statutory authorization since the 
statute does not specifically address that issue. These commenters 
argued that bad debts are part of the burden of providing care to 
uninsured, and underinsured patients for whom the hospital receives no 
payment. The commenters believe that the proposed rule is inconsistent 
with Congressional intent, and actually works to weaken the statute's 
purpose. These commenters cited the conference report language for the 
Omnibus Budget Reconciliation Act of 1993 provision establishing the 
hospital-specific DSH limit, stating that the cost of providing 
services to uninsured patients would be net of any out of pocket 
payments received from uninsured individuals. They argued that this 
language clearly implies an intent that only amounts received, and not 
bad debt should be considered when implementing the hospital-specific 
DSH limit.
    Response: Implicit in these comments is a misunderstanding of the 
term ``bad debt.'' Bad debt arises when there is non-payment on behalf 
of an individual who has third party coverage. Section 1923(g)(1) is 
clear that the hospital-specific uncompensated care limit is calculated 
based only on costs arising from individuals who are Medicaid eligible 
or uninsured, not costs arising from individuals who have third party 
coverage. Thus, while the Medicaid statute does not specifically 
exclude bad debt from the definition of uncompensated care costs, there 
is nothing in the statute that would suggest that any costs related to 
services provided to individuals with third party coverage, including 
bad debt, are within that definition.
    Comment: One commenter noted that if an uninsured patient does not 
pay the amount he or she was expected to pay, that may be recorded by 
the hospital as bad debt. The OBRA 1993 limit as prescribed by Section 
1923(g) provides that the costs of furnished services are net of non-
DSH payments under Medicaid and payments by uninsured patients. The 
statute does not authorize reductions to uncompensated care costs for 
amounts that patients were expected

[[Page 77910]]

to pay, only for payments that are actually made.
    Response: We agree. The statutory definition of uncompensated care 
includes the costs of furnishing hospital services to uninsured 
patients, minus the payments actually received from those patients.
    To the extent that hospitals do not currently separately identify 
uncompensated care related to services provided to individuals with no 
source of third party coverage from uncompensated care costs of 
patients with insurance, hospitals will need to modify their accounting 
systems to separate the two categories in order to properly document 
that DSH payments are within the hospital-specific limit.
    Uncompensated inpatient and outpatient hospital care costs for 
individuals without third party coverage is then offset by payments 
actually made by or on behalf of those patients in the Medicaid State 
plan rate year under audit, except for payments made by State-only or 
local-only government programs for services provided to indigent 
patients.
    Comment: Numerous commenters asserted that the proposed rule was 
contrary to the interpretation that bad debt should be considered when 
implementing the hospital-specific DSH limit that was found in CMS 
guidance in 1994 and again in 2002, and asked for a continuation of the 
prior interpretation.
    Response: In 1994, CMS clarified the 1993 hospital-specific 
``cost'' limit to include outpatient hospital services, in addition to 
inpatient hospital services, for Medicaid individuals and individuals 
with no source of third party coverage. This clarification of cost 
under the hospital-specific DSH limit was established in recognition of 
historical Congressional references to hospital services under its 
ongoing instruction regarding DSH. The 1994 letter to State Medicaid 
Directors did not specifically refer to bad debt, nor did it contain 
any language that should have suggested that the hospital specific 
limit calculation should include costs (whether compensated or 
uncompensated) related to individuals who had third party coverage. 
Similarly, the State Medicaid Director letter dated August, 2002 
specifically addressed the treatment of Medicaid supplemental UPL 
payments for purposes of calculating uncompensated care; the treatment 
of costs associated with inmates of correctional facilities; and, the 
inclusion of Medicaid managed care days in the Medicaid inpatient 
utilization rate formula. Nothing in that letter addressed the issue of 
bad debt and the calculation of DSH eligible costs. The provisions in 
this rule that expressly exclude bad debt from the calculation of the 
hospital specific limit are based on the statutory language and do not 
represent any change in CMS policy.
    Comment: Several commenters stated that the proposed rule fails to 
clarify how bad debt would be calculated.
    Response: Bad debt arises when there is non-payment on behalf of an 
individual who has third party coverage. Section 1923(g)(1) is clear 
that the hospital-specific uncompensated care limit is calculated based 
only on costs arising from individuals who are Medicaid eligible or 
uninsured, not costs arising from individuals who have third party 
coverage. To the extent that hospitals do not currently separately 
identify uncompensated care related to services provided to individuals 
with no source of third party coverage from bad debts from patients 
with insurance, hospitals will need to modify their accounting systems 
to separate the two categories in order to properly document that DSH 
payments are within the hospital specific limit. We are not prescribing 
the details of how hospitals can accurately measure uncompensated care; 
the precise methodology may vary depending on individual circumstances 
(but will have to provide an auditable basis for the measurement). As 
described in later comments, the source of this information will be 
derived from hospital cost reports, hospital financial statements, and 
other hospital accounting records.
    Comment: One commenter said that bad debts represent an enormous 
uncompensated cost to providers and pointed out that the Medicare 
program recognizes this reality and reimburses providers 70 percent of 
their Medicare bad debt write-offs. The commenter suggested that 
Medicaid should operate similarly to Medicare in this respect.
    Response: The Medicare DSH program and the Medicaid DSH program are 
separate programs authorized by different Sections of the statute and 
with different purposes and goals. The Medicaid statute does not 
specifically authorize payment based on bad debts, nor does it 
authorize including bad debts in the calculation of the hospital 
specific limit under Section 1923(g)(1). We note, however, that the 
hospital specific limit is not a payment methodology, and States could 
recognize bad debts in constructing DSH payment methodologies that 
provide for payments less than or equal to the hospital specific limit 
for each hospital.
    Comment: One commenter noted that the provider will report the 
``Provision for Medicaid Bad Debt'' as a component of its uncompensated 
total. As such, the Provision for Bad Debt is an estimate, a Balance 
Sheet account, not an expense account, and deductibles and coinsurance, 
along with other charges, are estimated in that account. The actual bad 
debt expense is booked against the provision and/or allowance and most 
facilities would need to drill down on the Provision for Bad Debt 
account to get actual bad debt expense related to uninsured cost.
    Response: Setting up an accounting category to aggregate charges 
and revenues associated with uninsured individuals receiving inpatient 
and/or outpatient services from a hospital should be an accounting 
system adjustment not far removed from the process of setting up an 
account for any other payer category. To the extent that hospitals do 
not currently separately identify uncompensated care related to 
services provided to individuals with no source of third party coverage 
from other uncompensated care costs, hospitals will need to modify 
their accounting systems to do so. For purposes of the initial audits 
under the transitional provision of the regulation, States and auditors 
may need to develop methodologies to analyze current audited financial 
statements and other accounting records to properly segregate 
uncompensated costs.
    Only the inpatient and outpatient hospital charges associated with 
individuals with no source of third party coverage for such services 
can be applied to the Medicare cost report for purposes of calculating 
the uninsured uncompensated care cost component of the hospital-
specific DSH limit. Hospitals must also ensure that no duplication of 
such charges exist in their accounting records. This information must 
be made available to the auditor for certification.
    Comment: One commenter questioned whether claims denied by insurers 
for lack of prior authorization or claims submitted too late would be 
considered uninsured since the service is not reimbursed by the insurer 
and the amount is not a contractual allowance. The commenter asserted 
that, in that instance, the cost of that portion of the stay is 
uninsured.
    Response: Section 1923(g)(1) refers to the costs of hospital 
services furnished by the hospital ``in individuals who * * * have no 
health insurance (or other source of third party coverage).'' We have 
always read this language to distinguish between care furnished to 
individuals who have health insurance

[[Page 77911]]

or other coverage, and care furnished to those who do not. We have 
never read this language to be service-specific and we believe that 
such an interpretation would be inconsistent with the broad statutory 
references to insurance or other coverage. Furthermore, such a reading 
would result in cost shifting from private sector coverage to the 
Medicaid program. We interpret the phrase ``who have health insurance 
(or other third party coverage)'' to broadly refer to individuals who 
have creditable coverage consistent with the definitions under 45 CFR 
Parts 144 and 146, as well as individuals who have coverage based upon 
a legally liable third party payer. The phrase would not include 
individuals with insurance that provides only excepted benefits, such 
as those described in 45 CFR 146.145, unless that insurance actually 
provides coverage for the hospital services at issue (such as when an 
automobile liability insurance policy pays for a hospital stay).
    Improper billing by a provider does not change the status of the 
individual as insured or otherwise covered. In no instance should costs 
associated with claims denied by a health insurance carrier for such a 
reason be included in the calculation of hospital-specific 
uncompensated care costs.
    Comment: One commenter argued that small hospitals budget for and 
count on receiving funding related to uncompensated bad debt, and 
argued that it would be unfair to remove bad debt from the DSH payment 
equation for all of 2005.
    Response: Bad debt arises when there is non-payment on behalf of an 
individual who has third party coverage. Section 1923(g)(1) is clear 
that the hospital-specific uncompensated care limit is calculated based 
only on costs arising from individuals who are Medicaid eligible or 
uninsured, not costs arising from individuals who have third party 
coverage. As we discuss below, the regulation provides a transition 
period for reliance on audit findings. Findings for Medicaid State Plan 
years 2005-2010 will not be given weight except to the extent that the 
findings draw into question the reasonableness of State uncompensated 
care costs estimates used for calculations of prospective DSH payments 
for Medicaid State plan year 2011 and thereafter. This regulation 
requires an independent certified audit of Medicaid State plan DSH 
payments beginning with the Medicaid State plan rate year 2005, 
including comparison to the hospital-specific limits. As discussed 
above, this regulation does not change the costs that are included in 
calculating the hospital-specific limit. As discussed in a prior 
response, however, because the auditing process is new and will need to 
be refined, the 2005 audit findings will be used solely to review 
prospective DSH payments beginning with Medicaid State plan rate year 
2011.
    Comment: Several commenters stated that the recent growth of health 
plans and health savings accounts with high deductibles and/or have 
exclusion limits, is putting new burdens on hospitals in terms of 
unreimbursed costs. The proposed rule fails to clarify whether non-
payment of beneficiaries' deductibles and co-payments would be 
considered bad debt and/or should be applied as a reduction in 
determining uncompensated care costs.
    Response: Costs associated with services furnished to individuals 
who have limited health insurance or other third party coverage are not 
included in the calculation of the hospital-specific DSH limit. 
Specifically, the DSH limit does not include amounts associated with 
unpaid co-pays or deductibles for such individuals (bad-debt associated 
with third party coverage). Health savings accounts associated with 
high deductible third-party coverage typically provide a source for co-
pays and deductibles as well as premium contributions or co-insurance. 
When health savings accounts are not sufficient to cover such charges, 
however, the individual remains insured and therefore hospital services 
costs are not considered not within the statutory calculation of the 
hospital specific limit.
    Comment: A number of commenters stated that hospitals should not be 
denied DSH payments for uncollectible co-pays and deductibles for 
patients eligible for charity care based on a hospital's policy or for 
bad debts that in fact are true charity care but cannot be accounted 
for as such because the patient would not or could not fill out a 
hospital's charity care application or did not qualify for charity care 
but was uninsured.
    Response: States have considerable flexibility in developing DSH 
payment methodologies, and such uncollectible amounts could be a factor 
in a State DSH payment methodology but can only be considered in 
calculating the hospital-specific limit on DSH payments if they meet 
the statutory criteria. Costs that can be included in the hospital-
specific limit set forth at Section 1923(g) of the Act are hospital 
costs associated with uncompensated Medicaid costs and uncompensated 
costs of hospital services provided to individuals without health 
insurance (for example, the uninsured).
    Charity care is a term used by hospitals to describe an individual 
hospital's program of providing free or reduced charge care to those 
that qualify for the particular hospital's charity care program. The 
term also may be defined by a State in determining qualification for 
DSH payments under the low-income utilization rate methodology set 
forth in Section 1923(b)(3) of the Act. Depending on the definition 
used, hospital costs associated with the uninsured may be a subset of 
charity care in the hospital or may entirely encompass a hospital's 
charity care program. Regardless of a hospital's definition/parameter 
on what constitutes charity care, States and hospitals must comply with 
Federal Medicaid DSH law and policy guidance in determining what 
portion of their specific charity care program costs qualify under the 
hospital-specific DSH cost limits.
    To the extent that hospitals do not separately identify 
uncompensated care related to services provided to individuals with no 
source of third party coverage, hospitals will need to modify their 
accounting systems to do so. And hospitals must ensure that no 
duplication of such charges exist in their accounting records. For 
purposes of the initial audits, States and auditors may need to develop 
methods to analyze current audited financial statements and other 
accounting records to properly segregate uncompensated costs.
    Comment: A few commenters noted that if a patient does not have 
health insurance, the costs of services provided to that patient may be 
included in calculating the hospital-specific limit, even if revenues 
related to that patient are uncollectible and eventually written off as 
bad debt. They argued that the touchstone for purposes of the DSH limit 
is whether the individual has third party coverage, not whether the 
hospital has or has not treated the patient's account as bad debt.
    Response: We agree. As long as the costs are for services furnished 
to uninsured patients, they may be included in the calculation of the 
hospital-specific limit, regardless of whether the hospital treats the 
costs as bad debt on its own books.
    Comment: A few commenters said that hospitals are currently 
required to report both charity and bad debt costs to the State 
Medicaid program to assure that the hospital will not receive excess 
Medicaid DSH payment. The commenters indicated that this requirement is 
part of an approved

[[Page 77912]]

Medicaid State plan that has been in place for numerous years, and 
asserted that the proposed requirements would be an unwarranted 
departure from this practice.
    Response: We recognize that this rule may necessitate some changes 
in current practices, but we believe these changes are warranted in 
order to ensure compliance with the statutory hospital-specific limit. 
As discussed above, the statutory calculation does not refer to charity 
care or bad debts, but expressly refers to uncompensated costs of 
furnishing hospital services to individuals eligible for Medicaid or 
individuals who have no health insurance or other third party coverage.
    Comment: A few commenters were concerned that the regulation lacks 
a clear and appropriate definition of ``third-party coverage.'' In 
particular, the commenters believe that third-party coverage should 
explicitly be defined in a manner that makes clear that third-party 
coverage does not include State and local programs to pay for care for 
indigent and uninsured individuals and that ``lack of third-party 
coverage'' also encompasses patients who lack coverage for the service 
provided, not necessarily any coverage at all.
    Response: We disagree. As discussed above, Section 1923(g)(1) of 
the Act refers to costs of hospital services furnished to ``individuals 
without health insurance (or other source of third party coverage).'' 
We have always read this language to distinguish between care furnished 
to individuals who have health insurance or other coverage, and care 
furnished to those who do not. We have never read this language to be 
service-specific and we believe that such an interpretation would be 
inconsistent with the broad statutory references to insurance or other 
coverage. Furthermore, such a reading would result in cost shifting 
from private sector coverage to the Medicaid program. We interpret the 
phrase ``who have health insurance (or other third party coverage)'' to 
refer to individuals who have creditable coverage consistent with the 
definitions under 45 CFR Parts 144 and 146, as well as individuals who 
have coverage based upon a legally liable third party payer.
4. Dual Eligibles
    Comment: A few commenters indicated that days attributable to dual 
eligibles should be included in the calculation described in Section 
1923(a) relating to determining DSH eligibility.
    Response: The Medicaid Inpatient Utilization Rate (MIUR) is a 
calculation that includes all Medicaid eligible days. To the extent 
that an inpatient hospital day for a dually-eligible Medicare/Medicaid 
patient qualifies as a Medicaid day, that day would be included in the 
MIUR calculation.
    Comment: One commenter questioned whether the costs attributable to 
dual eligibles be included in the calculation described in SSA Sec.  
1923(g) relating to uncompensated care costs. The commenter asserted 
that these costs should be excluded because the purpose of the DSH 
upper payment limit is to limit DSH payments to hospitals to no more 
than the difference between the cost and payments of Medicaid and the 
uninsured. The commenter indicated that, since Medicare is the primary 
payer for the duals, it seems appropriate to exclude the costs of those 
patients from this calculation, since the payments are also excluded.
    Response: We disagree; since Section 1923(g)(1) does not contain an 
exclusion for dually eligible individuals, we believe the costs 
attributable to dual eligibles should be included in the calculation of 
the uncompensated costs of serving Medicaid eligible individuals. But 
in calculating those uncompensated care costs, it is necessary to take 
into account both the Medicare and Medicaid payments made, since those 
payments are contemplated under Title XIX. In calculating the Medicare 
payment for service, the hospital would have to include the Medicare 
DSH adjustment and any other Medicare payment adjustment (Medicare IME 
and GME) with respect to that service.
5. Charity and Indigent Care
    Comment: One commenter questioned how a hospital would classify 
individuals who had Medicaid coverage for some discharges and no 
insurance for others.
    Response: The hospital-specific DSH limit comprises uncompensated 
care costs of furnishing inpatient and outpatient hospital services to 
Medicaid eligible individuals and individuals with no source of third 
party coverage for the inpatient and outpatient hospital services they 
receive. If an individual is Medicaid eligible on the day they received 
inpatient or outpatient hospital services, then those services would be 
included in calculating the hospital-specific limit. To the extent the 
Medicaid payment does not fully cover the cost of the inpatient or 
outpatient hospital services provided, the unreimbursed costs of those 
services would be counted in calculating that limit. Services that are 
not within the State's definition of inpatient or outpatient hospital 
services, and any revenue associated with such services, however, would 
not be included in that calculation. The same is true for hospital 
services furnished to individuals whose insurance status fluctuates; 
hospital services furnished while individuals are uninsured would be 
included in the calculation, and those furnished while individuals are 
insured would not be included.
    Comment: One commenter requested an explanation of the difference 
between ``charity care'' and care provided to the uninsured.
    Response: As we explained above, charity care is a term used by 
hospitals to describe an individual hospital's program of providing 
free or reduced charge care to those that qualify for the particular 
hospital's charity care program. The term also may be defined by a 
State in determining qualification for DSH payments under the low-
income utilization rate (LIUR) methodology set forth in Section 
1923(b)(3) of the Act. Depending on the parameters of the individual 
charity care programs, hospital costs associated with the uninsured may 
be a subset of charity care in the hospital or may entirely encompass a 
hospital's charity care program. Regardless of a hospital's definition/
parameter on what constitutes charity care, States and hospitals must 
comply with Federal Medicaid DSH law and policy guidance in determining 
what portion of their specific charity care program costs qualify under 
the hospital-specific DSH cost limits.
    As noted, charity care is addressed in the Medicaid statute at 
Section 1923(b)(3)(B)(i) of the Act and is a variable in the formula 
used to determine a hospitals low-income utilization rate as part of 
the qualification criteria for DSH payments. The charity care variable, 
while not further defined by statute is offset in the LIUR formula by 
the subsidies provided by state and local governments to assist 
hospitals in serving individuals with no other source of third party 
coverage. For purposes of defining a hospital's LIUR, States may adopt 
a reasonable definition of charity care to reflect care given free or 
with reduced charge to indigent individuals.
    The term is not used in Section 1923(g) of the Act which defines 
the costs eligible for DSH payments and that limits DSH eligible costs 
to the uncompensated inpatient and outpatient hospital costs associated 
with Medicaid eligible individuals and individuals without health 
insurance, (for example, the uninsured).
    For purposes of Section 1923(g)(1) hospital-specific DSH limits, 
uninsured individuals are those individuals without a source of third-
party coverage

[[Page 77913]]

(except coverage from State or local programs based on indigency). 
Self-pay, in terms of the hospital-specific DSH limits, are those 
individuals who are responsible to pay for the hospital services 
provided them because they have no source of third party coverage, (for 
example, the uninsured). Revenues required to be offset against a 
hospital's DSH limit would include any amounts received by the hospital 
by or on behalf of either ``self-pay'' or uninsured individuals during 
the Medicaid State plan rate year under audit (except payments from 
State or local programs based on indigency).
    To the extent that hospitals do not separately identify 
uncompensated care related to services provided to individuals with no 
source of third party coverage from other uncompensated care costs, 
hospitals will need to modify their accounting systems to do so. For 
purposes of the initial audits, States and auditors may need to develop 
methodologies to analyze current audited financial statements and other 
accounting records to properly segregate uncompensated costs. It is 
important to note that only the inpatient and outpatient hospital 
charges associated with individuals with no source of third party 
coverage for such services can be applied to the Medicare cost report 
for purposes of calculating the uninsured uncompensated care cost 
component of the hospital-specific DSH limit. Hospitals must also 
ensure that no duplication of such charges exist in their accounting 
records. This information must be made available to the auditor for 
certification.
    To the extent that hospitals include such eligible uncompensated 
inpatient and outpatient hospital care as part of their hospital-
specific DSH limit calculation, the included costs must be offset by 
payments actually made by or on behalf of patients with no source of 
third party coverage in the Medicaid State plan rate year under audit. 
These payments do not include payments made by State-only or local-only 
government programs for services provided to indigent patients.
    Comment: A few commenters requested a definition of Indigent Care 
Revenue. They believe the language suggests that this term refers to 
revenue from individuals with no source of third party coverage for 
inpatient and outpatient hospital services they receive, irrespective 
of the individuals' income, despite the fact that ``indigent'' usually 
implies low income. The commenters would like CMS to confirm that this 
interpretation is correct.
    Response: We agree that this term was confusing and we have changed 
its usage in the final regulation. We refer instead to ``uninsured'' 
revenue to refer to compensation for hospital services received from or 
on behalf of individuals with no source of third party coverage 
(regardless of whether the patient is indigent). These payments do not 
include payments made by State-only or local-only government programs 
for services provided to indigent patients.
    Comment: Some commenters asked for more clarity with regard to what 
is included in the category of indigent care revenue (Sec.  
447.299(c)(12)), and a definition of third party payments. They asked 
in particular about the treatment of payments made by State and other 
government programs make payments to hospitals on behalf of indigent 
individuals. The regulation should contain language that clarifies this 
in order to avoid confusion.
    Response: We agree. Section 1923(g)(1)(A) of the Act specifies 
that, ``payments made to a hospital for services provided to indigent 
patients by a State or a unit of local government within a State, shall 
not be considered to be a source of third party payment.'' Therefore, 
we have changed the usage of the term ``indigent care revenue'' and 
refer instead to ``uninsured revenue.'' In addition, we have added 
language to clarify that uninsured revenue does not include payments 
for hospital services provided to indigent patients by a State or a 
unit of local government within a State.
    Comment: One commenter questioned how CMS previously audited 
indigent care revenue.
    Response: CMS has previously performed certain reviews of State DSH 
programs as part of its financial management work plan under Medicaid. 
In addition, the Office of the Inspector General has previously 
performed several reviews of State DSH programs nationally.
    Comment: One commenter stated CMS should clarify whether the 
required data element refers to services provided to patients whose 
third party coverage makes no payment to the hospital; for example, the 
patient may have exhausted benefits coverage, the hospital may have 
failed to properly bill for the service, or the service provided may 
not be a covered benefit.
    Response: Costs included in calculating the hospital-specific limit 
do not include costs associated with individuals who are not Medicaid-
eligible and have health insurance, even if that health insurance is 
limited. In no instance should costs associated claims denied by a 
health insurance carrier due to improper billing be included in the 
hospital-specific DSH limit. In addition, to the extent that the 
inpatient and/or outpatient hospital services received are not within 
the definition of inpatient and/or outpatient hospital services under 
the State Medicaid plan, such service costs should not be included in 
calculating the hospital-specific DSH limit. The treatment of inpatient 
and outpatient hospital services provided to the uninsured and 
underinsured also must be consistent with the definition of inpatient 
and/or outpatient services under the approved Medicaid State plan.
    Comment: One commenter questioned at what point an individual is 
coded as self pay.
    Response: The hospital-specific limit is calculated, in part, using 
uncompensated costs of providing inpatient and outpatient hospital 
services to individuals without health insurance (for example, the 
uninsured). While some hospitals may refer to such individuals as 
``self-pay,'' that term could have a broader meaning.
    For purposes of determining hospital-specific DSH limits, uninsured 
individuals are those individuals without health insurance or another 
source of third-party coverage for inpatient and/or outpatient hospital 
services. Information on insurance or third party coverage status is 
routinely collected by hospitals, and should be found in patient 
records. We interpret the phrase ``who have health insurance (or other 
third party coverage)'' to broadly refer to individuals who have 
creditable coverage consistent with the definitions under 45 CFR Parts 
144 and 146, as well as individuals who have coverage based upon a 
legally liable third party payer. The phrase would not include 
individuals who have insurance that provides only excepted benefits, 
such as those described in 42 CFR 146.145, unless that insurance 
actually provides coverage for the hospital services at issue (such as 
when an automobile liability insurance policy pays for a hospital 
stay).
    Revenues required to be offset against a hospital's DSH limit would 
include any amounts received by the hospital by or on behalf of 
uninsured individuals during the Medicaid State plan rate year under 
audit.
    Comment: One commenter noted that the phrasing of this requirement 
implies that the State should report all payments unrelated to third 
party coverage. The commenter suggested that, as some individuals can 
pay for certain hospital bills privately, these payments would be 
included within

[[Page 77914]]

this definition and those private pay amounts would be included as 
Indigent Care Revenue. The commenter asserted that, if this is correct, 
bad debts should be included in uncompensated care; and if this is 
incorrect, CMS should clarify what amounts are to be included as 
revenue from the indigent, and how the indigent and their revenues are 
to be identified.
    Response: It would be incorrect to include reductions in 
uncompensated care in calculating the hospital-specific limit based on 
private pay amounts for individuals with insurance or other third party 
coverage. Revenues required to be offset against a hospital's DSH limit 
would include any amounts received by the hospital by or on behalf of 
uninsured individuals during the Medicaid State plan rate year under 
audit. Section 1923(g)(1)(A) of the Act requires that the hospital-
specific cost limit be reduced by payments under Title XIX and payments 
made by uninsured patients. To the extent that hospitals do not 
separately identify uncompensated care related to services provided to 
individuals with no source of third party coverage from uncompensated 
care costs not eligible under the hospital-specific DSH limits, 
hospitals will need to modify their accounting systems to do so. For 
purposes of the initial audits, States and auditors may need to develop 
methodologies to analyze current audited financial statements and other 
accounting records to properly segregate uncompensated costs.
    In sum, to the extent that hospitals include such uncompensated 
inpatient and outpatient hospital care as part of their hospital-
specific DSH limit calculation, the included costs must be offset only 
by payments actually made by or on behalf of patients with no source of 
third party coverage in the Medicaid State plan rate year under audit. 
These payments do not include payments made by State-only or local-only 
government programs for services provided to indigent patients, nor do 
they include payments by patients with a source of third party 
coverage. We have revised the regulation text to try to clarify these 
points.
    Comment: One commenter believes CMS' use of the term 
``uncompensated care costs'' throughout the regulation and preamble may 
be confusing because the hospital industry generally uses the same term 
to mean the combined costs related to charity care and bad debt for all 
patients (not limited to uninsured patients). The commenter suggested 
that CMS intends a more limited use of the term in this regulation that 
would be restricted to uncompensated care costs associated with 
Medicaid and uninsured patients. The commenter suggested that CMS 
should not use the term ``uncompensated care costs'' to refer to 
uncompensated costs associated only with Medicaid and uninsured 
patients. To better facilitate hospital compliance, the commenter 
recommends that CMS use a different term, such as ``uncompensated 
Medicaid and uninsured costs.''
    Response: While we regret any confusion, the term ``uncompensated 
care costs'' has been used in this concept since the statutory change 
in 1993, and we have sought to alleviate confusion by explaining in 
detail the meaning of the term in this context. The uncompensated care 
costs eligible under DSH were clearly articulated in the August 26, 
2005 proposed regulation. That is, the uncompensated care costs 
eligible under the hospital-specific DSH limit include the unreimbursed 
costs of providing inpatient and outpatient hospital services to 
Medicaid eligible individuals and the unreimbursed costs of providing 
inpatient and outpatient hospital services to individuals with no 
source of third party reimbursement. Therefore, all uncompensated costs 
billed as inpatient hospital services and outpatient hospital services 
to Medicaid eligible individuals and to individuals with no source of 
third party reimbursement are eligible under the DSH limit.
    To the extent that hospitals do not separately identify 
uncompensated care related to services provided to individuals with no 
source of third party coverage from uncompensated care costs not 
eligible under the hospital-specific DSH limits, hospitals will need to 
modify their accounting systems prospectively to do so. For purposes of 
the initial audits, States and auditors may need to develop 
methodologies to analyze current audited financial statements and other 
accounting records to properly segregate uncompensated costs.
    Comment: A few commenters requested a definition of what is 
considered uninsured.
    Response: We interpret the statutory phrase ``who have health 
insurance (or other third party coverage)'' to broadly refer to 
individuals who have creditable coverage consistent with the 
definitions under 45 CFR Parts 144 and 146, as well as individuals who 
have coverage based upon a legally liable third party payer. The phrase 
would not include individuals who insurance that provides only excepted 
benefits, such as those described in 42 CFR 146.145, unless that 
insurance actually provides coverage for the hospital services at issue 
(such as when an automobile liability insurance policy pays for a 
hospital stay).
    Comment: One commenter stated that there could be a case where a 
patient comes into a hospital and has an income over the charity care 
level (for example, 400 percent over the poverty level) and the patient 
charges are not booked to uncompensated care but booked to self-pay. 
The patient does not pay and the account is written off to bad debt. In 
that case, the commenter asked whether the cost of that charge would be 
counted as Medicaid DSH or as a component of bad debt. In addition, the 
commenter asked if the facility could write-off the account as 
uncompensated care and not bad debt. Currently, many facilities may be 
writing off to bad debt because the regulations appear to be more 
specific.
    Response: This regulation does not directly address all potential 
DSH payment methodologies, but does address the calculation of the 
hospital-specific limit on DSH payments. As discussed in previous 
responses, the categories of charity care and self pay are not relevant 
to calculation of the hospital-specific limit. For the calculation, it 
is necessary to know the uncompensated costs of providing inpatient and 
outpatient hospital services to individuals without health insurance 
(for example, the uninsured). To the extent that hospitals do not 
separately identify uncompensated care related to services provided to 
individuals with no health insurance or other source of third party 
coverage, hospitals will need to modify their accounting systems to do 
so.
    Comment: One commenter questioned whether it is CMS' intent that 
the uninsured, their charges, their payments, and their costs be 
calculated and reported without regard to any income or asset 
threshold? Please explain CMS' intent regarding asset and income 
thresholds and the uninsured.
    Response: The statutory provision at Section 1923(g)(1) does not 
provide for any income or asset threshold in measuring uncompensated 
care for uninsured individuals for purposes of the hospital-specific 
limit on DSH payments. Presumably, such individuals with higher incomes 
will be able to pay some or all of the cost of their care, and the 
costs will thus not be uncompensated. Moreover, we reiterate that the 
hospital-specific limit is not a DSH payment methodology, and States 
may impose stricter limits on costs that they will consider in 
determining payment.
    Comment: One commenter noted that the CMS proposed rule would 
reward hospitals whose liberal charity policies

[[Page 77915]]

result in high charity care amounts. By not using their best efforts to 
collect on patient's accounts, the commenter indicated that these 
institutions pass on a greater financial burden to the Medicaid program 
under this proposal. The commenter asserted that hospitals have a duty 
to make a reasonable effort when collecting accounts from patients who 
do not have insurance or in instances where insurance does not provide 
complete coverage.
    Response: This rule implements the audit and reporting of DSH 
payments to determine compliance with the hospital-specific DSH limits 
and is not intended to create an incentive for qualifying DSH hospitals 
not to collect on patients' accounts. First, States are limited in 
their ability to make DSH payments by their annual DSH allotments. 
Second, States are not required to make DSH payments to qualifying 
hospitals in an amount equal to the hospital-specific limit. The 
hospital-specific limit is not a DSH payment methodology, and States 
may impose stricter limits on costs that they will consider in 
determining payment. Taken together, we believe it is unlikely 
hospitals will forgo revenues from patients in hope that such costs/
services would be fully subsidized by the Medicaid DSH payment.
    Comment: One commenter said that several States have many non-
Medicaid indigent care programs. In many of these programs, the 
commenter indicated that the sponsoring government or agency provides a 
minimal payment to the hospital. The commenter noted that the proposed 
regulations are not clear whether the loss on such programs/patients is 
includable in uncompensated care costs.
    Response: Inpatient and outpatient hospital service costs provided 
to beneficiaries of State-only indigent care programs that have no 
other source of third party coverage may be included in a hospital's 
DSH cost limit. Section 1923(g)(1)(A) of the Act specifies that, 
``payments made to a hospital for services provided to indigent 
patients by a State or a unit of local government within a State, shall 
not be considered to be a source of third party payment.'' Such State 
or local government payments should not be offset against the inpatient 
and outpatient hospital service costs associated with individuals 
qualifying for such State or local government payment programs.
    However, it is important to note that Medicaid inpatient and 
outpatient hospital revenues received by hospitals in excess of 
Medicaid inpatient and outpatient hospital costs must also be offset 
against the eligible uncompensated inpatient and outpatient hospital 
costs associated with individuals with no source of third party 
coverage for the inpatient outpatient hospital services they received.
    Comment: One commenter requests CMS clarify how the indigent are to 
be identified. In particular, the commenter asked for clarification on 
the treatment of other State or local funded services for indigent 
patients and how that fits into the reporting for the uninsured, and 
noted that some hospitals have included items in the ``uninsured'' 
category that are State or locally funded. Examples include items such 
as county jail patients, public employee workers' compensation funded 
services, and services to juveniles referred from secure State 
facilities.
    Response: We interpret the phrase ``who have health insurance (or 
other third party coverage)'' to broadly refer to individuals who have 
creditable coverage consistent with the definitions under 45 CFR Parts 
144 and 146, as well as individuals who have coverage based upon a 
legally liable third party payer. The phrase would not include 
individuals who insurance that provides only excepted benefits, such as 
those described in 42 CFR 146.145, unless that insurance actually 
provides coverage for the hospital services at issue (such as when an 
automobile liability insurance policy pays for a hospital stay). The 
phrase also does not include coverage or payments made on the basis of 
indigency by a State or a local unit of government within the State, 
pursuant to Section 1923(g)(1)(A) of the Act.
    Inpatient and outpatient hospital costs incurred for individuals 
for which the State or local government is responsible on a basis other 
than indigency should not be included in calculating the hospital-
specific limit. This would include costs for care for which the State 
makes payments on the basis of status as State employees, prisoners or 
other wards of the State. A State Medicaid Director letter dated August 
16, 2002 specifically addressed the issue of treatment for Medicaid DSH 
purposes of hospital costs associated with inmates of correctional 
facilities. The letter specified that these costs were ineligible as 
uncompensated costs for purposes of DSH because the inmates are wards 
of the State and the State is directly responsible for their basic 
economic and medical needs. Failure to do so would be in violation of 
the eighth Amendment of the Constitution. Similarly, inmates of a 
county jail or juvenile facility are wards of the State or local 
government detaining them and their basic economic and medical needs 
are the obligation of that governmental entity.
    In addition, uncompensated inpatient and/or outpatient hospital 
costs associated with providing services for public employee worker's 
compensation programs are not eligible for inclusion in a hospital's 
DSH limit. Worker's compensation programs provide third party coverage 
for medical services that is not based on indigency.
    Comment: One commenter said that CMS should further clarify what 
costs may be included in the costs of services for the uninsured, in 
particular, how ancillary and pharmacy services should be addressed.
    Response: There are no special accounting principles related to the 
reporting and auditing requirements under this regulation. Costs and 
revenues should be determined based on otherwise applicable cost 
accounting principles for hospitals. As part of the Medicare 2552-96 
cost reporting and allocation step down process, ancillary service 
costs may be allocated to inpatient and outpatient hospital services 
provided to Medicaid eligible patients and patients with no source of 
third party coverage. To the extent that the allocated ancillary 
service costs are not reimbursed they may be included in the hospital-
specific DSH limit.
    Pharmacy service costs are separately identified on the Medicare 
2552-96 cost report and are not recognized as an inpatient or 
outpatient hospital service. Pharmacy service costs that are not part 
of an inpatient or outpatient rate and are billed as pharmacy service 
and reimbursed as such are not considered eligible for inclusion in the 
hospital-specific uncompensated cost limit.
    Comment: Many commenters stated that the current accounting systems 
at most hospitals would not allow them to accurately segregate payments 
received from individuals with third party coverage from payments 
received from individuals without third party coverage.
    Response: To the extent that hospitals do not separately identify 
uncompensated care related to services provided to individuals with no 
source of third party coverage from uncompensated care costs not 
eligible under the hospital-specific DSH limits, hospitals will need to 
modify their accounting systems to prospectively do so. Setting up an 
accounting category to aggregate charges and revenues associated with 
uninsured individuals receiving inpatient and/or outpatient services 
from a hospital should be an accounting system adjustment not far 
removed from the process of setting up

[[Page 77916]]

an account for any other payer category. For purposes of the initial 
audits, States and auditors may need to develop methodologies to 
analyze audited financial statements and other accounting records to 
properly segregate uncompensated costs.
    Comment: A few commenters stated that, in their States, for the 
vast majority of DSH hospitals, the State achieves compliance with the 
hospital-specific DSH limit because DSH payments are less than Medicaid 
uncompensated care alone, which is calculated for each hospital on the 
Medicaid cost reporting forms. For this reason, the commenters asserted 
that the State does not require most DSH hospitals to report costs of 
uninsured patients on the cost reporting forms, and requiring them to 
do so would be an unnecessary and significant burden. The commenters 
recommended that the proposed rule be amended to include a provision 
granting States the option to not report uninsured costs for some or 
all hospitals where Medicaid losses justify the DSH payment made. Some 
commenters recommend that the proposed rule be amended to include a 
provision granting States the option to not report uninsured costs for 
some or all hospitals where Medicaid losses alone justify the DSH 
payment.
    Response: The statute requires that each State report to CMS data, 
and submit a certified audit, that verifies that all hospitals 
receiving DSH payments under the Medicaid State plan actually qualify 
to receive such payments and that such payments do not exceed the 
hospital-specific DSH limit. Even if a State only makes DSH payments 
under its approved Medicaid State plan that relate to the uncompensated 
care of providing inpatient and outpatient hospital services to 
Medicaid individuals (that is, Medicaid shortfall), it would be 
possible for payments to a hospital to exceed the hospital-specific 
limit if the hospital had a surplus in furnishing hospital services to 
the uninsured. While this may be an unlikely circumstance, we cannot at 
this time be certain that it never occurs. Therefore, in such a 
circumstance we will accept reporting limited to Medicaid uncompensated 
care only when the hospital provides a certification that it incurred 
additional uncompensated care costs serving uninsured individuals. When 
we review certified audit reports submitted by States, we will consider 
whether more flexibility would be warranted, and we may address the 
issue in future reporting instructions.
    Comment: Numerous commenters cited the agency's 1994 letter to 
State Medicaid programs as offering additional guidance by stating that 
the cost of services provided individuals with third party coverage, 
but whose third party coverage did not cover the hospital services the 
individual received, could be included. These commenters asked for CMS 
to incorporate this principle into this final rule.
    Response: We do not agree with this reading of the 1994 CMS State 
Medicaid Director letter, which did not refer to underinsured 
individuals. Moreover, the statute appears to be clear on this issue. 
While we regret any misconceptions about that letter, we take this 
opportunity to clarify that the only costs relevant to the calculation 
of the hospital-specific limit are costs of furnishing hospital 
services to individuals who are Medicaid eligible or who have no health 
insurance (or other source of third party coverage).
    Comment: One commenter questioned whether claims denied by insurers 
for lack of medical necessity are considered uninsured.
    Response: The costs of services for individuals who have health 
insurance are not included in calculating the hospital-specific limit, 
even if insurance claims for that particular service are denied for any 
reason. Section 1923(g)(1) of the Act includes in the calculation costs 
of providing hospital services to individuals without health insurance 
or other third party coverage (for example, the uninsured). Claims 
denied by a health insurance carrier, including a Medicaid contracted 
managed care organization, for any reason other than the inpatient/
outpatient service or services provided were not covered services 
within the individuals health benefit package are furnished to 
individuals who have health insurance coverage. The same is true of 
services for which claims are denied due to improper billing, lack of 
preauthorization, lack of medical necessity, or non-coverage under the 
third party insurance package.
    Comment: One commenter stated that if an individual has an 
ambulatory benefit, but does not have an inpatient benefit, this 
individual should be considered uninsured when inpatient hospital 
treatment is provided. The costs a hospital incurs for the provision of 
care to these individuals should be included in determining the cost of 
uncompensated care.
    Response: We interpret the phrase ``who have health insurance (or 
other third party coverage)'' to broadly refer to individuals who have 
creditable coverage consistent with the definitions under 45 CFR Parts 
144 and 146, as well as individuals who have coverage based upon a 
legally liable third party payer. The phrase would not include 
individuals who have insurance that provides only excepted benefits, 
such as those described in 42 CFR 146.145, unless that insurance 
actually provides coverage for the hospital services at issue (such as 
when an automobile liability insurance policy pays for a hospital 
stay). An individual with insurance that provides only an ambulatory 
benefit would qualify as having health insurance unless the benefit is 
further limited so that it is considered an excepted benefit (for 
example, restricted to onsite ambulatory medical clinics, limited to a 
particular diagnosis, or restricted to an indemnity benefit). We are 
not aware of health insurance plans that offer only ambulatory 
benefits, and do not believe this is a common practice in the industry.
6. Section 1011 Payments
    Comment: Numerous commenters requested an explanation of the 
rationale for requiring States to consider Section 1011 payments in DSH 
limit calculations when the statute does not refer to Section 1011 
payments as a factor in determining the hospital's uncompensated care 
burden. They asserted that Section 1011 payments do not appear to fit 
in the statutory categories of Medicaid payments, health plan payments, 
or payments made by uninsured patients, that are required to be 
``netted'' from cost for the purpose of the DSH limit calculations. The 
commenters request CMS to amend the proposed rule to eliminate the 
proposed treatment of Section 1011 payments.
    Response: Section 1011 payments are made to a hospital for the 
costs incurred for the provision of specific services to specific 
aliens to the extent that the provider was not otherwise reimbursed 
(through insurance or otherwise) for such services. Because a portion 
of the Section 1011 payments are made for uncompensated care costs that 
are also eligible under the hospital-specific DSH limit (for example, 
costs associated with those Section 1011 eligible aliens with no source 
of third party coverage for the inpatient and outpatient hospital 
services they receive and inpatient and outpatient hospital services 
not considered eligible under Section 1011), a defined portion of the 
Section 1011 payment must be recognized as an amount paid on behalf of 
those ``uninsured'' Section 1011 eligible aliens, which would offset 
the hospital's uncompensated cost under the hospital-specific limit. 
The information necessary to properly segregate eligible

[[Page 77917]]

1011 costs under the hospital-specific DSH limit from Section 1011 
costs not eligible under the hospital-specific limit is already 
maintained in hospital accounting records for purposes of compliance 
with Section 1011. Section 1011 costs not eligible under the hospital-
specific DSH limit include any inpatient and/or outpatient service 
provided to a Section 1011 eligible individual who also had a source of 
third party coverage for such services (for example, commercial 
insurance, workmen's compensation, automobile insurance coverage). 
Similarly, Section 1011 revenues attributable to inpatient and 
outpatient hospital services provided to Section 1011 eligible aliens 
with a source of third party coverage for the inpatient and outpatient 
hospital services they receive or that are inpatient and outpatient 
hospital services not considered eligible under Section 1011 would not 
be offset against eligible uncompensated care costs under the hospital-
specific limit.
    Considering the portion of Section 1011 payments attributable to 
eligible aliens with no source of third party coverage for the 
inpatient and outpatient hospital services they receive as revenue for 
purposes of calculating the hospital-specific DSH limit does not change 
the hospital's ability to be fully reimbursed for eligible 
uncompensated inpatient and outpatient hospital services. This portion 
of the Section 1011 payments are an additional source of funding to 
hospitals and can assist States in managing the DSH allotments in a 
manner that recognizes a broader universe of hospitals that provide a 
disproportionate share of services to Medicaid and low-income 
individuals. Offsetting the portion of the Section 1011 payments in no 
way prevents a hospital from receiving DSH payments up to 100 percent 
of the unreimbursed cost of providing inpatient and outpatient hospital 
services to individuals with no source of third party coverage. Section 
1011 revenues attributable to inpatient and outpatient hospital 
services provided to Section 1011 eligible aliens with a source of 
third party coverage for the inpatient and outpatient hospital services 
they receive or that are inpatient and outpatient hospital services not 
considered eligible under Section 1011 would not be offset against 
eligible uncompensated care costs under the hospital-specific limit.
    The form associated with the reporting requirements has been 
modified to separately identify Section 1011 payments from other 
revenue sources.
    Comment: A few commenters noted the State does not have access to 
information on Section 1011 payments made to hospitals by the 
Secretary. The commenters asked whether CMS intends to provide each 
State a hospital-specific report that quantifies the Section 1011 
payments and the time period during which the payments were made. If 
not, the commenters asked for clarification on how States should 
collect and validate this information.
    Response: CMS has produced a General DSH Audit and Reporting 
Protocol, which specifically addresses the source documents to be 
utilized in performing the DSH audit and report. One of the source 
documents will be hospital audited financial statements. The Section 
1011 payments would necessarily be identified as a revenue source in 
the hospitals' audited financial statements. Each DSH hospital must 
identify to the State the portion of Section 1011 payments received 
during the Medicaid State plan rate year under audit as described in 
the prior response to comment. These payments will then be considered a 
revenue offset against the total eligible uncompensated care comprising 
the hospital-specific DSH limit. The information necessary to properly 
segregate eligible Section 1011 costs under the hospital-specific DSH 
limit from Section 1011 costs not eligible under the hospital-specific 
limit is already maintained in hospital accounting records for purposes 
of compliance with Section 1011. Section 1011 costs not eligible under 
the hospital-specific DSH limit include any inpatient and/or outpatient 
service provided to a Section 1011 eligible individual who also had a 
source of third party coverage for such services (for example, 
commercial insurance, workmen's compensation, automobile insurance 
coverage). Similarly, Section 1011 revenues attributable to inpatient 
and outpatient hospital services provided to Section 1011 eligible 
aliens with a source of third party coverage for the inpatient and 
outpatient hospital services they receive or that are inpatient and 
outpatient hospital services not considered eligible under Section 1011 
would not be offset against eligible uncompensated care costs under the 
hospital-specific limit.
    Comment: One commenter requests clarification as to how CMS 
proposes that such information be considered. If a State is required to 
rely on self-reported hospital data then the State also requests 
clarification regarding why self-reported hospital data is sufficient 
for one purpose (Section 1011 payments or managed care payments) but 
not another (regular rate payments).
    Response: We anticipate that States and auditors will use the best 
available data. The DSH audit will rely on existing financial and cost 
reporting tools currently used by all hospitals participating in the 
Medicare program, and available State data on Medicaid fee-for-service 
payments. These documents would include the Medicare 2552-96 cost 
report and audited hospital financial statements and accounting records 
in combination with information provided by the States' Medicaid 
Management Information Systems (MMIS) and the approved Medicaid State 
plan governing the Medicaid payments made during the audit period. 
There are three specific types of revenues that must be included in the 
audit to which the State conducting the audit will not have access. 
They are: (1) Medicaid and DSH payments received from States other than 
the State in which the hospital is located, (2) Medicaid MCO payments 
and, (3) payments by or on behalf of uninsured individuals (other than 
State and local government indigent care payments). The State and CMS 
must rely on hospital audited financial statements and accounting 
records to provide this information. In addition, hospital cost 
information is available only from a reporting hospital. The State and 
CMS must rely on hospital 2552-96 cost reports to provide this 
information. When the State has the most central and current 
information through its MMIS (for example, data on Medicaid payments in 
State fee-for-service inpatient hospital, outpatient hospital and DSH 
payments) that system will be the best source of the information.
    Comment: One commenter suggested that CMS should offset Medicare 
DSH payments with these payments.
    Response: There is no statutory authority to support the 
commenter's suggestion. The hospital-specific DSH limit does not 
contemplate consideration of costs and revenues for services provided 
to Medicare beneficiaries except when those beneficiaries are dually 
eligible for Medicaid services. Moreover, Medicare DSH payments are 
governed under separate statutory authority and recognize the higher 
costs incurred by DSH facilities that are associated with Medicare 
hospital services, and do not recognize costs related to services 
provided to uninsured individuals.
    In contrast, Section 1011 payments specifically reimburse hospital 
costs of providing uncompensated emergency services they are required 
to provide under Section 1867 of the Act (EMTALA) to undocumented and 
other eligible aliens, some of whom have no

[[Page 77918]]

source of third party coverage for the inpatient and outpatient 
hospital services they receive. To the extent a portion of Section 1011 
payments are paid to a hospital to offset these uncompensated care 
costs eligible under the hospital-specific DSH limit, a defined portion 
of the Section 1011 payment must be recognized as a payment on behalf 
of those individuals when determining a hospital's eligible 
uncompensated cost under the hospital-specific DSH limit. If the 
hospital also received a Section 1011 payment to satisfy the same 
uncompensated costs that are included as part of the hospital's 
specific DSH limit, the Section 1011 payment must be included as an 
offsetting revenue source reducing the total amount of uncompensated 
care eligible for Medicaid DSH payments.
    Comment: One commenter said that the requirement to consider 
Section 1011 payments as revenue offsetting costs of services for the 
uninsured could significantly reduce DSH payments for vulnerable DSH-
eligible hospitals and children's hospitals.
    Response: CMS does not believe that treating the portion of Section 
1011 payments, for those uninsured Section 1011 eligible aliens, as 
revenue for purposes of calculating the hospital-specific DSH limit in 
any way compromises the hospital's ability to be fully reimbursed for 
uncompensated inpatient and outpatient hospital services. Instead, 
Section 1011 payments are an additional source of funding to hospitals 
and can assist States in managing the DSH allotments in a manner that 
recognizes a broader universe of hospitals that provide a 
disproportionate share of services to Medicaid and low-income 
individuals. Offsetting the portion of Section 1011 payments in no way 
prevents a hospital from receiving DSH payments up to 100 percent of 
the unreimbursed cost of providing inpatient and outpatient hospital 
services to individuals with no source of third party coverage. Section 
1011 revenues attributable to inpatient and outpatient hospital 
services provided to Section 1011 eligible aliens with a source of 
third party coverage for the inpatient and outpatient hospital services 
they receive or that are inpatient and outpatient services not 
considered eligible under Section 1011 would not be offset against 
eligible uncompensated care costs under the hospital-specific limit.
    Comment: One commenter complained that this regulation places a 
reporting and verification requirement on the State and on hospitals in 
the State for the Federally administered Section 1011 program.
    Response: The reporting obligation is based on the requirements 
under the Medicaid program, which is administered by States. To the 
extent that Section 1011 payments are paid to a hospital to offset 
uncompensated care costs eligible under the hospital-specific DSH 
limit, this Section 1011 payment must be recognized as a payment on 
behalf of Section 1011 eligible individuals when determining a 
hospital's eligible uncompensated cost under the hospital-specific DSH 
limit. The Section 1011 payments are Federal payments that directly pay 
hospitals and certain other providers for their otherwise unreimbursed 
costs of providing services required by Section 1867 of the Act 
(EMTALA). The hospital-specific limit is calculated taking into 
consideration payments made by or on behalf of uninsured individuals, 
and there is no statutory exception for payments made under Section 
1011.
    Comment: One commenter asserted that it would be harmful to States 
to identify which hospitals received Section 1011 payments and the 
amount of Section 1011 payments received prior to allocating DSH funds.
    Response: It is not clear what harm would result from greater 
understanding of the revenues available to pay for uncompensated care. 
Moreover, reporting is consistent with the need to verify the 
appropriateness of DSH payments, for the reasons discussed above. And, 
as we discussed above, proper accounting for Section 1011 payments may 
provide States with additional flexibility in the use of their limited 
DSH allotment.
    Comment: One commenter requests CMS to clarify for providers and 
states that only supplemental Medicaid payments (to the exclusion of 
Section 1011 funds, which are not Medicaid program payments) be 
included for purposes of counting which payments are deemed to have 
been paid to a hospital as part of the hospital-specific DSH limit. The 
commenter requested that CMS explicitly exclude the Section 1011 funds 
from the ``Verification 4'' requirement.
    Response: We disagree with the commenter and instead are clarifying 
that all Medicaid payments must be considered in the calculation of 
revenues offsetting costs, as well as a portion of Section 1011 
payments. Verification four specifically directs the auditor to ensure 
that, ``States included all payments under this title, including 
supplemental payments, in the calculation of hospital-specific DSH 
payment limits.'' This verification addresses the treatment of Medicaid 
payments and in particular, payments that are in excess of Medicaid 
cost. To alleviate any confusion, we separately address Section 1011 
payments, which are made by the Federal government on behalf of 
undocumented and other specified aliens receiving emergency services 
required under Section 1867 of the Act. These payments do not meet the 
State or local government exclusion and must be treated as a payments 
received on behalf of uninsured individuals for purposes of determining 
a hospitals'-specific DSH limit.
    The form associated with the reporting requirements has been 
modified to separately identify Section 1011 payments from other 
revenue sources.
7. Unduplicated Medicaid and Uninsured Counts
    Comment: Numerous commenters stated it is feasible for States to 
report the unduplicated number of Medicaid eligible individuals, but 
not to report unduplicated uninsured patients. These commenters 
asserted that such information appears to serve no purpose relative to 
the requirements this rule is intended to enforce. The commenters 
believe this requirement to be unreasonable, unwarranted, and/or 
unnecessary, with no clear relationship between this data and DSH 
program and this reporting requirement should be eliminated.
    Response: The regulation has been modified to remove the 
requirement to report unduplicated counts of both Medicaid and 
uninsured patients. The form associated with the reporting requirements 
has been modified to remove the Section addressing unduplicated 
Medicaid counts and unduplicated uninsured counts.
8. MIUR and LIUR Calculations
    Comment: Many commenters asserted that the proposed rule would 
inappropriately limit the charity care component of the Low Income 
Utilization Rate (LIUR) DSH qualification measurement under Section 
1923(b)(3) of the Act to only charity care rendered to the uninsured, 
who do not have third-party coverage for hospital services, thereby 
excluding charity care for the underinsured. They argued that the 
statute does not limit this ratio to services provided uninsured 
individuals. They pointed out that, while the lack of third-party 
coverage is an important factor in any hospital's charity care policy, 
it is not the only factor. They asserted that charity care is often 
appropriate, and should be recognized, when some third-party coverage 
exists, but it is inadequate

[[Page 77919]]

given the financial circumstances of the patient.
    Response: We agree, and the regulation has been modified to 
maintain consistency with Section 1923(b) regarding the calculation of 
the LIUR. Specifically, CMS recognizes that hospital charity care 
policy may go beyond individuals with no source of third party coverage 
and may include underinsured individuals. For purposes of the LIUR 
only, individuals that qualify under a hospital's charity care policy 
may be included.
    Comment: One commenter stated that this new annual reporting 
requirement should not be associated to the CMS 64 quarterly report. 
The commenter suggested that DSH reporting should be submitted directly 
to CMS on the same day that the required independent certified audit is 
submitted.
    Response: We agree. CMS is not requiring States to submit either 
the annual report or the certified independent DSH audits in 
conjunction with the CMS 64 quarterly report. Instead, the annual 
report and the final audit must be submitted to CMS within 90 days of 
the completion of the audit. The submissions associated with Medicaid 
State plan rate year 2005 and 2006 are due no later than December 31, 
2009. Each subsequent audit report beginning with Medicaid State plan 
rate year 2007 must be completed by September 30 of the year ending 
three years from the Medicaid State plan rate year at issue, and the 
submissions are due by the following December 31st. This means that the 
2007 Medicaid State plan rate year annual report and audit report must 
be submitted to CMS by December 31, 2010.
    Comment: A few commenters state that Federal regulations currently 
require that hospitals be given the option of qualifying for DSH based 
on either their Medicaid inpatient utilization rate or their low-income 
utilization rate, but do not require that hospitals submit information 
on both of these rates. They stated that the reporting requirements for 
MUIR and LIUR are not specifically required in the MMA, and do not 
appear to make a contribution to determining State compliance with the 
applicable hospital-specific DSH limitation, which is the objective of 
the proposed regulation according to the MMA. One commenter stated that 
this reporting requirement for MUIR and LIUR represents another attempt 
to adopt a substantive policy change in the context of these audit and 
reporting rules.
    Response: The MMA imposes audit and reporting requirements on 
States regarding DSH payments to eligible hospitals. As part of this 
process, CMS must ensure if all hospitals receiving DSH payments under 
the Medicaid State plan actually qualify to receive such payments. 
Sections 1923(b)(1)(A) and (B) of the Act require that all hospitals 
with certain threshold MIUR or LIUR levels must be included by the 
State as DSH eligible hospitals. This is the minimum Federal standard. 
States have the option to use alternative qualifying criteria that are 
broader than the minimum Federal standards.
    States that use only the LIUR or only the MIUR to determine DSH 
qualification should report on the statistic utilized in the approved 
Medicaid State plan for the Medicaid State plan rate year under audit. 
States using a broader methodology should report the statistic utilized 
in lieu of the MIUR or LIUR. There is no change in the MIUR or LIUR 
under this regulation. The statute calls for reporting and auditing of 
DSH payments, and this rule requires such reporting and auditing, 
consistent with all existing requirements and limitations associated 
with those payments. In an effort to provide States with uniform 
instructions, CMS provided detailed identification of the data elements 
necessary to comply with these statutory reporting and auditing 
requirements.
    Comment: A few commenters noted that their State's DSH methodology 
defines Medicaid inpatient utilization differently than does 
1923(b)(2). One commenter gave as an example a State that does not 
include dual eligible days in a hospital's Medicaid utilization rate 
for DSH purposes, while 1923(b)(2) appears to include these days. The 
commenter indicated that, using the State-defined Medicaid utilization 
rate for the eligibility determination, includes more hospitals as DSH 
providers and pays a higher DSH adjustment than is specified in 
1923(c). Another commenter's State utilizes days attributable to dual 
eligibles to calculate the Medicaid Inpatient Utilization rate (MIUR). 
Some commenters asked that CMS clarify the standard to be used on 
whether days attributable to dual eligibles should be included in the 
calculation of the MIUR for the purposes of determining which hospitals 
are deemed to be disproportionate share hospitals.
    Response: We have revised the regulation to make clear that States 
that use alternate broader qualifying criteria than the MIUR should 
report on the hospital's measurement on such criteria. With respect to 
the statutory MIUR, it is a calculation that includes all Medicaid 
eligible days. To the extent that an inpatient hospital day for a 
dually-eligible Medicare/Medicaid patient qualifies as a Medicaid day, 
that day may be included in the MIUR calculation. States have the 
option to use alternative qualifying criteria that are broader. States 
using a broader methodology should report that statistic in lieu of the 
MIUR or LIUR.
    Comment: One commenter said that their State calculates each 
hospital's MIUR and LIUR for purposes of determining DSH eligibility. 
The MIUR used for a current year's DSH eligibility is based on data 
from prior years. The commenter asked for clarification as to whether 
the MIUR for reporting and audit purposes should be the MIUR used to 
determine the current year's DSH eligibility, or an MIUR calculated 
based on the hospitals' current year's operational data. One commenter 
further questioned whether a State that currently calculates DSH 
eligibility on a calendar year basis, must now calculate the Medicaid 
Inpatient Utilization Rate on a State fiscal year basis to comply with 
the reporting requirements.
    Response: The data reported and used in the certified audit should 
be from the Medicaid State plan rate year. States will continue to have 
the flexibility to use time periods other than the Medicaid State plan 
rate year to estimate DSH qualification and DSH payments, but must 
provide for adjustments to ensure that final qualification and payments 
are based on actual data for the relevant time period. Consistent with 
that principle, the LIUR, MIUR or alternative DSH qualifying statistics 
must be reported in the audit using the actual hospital utilization, 
payment and cost data applicable to the Medicaid State plan rate year 
under audit. For instance, if the Medicaid State plan determines DSH 
qualification in a given year based on prior year Medicaid and/or low-
income utilization data, the audit must report that qualifying 
statistic using actual Medicaid State plan rate year data to 
demonstrate that the hospital was eligible to receive DSH payments. CMS 
recognizes that States must use estimates to determine a hospital's DSH 
qualification and DSH payments in a given year. The regulation is 
intended to ensure that hospitals are qualified to receive DSH payments 
and that such payments do not exceed the hospital-specific DSH limit. 
The transition period, discussed in earlier comments, ensures that 
States may adjust those estimates prospectively to avoid any immediate 
adverse fiscal impact.

[[Page 77920]]

9. Medicaid Revenues Defined
    Comment: A few commenters recognized the importance of the sum of 
Regular Medicaid Payments, Medicaid Managed Care Organization Payments 
and Enhanced/Supplemental Medicaid Payments in determining hospital 
eligibility for Medicaid DSH payments and in calculating the hospital-
specific limits for such payments. However, the commenters do not 
understand why these figures need to be reported separately because 
those separate figures, in and of themselves, do not contribute to 
CMS's ability to determine the appropriateness of DSH payments and is 
not mandated by the MMA.
    Response: The statute called for reporting of specific payments and 
data necessary to ensure the appropriateness those payments, and 
provides for States to obtain independent certified audits of such 
payments. The data elements we are requiring are those that we believe 
are necessary to determine the appropriateness of DSH payments, and to 
verify audit findings. In an effort to provide States with uniform 
instructions, CMS provided detailed identification of the data elements 
necessary to comply with Congressional instruction on such reporting 
and auditing.
    To determine the eligible uncompensated care hospital-specific DSH 
limit and to ensure that all eligible costs under such limit are offset 
by total Medicaid payments made, the regulation requires a separate 
accounting of types of Medicaid payments. The separate reporting of 
each type of Medicaid payment creates a verification mechanism to 
ensure that all Medicaid payments are properly offset against the 
hospital-specific DSH limit. Regular Medicaid payment and supplemental 
Medicaid payment information is readily available to the State via the 
Medicaid Management Information System. Information regarding Medicaid 
managed care payments made to hospitals is available from hospital 
accounting systems.
    Comment: A few commenters did not understand, based on the proposed 
regulation, whether the categories of ``Regular Medicaid payments'' and 
``Medicaid managed care organization payments'' are mutually exclusive. 
Several commenters requested clarification of the phrase, ``regular 
Medicaid payments,'' stating it is a new term that would benefit from 
more explicit definition.
    Response: We intended in the proposed rule that the terms regular 
Medicaid payment and Medicaid MCO payments would be mutually exclusive, 
but because the term ``regular'' was apparently confusing we are 
revising the regulatory language to be more specific. We viewed 
``regular'' Medicaid payments as the fee-for-service (FFS) at the base 
rates that States set for Medicaid services offered through the 
approved Medicaid State plan. We also included as ``regular'' Medicaid 
payments under a FFS rate system any add-ons to rates that account for 
specific costs. We have now revised the regulation text to identify 
this category more specifically as IP/OP Medicaid fee-for-service (FFS) 
basic rate payments.
    We distinguish as a separate reporting data element payments to 
each hospital from MCOs because those payments are derived from 
different data sources (hospital records). Medicaid MCO payments are 
payments from MCOs to hospitals for inpatient and outpatient services 
provided to Medicaid managed care enrollees. We also distinguish as a 
separate data element supplemental and/or enhanced Medicaid payments 
that are not part of regular FFS Medicaid rate structure but instead 
are additional reimbursement to providers above the basic service rate. 
Supplemental and/or enhanced Medicaid payments are not necessarily 
available to all participating Medicaid providers and may not be 
triggered by a claim for Medicaid services provided. A supplemental 
Medicaid payment may be based solely on qualifying criteria defined in 
the Medicaid State plan.
    Comment: One commenter noted that the regulation specifies how 
Medicaid MCO payments to hospitals are treated, but does not appear to 
contemplate the treatment of payments from other managed care entities' 
that are not solely Medicaid MCOs. The regulations should clarify how 
all revenues from managed care entities for hospital services should be 
treated.
    Response: Because the regulation specifically addresses Medicaid 
DSH payments and hospital-specific DSH limits, hospitals will be 
required to report only the MCO revenues associated with Medicaid 
inpatient and outpatient hospital services. Only the unreimbursed 
inpatient hospital and outpatient hospital costs associated with 
Medicaid managed care (for example, Medicaid shortfall) are eligible to 
be included in the hospital-specific DSH limit. To determine any 
eligible Medicaid shortfall, hospitals must include costs associated 
only with inpatient and outpatient hospital services provided to 
Medicaid managed care enrollees net of the inpatient and outpatient 
hospital payments made to the hospital from Medicaid MCOs.
10. Intergovernmental Transfers
    Comment: One commenter noted that the proposed rule requirement of 
reporting transfer payments is not mandated by the MMA. A few 
commenters requested a definition of the term transfers (Sec.  
447.299(c)(13)), which is undefined in existing Federal statute and 
regulation. One commenter requested definition and clarification of the 
phrase, ``as a condition of receiving any Medicaid payment or DSH 
payment.''
    Response: We have removed this proposed data element because we 
agree that it is not appropriate in the context of this reporting and 
auditing obligation, but instead relates to concerns that are better 
addressed through other oversight procedures. In using the term 
``transfer,'' we intended to reference intergovernmental transfer 
obligations that a DSH hospital may have under a State's Medicaid 
program. As explained in a response to a subsequent comment, 
intergovernmental transfer obligations are not considered costs 
eligible under the hospital-specific DSH limit.
11. Costs Defined
    Comment: A few commenters requested a definition of cost indicating 
that some agencies grant States some leeway in the definition of costs.
    Response: Uncompensated care costs eligible under the hospital-
specific DSH limit were clearly articulated in the August 26, 2005 
proposed regulation. That is, the uncompensated care cost eligible 
under the hospital-specific DSH limit include the unreimbursed costs of 
providing inpatient and outpatient hospital services to Medicaid 
eligible individuals and the unreimbursed costs of providing inpatient 
and outpatient hospital services to individuals with no source of third 
party reimbursement for the inpatient and outpatient hospital services 
they receive. Therefore, all costs for services that are within the 
definition of inpatient hospital services and outpatient hospital 
services that are furnished to Medicaid eligible individuals and to 
individuals with no source of third party reimbursement should be 
included in calculating the hospital-specific DSH limit. States do not 
have the flexibility to broaden or narrow the costs included in 
calculating the hospital-specific DSH limit, because the universe of 
costs is defined in the statute. States do have the flexibility to vary 
the level of DSH payment between individual hospitals as long as the 
payments are at or below the hospital-specific limit. And States are 
not required to make DSH payments that

[[Page 77921]]

cover all costs included in calculating the hospital-specific DSH 
limit.
    Comment: One commenter noted a reference to the cost determination 
method via the Medicare cost report would be beneficial.
    Response: CMS agrees that the same methods used in preparing the 
Medicare 2552-96 cost report should be applied in determining costs to 
be used in calculating the DSH hospital-specific limits. We believe 
that hospitals' Medicare cost report and audited financial statements 
and accounting records should contain the information necessary for 
reporting and auditing responsibilities, in combination with 
information provided by the States' Medicaid Management Information 
Systems (MMIS) and the approved Medicaid State plan governing the 
Medicaid payments made during the audit period.
    It is important to note that, in using a cost-to-charge ratio in 
calculating costs, only the inpatient and outpatient hospital charges 
associated with individuals with no source of third party coverage for 
such services can be applied to the Medicare cost report for purposes 
of calculating the uninsured uncompensated care cost component of the 
hospital-specific DSH limit. Hospitals must also ensure that no 
duplication of such charges exist in their accounting records. This 
information must be made available to the auditor for certification.
    CMS has developed a General DSH Audit and Reporting Protocol which 
will be available on the CMS Web site to assist States and auditors in 
using information from each source identified above to determine 
uncompensated care costs consistent with the statutory requirements.
    Comment: A number of commenters asked for clarification of the 
requirement in the proposed rule that States should report 
``separately'' the ``total annual cost'' or the ``total annual amount 
of uncompensated care costs,'' respectively, ``for furnishing inpatient 
hospital and outpatient hospital services to Medicaid eligible 
individuals and to individuals with no source of third party coverage 
for the hospital services they receive.'' The commenters suggested that 
CMS remove the word ``separately'' from Sec. Sec.  447.299(c)(14) and 
447.299(c)(15) and clarify that only one data item must be reported for 
both ``total cost of care'' and ``uncompensated care costs.''
    Response: The reporting form has been modified to address many 
comments concerning the necessary data elements to fulfill the audit 
and reporting requirements. The data element referring to ``Total 
Annual Uncompensated Care Costs'' represents the total amount of 
unreimbursed care to be considered under the hospital-specific DSH 
limit. This figure is the result of summing ``Total Cost of Care 
Medicaid IP/OP Services'' and ``Total Cost of IP/OP for uninsured'' and 
then subtracting ``Total Medicaid IP/OP Payments'' and ``IP/OP 
Uninsured Revenues,'' and ``Total Applicable Section 1011 Payments''. 
The source of this information will be the hospital's Medicare 2552-96 
cost reports, hospital audited financial statements and accounting 
records, and MMIS data.
    Comment: Numerous commenters said that a review of the legislative 
history of the MMA DSH reporting and auditing requirements does not 
reveal that Congress raised any concerns about the calculation of 
uncompensated care costs, about how unreimbursed costs were determined 
for setting the hospital-specific DSH limit by the CMS or State 
Medicaid programs. Several commenters stated that as a procedural 
matter, CMS fails to acknowledge that it is changing the definition of 
a key term, uncompensated care. The new definition is simply included 
in the preamble and regulation text as though nothing is being 
substantively changed.
    Response: We disagree with the premise of the commenters that the 
DSH reporting and auditing requirements do not indicate Congressional 
concern about the appropriateness of DSH payments. And we disagree that 
this rule changes the definition of uncompensated care that is counted 
in calculating the hospital-specific DSH limit.
    Section 1923(g)(1)(A) of the Act specifics that DSH payments cannot 
exceed, ``the costs incurred during the year of furnishing hospital 
services (as determined by the Secretary and net of payments under this 
title, other than under this Section, and by uninsured patients) by the 
hospital to individuals who either are eligible for medical assistance 
under the Medicaid State plan or have no health insurance (or other 
source of third party coverage)''. This language plainly identifies the 
limited population, whose costs were to be included in the calculation, 
and specifies offset of revenues associated with those costs.
    The reporting and auditing requirement, by their nature, indicate 
concern with the calculation of the hospital-specific limit. In an 
effort to provide States with uniform instructions, CMS provided 
detailed identification of the data elements necessary to comply with 
Congressional instruction on such reporting and auditing. The 
definitions of the data elements track the statutory language, and do 
not change the calculation that should have always been performed.
    Comment: One commenter states that CMS proposes to redefine 
uncompensated care costs in a very narrow fashion for DSH reporting, 
yet for reporting uncompensated care in the Medicare cost report, 
hospitals are instructed to include bad debts and non-Medicaid indigent 
care plans. The commenter believes that a uniform definition should be 
in place for all hospital reporting.
    Response: Medicare and Medicaid are separate programs. The Medicare 
program uses a different, broader, definition of uncompensated care 
than is authorized for purposes of the Medicaid DSH hospital-specific 
limit. It is important to note that the statutory provision at Section 
1923(g)(1) of the Act does not use the term ``uncompensated care'' and 
we use it only because of its longstanding use in this context. The 
definition we have been using tracks the statutory requirements for the 
hospital-specific DSH limit.
    Comment: One commenter noted that historically, there has been 
great difference in how uncompensated care costs have been calculated 
from State to State and asked if this rule would establish a uniform 
methodology among all States for calculating the uncompensated care 
costs for Medicaid eligible individuals and individuals with no source 
of third party coverage. One commenter stated CMS should clarify what 
amounts (revenue charges and costs) are to be included in uncompensated 
care.
    Response: This regulation sets forth reporting and auditing 
requirements for DSH payments and necessarily will result in greater 
uniformity in State practices but this regulation does not change the 
underlying statutory requirements for DSH payments. In an effort to 
provide States with uniform instructions, CMS provided detailed 
identification of the data elements necessary to comply with 
Congressional instruction on such reporting and auditing.
    Comment: One commenter said that public hospitals in their State 
typically screen uninsured patients to determine the extent of their 
ability to pay for services rendered. The determination generally 
results in an allowance that is applied to reduce the amount due from 
the uninsured patient. The commenter recommends a revision to clarify 
that discounts for the uninsured are not applied to reduce the 
hospital's uncompensated care costs. The full cost

[[Page 77922]]

should be recognized as uncompensated notwithstanding the discount or 
allowance process.
    Response: We agree that the amount of calculations of uncompensated 
care should not be reduced by amounts that are not paid because of a 
provider discounted charge. The statute provides for costs of 
furnishing services to uninsured patients to be reduced only by the 
amount of payments received from or for those patients, except for 
payments for care to indigent patients from a State or unit of local 
government within a State. We have clarified the data elements in this 
final rule, and we believe they more clearly track those statutory 
elements. We note that hospitals may need to ensure that, to the extent 
that they determine costs based on a cost-to-charge ratio, the 
unreduced charge is used in the calculation.
    Comment: One commenter noted that the ``payer discount'' exclusion 
is inappropriate with respect to both the uninsured and Medicaid 
beneficiaries. With respect to uninsured patients, no third party payer 
is involved. For services rendered to Medicaid patients, the difference 
between the Medicaid rates (or Medicaid managed care plan payments) and 
the costs of furnishing the services constitutes the Medicaid 
shortfall, that is a component of uncompensated care costs.
    Response: As noted above, we agree that payment discounts extended 
to uninsured individuals should neither increase nor decrease 
uncompensated care, since offset is required only for actual revenues 
from or for these individuals. The reference in the proposed regulation 
was intended to refer to payment discounts extended to health insurers 
or other third party payers. We have clarified this language in the 
final rule.
    To the extent that hospitals do not separately identify 
uncompensated care related to services provided to individuals with no 
source of third party coverage from uncompensated care costs not 
eligible under the hospital-specific DSH limits, hospitals will need to 
modify their accounting systems to do so.
    Comment: A few commenters stated that contractual allowances and 
payer discounts for persons with 3rd party coverage are the only items 
that should not be permissible in this Section. They recommended that 
the definition of uncompensated care cost be modified to include all 
uncompensated care costs other than contractual allowances and third 
party insurance discounts given to plans other than indigent care 
plans.
    Response: As enacted by OBRA 93, the hospital-specific DSH limit is 
comprised only of the uncompensated care costs of providing inpatient 
and outpatient hospital services to Medicaid individuals and to 
individuals with no source of third party coverage for the inpatient 
and outpatient hospitals services they received.
    Comment: One commenter requested clarification of whether the 
requirement for verifying ``The extent to which hospitals in the State 
have reduced their uncompensated care costs to reflect the total amount 
of payment adjustments under this Section.'', and the new Sec.  
455.204(c)(1), should be read to require verification that obligations 
of the qualifying DSH hospital to fund the non-Federal share of a DSH 
payment or any other Medicaid payment are not included as uncompensated 
care costs for purposes of the hospital-specific DSH limit.
    Response: The proposed first verification was based on the 
statutory language of Section 1923(j)(2)(A) of the Act. Since there is 
no statutory requirement that hospitals actually use DSH payments for 
uncompensated care, we are reading this verification to require 
examination of whether the DSH payments made to each hospital are 
retained by the hospital and are actually available to offset 
uncompensated care costs. We have encountered numerous instances in 
which Medicaid hospital providers are not permitted to retain Medicaid 
payments for normal hospital purposes. Instead the hospital is required 
to divert the funding either by returning it to the payor (either 
directly or indirectly) or is required to use the funding for another 
purpose. We have revised the wording of this verification to better 
reflect our reading of its meaning.
    We confirm that intergovernmental transfers (IGTs) cannot be 
included as a cost for purposes of calculating the hospital-specific 
DSH limit. IGTs are not costs of providing health care services; they 
are a financing mechanism and should not be included in the calculation 
of the hospital-specific DSH limits. DSH payments are limited to the 
costs of providing inpatient and outpatient hospital services to 
Medicaid eligible individuals and individuals with no source of third 
party coverage.
    Comment: One commenter stated that based on the accompanying 
discussion found in the Federal Register, the State interprets this 
provision to mean that any amount of funds, certified or transferred by 
or from a hospital or other governmental entity, that is used to claim 
Federal DSH funding, must be reported as a DSH payment to the hospital 
in the evaluation of the hospital-specific DSH limit.
    Response: We agree with the reading that Medicaid hospital payments 
include the total computable federal and non-federal share payment 
amount, even when the non-federal share is not funded directly by the 
State Medicaid agency. Certified public expenditures (CPEs) and 
intergovernmental transfers (IGTs) are non-Federal share funding 
mechanisms utilized by States to share the cost of financing the 
Medicaid program with other local government entities, including 
governmentally operated health care providers. To the extent that 
governmentally operated health care providers are the source of the 
non-Federal share funding of a non-DSH Medicaid payment, such sources 
of non-Federal share become part of the total computable Medicaid 
payment received by the provider and non-DSH Medicaid payments are a 
revenue source that offsets costs for purposes of calculating the 
hospital-specific DSH limit. And to the extent that these mechanisms 
are used to finance the DSH payments themselves, the total DSH payment 
would include the total computable expenditure.
    It should be noted that IGTs made by hospitals cannot be included 
as a cost of hospital services under the hospital-specific DSH limit. 
DSH payments are limited to the costs of providing inpatient and 
outpatient hospital services to Medicaid eligible individuals and 
individuals with no source of third part coverage. IGTs are not costs 
of providing health care services, they are a financing mechanism and 
should not be included in the calculation of the hospital-specific DSH 
limits.
    CPEs are also a financing method but CPEs are based on actual costs 
incurred which are certified by a unit of government to represent a 
Medicaid payment. CPEs by a governmentally operated hospital that 
represent costs incurred for hospital services for Medicaid-eligible 
individuals can be included as costs in the hospital-specific limit 
calculation, but would be completely offset by the Medicaid payments 
that they represent. When the DSH methodology is based directly on 
payment for incurred costs of serving the uninsured, CPEs by a 
governmentally operated hospital may represent the DSH payment. In that 
instance, the CPE would also represent costs that could be included in 
the hospital-specific limit, but there would be no payment offset in 
the calculation. Instead, the total computable amount would be 
considered as a DSH payment
    CPEs by a local government entity that is not a health care 
provider (when the entity has made a total computable Medicaid payment 
on behalf of the State

[[Page 77923]]

and under the authority of the approved Medicaid State plan) the 
hospital in receipt of such payment must consider the full amount of 
that payment as a Medicaid payment that offsets costs in the 
calculation of the hospital-specific limit.
    Comment: Numerous commenters seek clarification that the same 
methodology for determining uncompensated care costs need not be used 
for every DSH hospital in the State. They asserted that CMS has 
previously recognized that any definition of ``allowable cost'' is 
acceptable, ``as long as the costs determined under such a definition 
do not exceed the amounts that would be allowable under the Medicare 
principles of cost reimbursement.'' The commenters indicated that, in 
some States, a variety of methodologies may be used to determine the 
uncompensated care costs for different categories of hospitals, such as 
public and private hospitals, or for particular hospitals. They 
suggested that using different methodologies for different hospitals is 
entirely justified, because not every hospital has the same accounting 
practices or incurs the same types of costs.
    Response: States have considerable discretion to determine 
allowable inpatient and outpatient costs when determining payment rates 
under their Medicaid State plan, but Section 1923(g)(1) of the Act 
provides for a Federal limitation based on costs that must be 
calculated in accordance with Federal accounting standards. In 
accordance with this principle, the 1994 guidance provided State 
flexibility to define Medicaid costs for purposes of setting Medicaid 
payment rates. But this flexibility does not apply to calculation of 
hospital-specific DSH limits to the extent that State-defined costs 
exceed those permitted under Medicare cost principles.
    Moreover, the hospital-specific limit is based on the costs 
incurred for furnishing ``hospital services'' and does not include 
costs incurred for services that are outside either the State or 
Federal definition of inpatient or outpatient hospital services. While 
States have some flexibility to define the scope of ``hospital 
services,'' States must use consistent definitions of ``hospital 
services.'' Hospitals may engage in any number of activities, or may 
furnish practitioner or other services to patients, that are not within 
the scope of ``hospital services.'' A State cannot include in 
calculating the hospital-specific DSH limit cost of services that are 
not defined under its Medicaid State plan as a Medicaid inpatient or 
outpatient hospital service.
    Comment: One commenter noted that its State agency receives state 
legislative authority to make distribution to hospitals from general 
revenue. The State requests confirmation from CMS that these payments, 
unmatched by Federal funds, are excluded from the hospital's DSH limit 
calculations.
    Response: Section 1923(g)(1)(A) of the Act specifies that, 
``payments made to a hospital for services provided to indigent 
patients by a State or a unit of local government within a State, shall 
not be considered to be a source of third party payment.'' State or 
local only, (non-DSH) payments received through an appropriation to the 
hospital for the provision of indigent care and for which Federal 
matching funds are not claimed would not be considered a revenue offset 
for purposes of determining a hospital-specific DSH limit. If, however, 
the ``distributions to hospitals from general revenue'' represent DSH 
payments (or any other Medicaid payment) for which the State will claim 
Federal matching dollars through the use of certified public 
expenditures, the State must count the ``distributions'' as DSH 
payments (or any other Medicaid payments) for purposes of the audit and 
report.
    Comment: One commenter requests CMS clarify that provider taxes are 
costs that may be included in a hospital's calculation of its 
uncompensated care costs.
    Response: Existing Medicaid policy recognizes permissible health 
care taxes as an allowable cost for the purposes of Medicaid 
reimbursement. A portion of a permissible hospital tax may also be 
allocated to indigent care days as part of the hospital cost report 
step-down cost allocation process. Specifically, the portion of a 
permissible health care related tax allocated to the cost of providing 
inpatient and outpatient hospital services to patients with no source 
of third party coverage may be included in the hospital-specific DSH 
limit.
    Comment: One commenter wants to assure hospitals' incurred costs of 
furnishing services to undocumented aliens are includable in the costs 
incurred by hospitals for furnishing services to individuals with no 
source of third party coverage for the services they receive.
    Response: The costs of inpatient and outpatient hospital services 
provided to undocumented aliens with no source of third party coverage 
for the inpatient and outpatient hospital services they receive are 
eligible under the hospital-specific DSH limit. These costs must be 
offset by any payments received by the hospital by or on behalf of the 
individuals with no source of third party coverage for the inpatient 
and outpatient hospital services they receive, including the applicable 
portion of the funding under Section 1011 of the MMA for those Section 
1011 eligible aliens with no source of third party coverage for the 
inpatient and outpatient hospital services they receive or any 
inpatient and outpatient services not considered eligible under Section 
1011. It is important to note that inpatient and outpatient hospital 
costs related to Section 1011 eligible aliens with a source of third 
party coverage for the inpatient and outpatient hospital service they 
receive are not eligible under the hospital-specific DSH limit, as 
discussed previously.
    Comment: Numerous commenters recommended that the language of 
verification 1 be revised to require that the total amount of 
claimed DSH expenditures for each hospital that qualifies for a DSH 
payment in the State is no more than the hospital's uncompensated care 
costs, exclusive of DSH payments.
    Response: The commenters' recommendation appears to reflect the 
issue that is addressed in the second required verification. The 
proposed first verification was based on the statutory language of 
Section 1923(j)(2)(A) of the Act. Since there is no statutory 
requirement that hospitals actually use DSH payments for uncompensated 
care, we are reading this verification to require examination of 
whether the DSH payments made to each hospital are retained by the 
hospital and are actually available to offset uncompensated care costs. 
We have encountered numerous instances in which Medicaid hospital 
providers are not permitted to retain Medicaid payments for normal 
hospital purposes. Instead the hospital is required to divert the 
funding either by returning it to the payor (either directly or 
indirectly) or is required to use the funding for another purpose. We 
have revised the wording of this verification to better reflect our 
understanding.
    Comment: A few commenters said that in order to ensure timely 
payments to providers, States should be allowed to continue to use 
prospective systems to determine uncompensated care costs.
    Response: CMS recognizes that States must make prospective DSH 
payments and that they must estimate eligible hospital uncompensated 
care costs as part of that process. But, as indicated in numerous audit 
reports by the HHS Inspector General, such estimates often result in 
improper payments if not reconciled to actual uncompensated care costs 
in the rate year. The new statutory reporting and auditing

[[Page 77924]]

requirements make clear that such estimates must be reconciled to 
actual costs in order to apply the statutory hospital-specific limits. 
As described in responses to comments regarding audit requirements, CMS 
has clarified that the Medicaid State plan rate years 2005 through 2010 
audit findings will be used only for purposes of assisting States in 
developing estimates for Medicaid State plan rate years 2011 through 
2015. As discussed in subsequent comments and applicable regulation 
text, the 2005 and 2006 audit findings will be used solely to ensure 
prospective DSH payments do not exceed hospital-specific limits 
beginning with Medicaid State plan rate year 2011. No retroactive 
fiscal impact will occur because of the transitional period.
    Comment: One commenter had a question about the proposed reporting 
form, requesting clarification on whether the definition of 
uncompensated care includes a description of the sources of data used 
in the calculation as well as a description of the methodology used to 
calculate uncompensated care cost by the State.
    Response: CMS has created a General DSH Audit and Reporting 
Protocol to provide guidance to states, hospitals, and auditors in the 
completion of the DSH audit. The total eligible uncompensated care 
block contained in the reporting form should include, by hospital, the 
total amount of eligible uncompensated care. This value should be 
expressed by its dollar value, determined in accordance with the 
General DSH Audit and Reporting Protocol. This protocol provides 
general instructions regarding the types and sources of information to 
be provided to the State and its auditor as well as the calculations 
the auditor will make based on the data provided. The protocol will be 
available on the CMS Web site.
    Comment: One commenter questioned whether CMS agrees with the 
method of calculating uncompensated care costs by using the ratio of 
cost to charges from the hospital's most recent ``as filed'' cost 
report and applies this ratio to a twelve-month period of uncompensated 
charges as reported by the hospital for purposes of completing the 
reporting form.
    Response: The uncompensated care block contained in the reporting 
form should include, by hospital, the total amount of eligible 
uncompensated care actually provided during the Medicaid State plan 
rate year under audit. This value should be expressed by its dollar 
value and must be based on the actual costs incurred by a hospital and 
reflected on the Medicare cost report(s) for the period under audit.
    CMS has created a General DSH Audit and Reporting Protocol to 
provide guidance to States, hospitals, and auditors in the completion 
of the DSH audit. This protocol provides general instructions regarding 
the types and sources of information to be provided to the State and 
its auditor as well as the calculations the auditor will make based on 
the data provided. The protocol will be available on the CMS Web site.
12. Physician Costs
    Comment: Several commenters disagreed with the proposed exclusion 
of physician services from consideration as a cost of hospital services 
in calculating the hospital-specific DSH limits. They argued that 
inclusion of such costs is consistent with Federal statute, the 
legislative history of the statute, and the purpose of the Medicaid 
Disproportionate Share Hospital Program. Several commenters noted that 
States have previously relied on the description of ``cost of 
services'' contained in a 1994 letter to State Medicaid Directors, 
which stated that CMS ``would permit the State to use the definition of 
allowable costs in its State plan, or any other definition, as long as 
the costs determined under such a definition do not exceed the amounts 
that would be allowable under the Medicare principles of cost 
reimbursement.'' Several commenters stated that physician services in a 
hospital are inseparable from other services furnished to hospital 
patients. The commenters recommend allowing the uncompensated care 
costs of hospital-salaried physician services to be included in the 
calculation of the hospital-specific DSH limit. Many commenters cited 
correspondence with CMS regarding the inclusion of physician cost as a 
component of hospital services.
    Response: The statute at Section 1923(g)(1) includes in the 
calculation of the hospital-specific DSH limit the unreimbursed costs 
of providing inpatient and outpatient ``hospital services'' furnished 
to specified populations (Medicaid-eligible and uninsured). Therefore, 
all costs included must be for services that meet a definition of 
``hospital services.'' That is a term that is used elsewhere in the 
Medicaid statute, in the definition of ``medical assistance'' at 
Sections 1905(a)(1) and 1905(2)(A) of the Act, referring to inpatient 
and outpatient hospital services. Under normal principles of statutory 
construction and administrative practice, this term should be given a 
consistent meaning. Thus, we interpret this term under Section 
1923(g)(1) of the Act to mean the same as it means under the approved 
Medicaid State plan description of inpatient hospital services and 
outpatient hospital services.
    Physician services are generally not considered hospital service 
costs in either Medicare or Medicaid programs, and are recognized as 
separate costs in the Medicare hospital cost reporting process. 
Specifically, the physician service costs are generally identified as 
professional costs and are removed from inpatient and outpatient 
hospital costs as part of the hospital cost allocation step-down 
process. The Medicare 2552-96 cost report does not include services 
furnished by a physician. Physician services are, as a matter of 
routine, separately billed and reimbursed as a professional service and 
are not included as part of the inpatient hospital service benefit. 
Medicaid programs generally follow Medicare payment principles in this 
respect. Therefore, the uncompensated costs of those services generally 
cannot be included in the inpatient hospital component of the hospital-
specific DSH limit.
    In addition, under the Medicaid program, separately reimbursed 
physician professional services are generally not included in State 
definitions of outpatient hospital services, but are covered under a 
separate benefit category. Therefore, the inclusion of separately 
reimbursed Medicaid physician services in the outpatient hospital 
service component of the hospital-specific DSH limit would not be 
allowable because, under the statute, the DSH limit may only include 
inpatient and outpatient hospital services.
    In sum, physician costs that are billed as physician professional 
services and reimbursed as such should not be considered in calculating 
the hospital-specific DSH limit, which is comprised only of the 
unreimbursed costs of providing inpatient and outpatient hospital 
services to Medicaid and uninsured individuals.
    Comment: Many commenters said it was not the intent of Congress to 
exclude physician costs from DSH limits because Congress expressed the 
expectation that hospitals receiving DSH payments were responsible for 
assuring access to physician services, as articulated in the 
requirement that a DSH facility have at least two obstetricians on its 
medical staff.
    Response: The commenters infer Congressional intent regarding what 
costs should be included within a

[[Page 77925]]

hospital-specific DSH cost limit by referencing a DSH qualification 
requirement and not the hospital-specific DSH limit requirements. 
Section 1923(d) specifies requirements for hospitals to qualify for DSH 
payments. The staff obstetrical requirements are part of the DSH 
qualification requirements.
    Separate treatment of hospital services and professional services 
has been a longstanding practice that predates the hospital-specific 
DSH limit and was affirmed by Congress in enacting prospective payment 
systems for Medicare hospital services. We have to presume that 
Congress understood what it meant in using the term ``hospital 
services'' rather than a more open-ended term. In light of the limited 
DSH allocations, we read this term to indicate the limited purpose for 
which Congress elected to make Federal DSH funds available for 
responsibilities that it may have deemed to be State responsibilities. 
Since physician services are generally not considered hospital services 
and the costs of physician services are generally recognized as 
separate costs in the Medicare hospital cost reporting process, we do 
not believe that Congress intended to generally include these costs in 
the hospital-specific DSH limit calculation. To the extent that there 
are States that have consistent practices of including physician 
services as an integral part of hospital services for coverage and 
payment purposes, and does not provide for separate payment (either 
directly or through an add-on methodology), we would agree that this 
practice would be applicable in calculating the hospital-specific DSH 
limit.
    Comment: One commenter noted that even Medicare recognizes 
physician services as hospital services.
    Response: This is not correct. Physician services are not generally 
recognized as hospital service costs in the Medicare hospital cost 
reporting process. Most physician service costs are identified as 
professional costs and are removed from inpatient and outpatient 
hospital costs as part of the hospital cost allocation step-down 
process. To the extent that there may be some limited exceptions when a 
physician performs hospital service functions, these exceptions would 
also be recognized in calculating the hospital-specific DSH limit.
    Comment: Numerous commenters stated that exclusion of physician 
costs from the hospital-specific DSH limit calculation appears to be 
announcing a new standard/policy, one that is a substantive change in 
longstanding DSH policy, that is not currently embodied in law, 
regulation or guidance and that is likely to produce substantial 
confusion. The commenters stated that this is the first time CMS has 
suggested that a hospital's legitimate physician costs may never be 
included in the DSH limit and that this represents a policy reversal by 
the agency.
    Response: This regulation reflects the statutory requirements and 
existing law and policy. The statute provides for consideration only of 
the costs of hospital services and the treatment of physician service 
costs under this rule is consistent with that requirement, with the 
definition of hospital services generally used by CMS and by States in 
other contexts. The statute called for reporting and auditing of 
specific payments and the existing Congressional limitations associated 
with those payments. In an effort to provide States with uniform 
instructions, CMS provided detailed identification of the data elements 
necessary to comply with Congressional instruction on such auditing and 
reporting.
    Comment: A few commenters stated it is inappropriate to address the 
treatment of physician services in the preamble to this regulation, in 
light of pending disputes. The commenters asserted that it is improper 
for the agency to change course unilaterally via one sentence in a 
preamble, and should not receive deference in any judicial appeals.
    Response: This regulation reflects but does not modify existing law 
regarding the treatment of physician services in the calculation of the 
hospital-specific limit. CMS has had a consistent position on this 
issue, and the Departmental Appeals Board issued a decision on May 18, 
2007 in one of the pending disputes cited by commenters, in which the 
Board upheld a disallowance on this basis. Moreover, even if this were 
regarded as a new or changed policy, the rulemaking process that has 
been undertaken is an appropriate method for its promulgation.
    The issue is rooted in the language of the statute, which at 
Section 1923(g)(1) refers only to hospital services, and does not 
include physician services furnished in a hospital. Physician services 
are not generally regarded as part of hospital services, but are 
generally regarded as separate professional services. This treatment of 
physician services has been consistently applied since before the 1993 
enactment of the hospital-specific DSH limit.
    The data elements identified in the proposed regulation were 
necessary to ensure compliance with the direction of the statute and 
those elements represent longstanding CMS policy.
    Comment: One commenter stated that their State's Medicaid 
outpatient payments to hospitals are ``bundled,'' in that the payment 
includes both a hospital and physician component. Medicaid MCO 
outpatient payments are similar. Hospitals are unable to separate out 
the physician-related component of outpatient rates. In order to 
appropriately match costs to payments for the DSH limit calculations, 
the commenter believes it is appropriate to include Medicaid outpatient 
costs related to hospital-based physicians in its DSH limit 
calculations.
    Response: To the extent that a State consistently includes 
physician services as an integral part of outpatient hospital services 
and does not make a separate payment for physician services either 
directly or as an add-on to the hospital rate, we would agree that the 
State can use the same methodology for calculating the hospital-
specific limit. We do not believe this is a customary practice.
    With respect to MCO payments, payments by the State to the MCO are 
not relevant for purposes of the hospital-specific limit. The relevant 
data elements are hospital costs and revenues associated with inpatient 
and outpatient services provided to Medicaid MCO enrollees and payments 
received by the hospital from the MCO for those services. To the extent 
that the MCO payment combines payment for inpatient and outpatient 
hospital services with payment for other services, the hospital may 
need to allocate the revenues based on the ratio of charges for 
hospital services to total charges, or another reasonable allocation 
method.
    Comment: Many commenters noted that the proposed rule does not 
prohibit the inclusion of physician costs in the case of salaried 
physicians employed by the hospital delivering services. If the 
physician costs are excluded in these circumstances, any hospital that 
directly employs physicians would be directly impacted by this rule.
    Response: This rule does not establish any new principles for the 
treatment of physician service costs, but requires consistent use of 
existing hospital accounting principles applicable under Federally 
supported programs. As noted above, States and hospitals should use a 
consistent definition of hospital services. Under Medicare, it is not 
by itself relevant that a hospital pays the salary of a physician; 
physician services are generally not considered hospital service costs 
and are recognized as professional fees in the Medicare

[[Page 77926]]

hospital cost reporting process. Specifically, the physician service 
costs are identified as professional costs and are removed from 
inpatient and outpatient hospital costs as part of the hospital cost 
allocation step-down process.
    In sum, physician costs that are billed as physician professional 
services and reimbursed as such are not included as hospital services 
in calculating the hospital-specific DSH limit.
    Comment: Several commenters asked about the treatment of physician 
clinics and other clinic services. They indicated that physician 
clinics, in both hospital and office settings, focus on primary care to 
the underserved and function at a financial loss due to inadequate 
medical reimbursement rates. The commenters recommended that the costs 
of such clinics be included as hospital services under the hospital-
specific DSH limit when services are furnished to Medicaid eligible and 
uninsured patients.
    Response: As indicated above, hospitals and States should use a 
consistent treatment of physician and other provider-based clinics. All 
costs that are associated with services that are defined and reimbursed 
under the approved Medicaid State plan as inpatient hospital services 
and outpatient hospital services to Medicaid eligible individuals and 
to individuals with no source of third party coverage for such services 
may be included in calculating the hospital-specific DSH limit.
    Comment: Numerous commenters stated that hospitals, especially 
critical access hospitals, incur costs to secure the services of 
physicians to serve the indigent patients, and these costs (fees, 
contractual agreements or salary costs) should be allowed in the 
establishment of hospital-specific DSH limits. The commenters indicated 
that this may be the only way to assure availability of physicians to 
serve uninsured individuals. They argued that physician costs should 
not be treated any differently than other costs used to treat the 
uninsured, particularly when they are incurred to meet EMTALA 
obligations. They urged that CMS consider expanding the definition of 
DSH-limit services to include all costs that a hospital incurs 
providing services to uninsured patients. Otherwise, the purposes of 
the DSH statute, to assist safety net hospitals and other hospitals to 
meet their costs of serving the uninsured, would be thwarted.
    Response: Section 1923(g)(1)(A) of the Act does not authorize 
inclusion in the hospital-specific DSH limit of any costs associated 
with treating Medicaid-eligible and uninsured patients, but 
specifically authorizes inclusion only of costs of furnishing 
``hospital services.'' We understand that there may be a variety of 
other costs involved in treating uninsured patients, but other costs 
were not included by Congress. As indicated above, hospitals and States 
should use a consistent treatment of physician and other provider-based 
clinics. All costs that are associated with services that are defined 
and reimbursed under the approved Medicaid State plan as inpatient 
hospital services and outpatient hospital services to Medicaid eligible 
individuals and to individuals with no source of third party coverage 
for such services may be included in calculating the hospital-specific 
DSH limit.
    Comment: One commenter noted that the proposed regulation does not 
address how physician costs should be treated for DSH purposes for 
public teaching hospitals that have elected to receive cost-based 
reimbursement for their physicians as provided for at Sec.  415.160.
    Response: Regardless of the reimbursement methodology (cost 
reimbursement or prospective payment system), uncompensated care costs 
that may be included in calculating the hospital-specific DSH limit 
include only the unreimbursed costs of providing inpatient and 
outpatient hospital services to Medicaid eligible individuals and the 
unreimbursed costs of providing inpatient and outpatient hospital 
services to individuals with no source of third party reimbursement. 
Therefore, all costs defined and reimbursed under the approved Medicaid 
State plan as inpatient hospital services and outpatient hospital 
services to Medicaid eligible individuals and to individuals with no 
source of third party coverage for such services that remain 
uncompensated reimbursement are eligible under the hospital DSH limit.
    Comment: Numerous commenters said that hospitals contract with 
doctors to perform administrative services such as a Medical Director. 
This is a direct payment from the hospital to the doctor for ``Part A'' 
services and not direct patient care. This portion of physician 
services should be included.
    Response: Because this rule is not devoted to the treatment of 
physician services as hospital services, we are not going to address 
every potential arrangement in this rule. As discussed above, physician 
services are generally not regarded as part of hospital services, but 
are generally regarded as separate professional services. This 
treatment of physician services has been consistently applied since 
before the 1993 enactment of the hospital-specific DSH limit. There are 
some exceptions to this general principle, and this rule does not 
change either the general principle or the exceptions. States and 
hospitals should use a consistent definition of hospital services.
    We note that, under Medicare, it is not by itself relevant that a 
hospital pays the salary of a physician; physician services are 
generally not considered hospital service costs and are recognized as 
professional fees in the Medicare hospital cost reporting process. 
There may be exceptions when a physician is not performing direct 
patient care and is instead performing general hospital administration 
functions. When the physician service costs are identified as 
professional costs, however, they are removed from inpatient and 
outpatient hospital costs as part of the hospital cost allocation step-
down process.
13. Revenues Defined
    Comment: One commenter was concerned that a State could lose FFP on 
its DSH payments to a hospital based on MCO payments that the State 
does not control. The commenter posed the hypothetical of an MCO, at 
its sole discretion, being a generous payer to a hospital, and 
potentially placing the State in jeopardy of losing FFP on DSH 
payments. The commenter indicated that this did not seem fair when the 
State does not control the MCO payment. The commenter urged that 
Medicaid MCO services should be excluded from the uncompensated care 
costs limit test.
    Response: In every State, significant segments of the Medicaid 
population are served through MCOs. Notwithstanding that delivery 
system, the costs of serving that population and the revenues received 
for doing so remain Medicaid costs and revenues to the hospital. Under 
the statutory hospital-specific DSH limit, it is necessary to calculate 
the costs of furnishing services to the Medicaid population, including 
those served by MCOs, and offset those costs with payments received by 
the hospital for those services. Payments received by the MCO are a 
necessary part of that statutory calculation. To the extent that 
hospitals earn profits on Medicaid MCO business, this profit must be 
offset against other uncompensated costs in the same manner that any 
Medicaid FFS profits must be offset against other uncompensated costs. 
Overall, the calculation results in the net uncompensated care in 
serving the Medicaid and uninsured populations. Disregarding Medicaid 
MCO revenues

[[Page 77927]]

from the hospital-specific DSH limit overstates a hospital's 
uncompensated care in serving those populations.
    Comment: Numerous commenters did not question the general purpose 
of this requirement, but questioned whether it was fair to limit DSH 
payments when the Medicaid shortfall is less than projected because of 
hospital cost controls. These commenters cited the situation in which 
basic Medicaid payments determined on a prospective basis and 
individual hospitals are able to control costs sufficiently to earn a 
profit on their Medicaid business. They argued that requiring that 
profit to be offset against uncompensated care costs would mean that a 
hospital that undertakes aggressive cost containment in the end would 
receive less in total Medicaid revenues than another hospital that 
forgoes cost containment (and therefore realizes no profit on its basic 
Medicaid payments) but incurs the same level of unreimbursed uninsured 
costs. The commenters urge CMS to modify its proposed regulations to 
provide that for purposes of applying the individual hospital DSH 
limit, a hospital's costs of serving Medicaid patients will be deemed 
to be no less than the base payment made to that hospital under a 
prospective payment system.
    Response: Current Federal law expressly demands the offset of all 
payments under Title XIX other than DSH payments when determining a 
hospital-specific DSH cost limit. Section 1923(g) states that a DSH 
payment is inconsistent with the statute, ``if the payment adjustment 
exceeds the costs incurred during the year of furnishing hospital 
services (as determined by the Secretary and net of payments under this 
title, other than under this Section, and by uninsured patients) by the 
hospital to individuals who either are eligible for medical assistance 
under the Medicaid State plan or have no health insurance (or other 
source of third party coverage) for services provided during the 
year.'' Calculating certain Medicaid costs based on prospective 
payments received by a hospital does not accurately identify cost and 
could effectively overstate the hospital-specific DSH limit.
    Comment: One commenter questioned whether it is the expectation 
that hospitals that receive DSH funds that are subsequently passed on 
to other entities show the gross DSH payment as revenue and the payment 
to the external entity as an expense.
    Response: Payments to hospitals for which Federal matching is 
claimed are made for specified purposes; either to pay for covered 
services furnished by the hospital or to account for the costs of 
serving a disproportionate share of low income patients. To the extent 
that a hospital is required to pass a Medicaid payment on to another 
entity, that payment is no longer within those statutory purposes and 
would be unallowable. In other words, hospitals must retain 100 percent 
of the total computable DSH payments claimed by States. Any redirection 
of Medicaid payments (including DSH payments) is inconsistent with the 
Medicaid statute governing expenditures. For purposes of the hospital-
specific limit, DSH payments are not recognized as revenues (because 
the limit applies to DSH payments, they are not part of the calculation 
themselves). Finally, non-Federal share obligations to which a hospital 
is obligated must be transferred prior to receipt of the DSH payment 
(or any other Medicaid payment) and cannot be included as a cost 
(expense) eligible under the hospital-specific DSH limit.
    Comment: One commenter questioned whether indigent care revenue, as 
defined, will also include any revenue received by the individual 
hospital associated with liens (or other such remedies) placed upon an 
uninsured individual's property or assets? The commenter asked if such 
revenues (collection from liens and other remedies) would reduce the 
claimed uncompensated care costs for uninsured individuals during the 
period in which the revenue is realized (funds received)?
    Response: The statutory authority under MMA instructed States to 
report and audit specific payments and specific costs. In order to 
accommodate the precise instruction from Congress, States must perform 
audits associated with defined periods of time and must identify the 
actual costs incurred and the actual payments received during that 
defined time period.
    CMS received many comments regarding the treatment of revenues 
received by hospitals by or on behalf of individuals with no source of 
third party coverage. The comments indicated that often these ``self-
pay'' revenues received in a given year could in fact be related to a 
prior period. Similarly, CMS received comments regarding the treatment 
of liens and collections which may occur after an audit is complete but 
relate to a prior period. Under either circumstance, the hospital would 
necessarily have received and booked the revenues in a subsequent 
period. Due to the inability to control these revenue streams and to 
foster administrative ease, audits should take into account these self-
pay revenues (including liens and collections) during the year in which 
they are received, irrespective of whether such revenues are applicable 
to a prior period. In other words, the revenue adjustment would be 
measured during the audit of the Medicaid State plan rate year in which 
the revenues were received.
14. Timing
    Comment: One commenter was concerned that the State is required to 
indicate the total annual DSH payments made in the audited SFY when DSH 
payments may be made by the State at a minimum of up to one year after 
the SFY being reported. The commenter indicated that obtaining the 
audited SFY DSH payments by the end of the following SFY is not 
possible for the State.
    Response: The statutory authority instructed States to report and 
audit specific payments and specific costs. Consistent with that 
provision, States must perform audits associated with defined periods 
of time and must identify the actual costs incurred and payments 
received during that defined time period. In order for the audits to 
properly measure these elements and in consideration of the many 
comments related to retroactivity and timing issues associated with 
gathering the data necessary to identify the costs and revenues, CMS 
has made several revisions to the final rule including identifying 
that: (i) The Medicaid State plan rate year 2005 is the first time 
period subject to the audit; and, (ii) the deadline on reporting the 
audit findings has been extended to at least three full years after the 
close of the Medicaid State plan rate year subject to audit. Therefore, 
hospitals would have received all Medicaid and DSH payments associated 
with that Medicaid State plan rate year.
    This three year period accommodates the one-year concern expressed 
in many comments regarding claims lags and is consistent with the 
varying cost report period and adjustments. It should be noted that, to 
the extent that a State makes a retroactive adjustment to non-DSH 
payments after the completion of the audit for that particular Medicaid 
State plan rate year, the hospital would necessarily have received and 
booked the revenues in a subsequent Medicaid State plan rate year. 
Under these circumstances, the revenue adjustment would be measured 
during the audit of the Medicaid State plan rate year in which the 
revenues were received.
    Comment: Several commenters indicated the establishment of a State 
fiscal year reporting timeline may prove problematic because some 
States currently include in their annual DSH

[[Page 77928]]

data collections information from two or more State fiscal years, and 
then distribute DSH on a Federal fiscal year basis. State fiscal year 
reporting for DSH may also be inconsistent with a DSH methodology that 
involves selection of a base year and trending forward.
    Response: The auditing and reporting requirements enacted under the 
MMA supersede prior DSH reporting requirements enacted under the 
Balanced Budget Act of 1997. This regulation does not require States to 
implement retrospective DSH methodologies or otherwise change basic 
approach to DSH payment used by the States. Nor would it require delay 
in making DSH payments consistent with the authority of the approved 
Medicaid State plan. CMS recognizes that States may need to estimate 
uncompensated care to determine DSH payments in an upcoming Medicaid 
State plan rate year. The regulation is intended to ensure that those 
estimates are based on the most current final data. Moreover, the 
regulation will ensure that CMS has the data necessary to determine 
whether the ultimate DSH payment was consistent with all statutory 
requirements. Because FFP is only available for proper DSH payments, 
some States may determine that a retrospective reconciliation is 
desirable. The transition period in the regulation ensures that States 
are not adversely impacted retrospectively by the availability of new 
data resulting from the statutory reporting and auditing requirements.
    Comment: One commenter noted that the State reconciles outpatient 
hospital payments to 72% of cost and the reconciliations may take 
several years to finalize. How should those reconciliation payments/
recoveries be reported?
    Response: In consideration of the many comments related to 
retroactive adjustments and timing issues associated with gathering the 
data necessary to identify the costs and revenues, CMS has revised the 
final rule, in part, to identify that the deadline on reporting the 
audit findings has been extended to at least three full years after the 
close of the Medicaid State plan rate year subject to audit. By that 
time, hospitals would have received all Medicaid and DSH payments 
associated with that Medicaid State plan rate year. This three year 
period accommodates the one-year concern expressed in many comments 
regarding claims lags and is consistent with the varying hospital cost 
report periods and adjustments.
    It should be noted that, to the extent that a State makes a 
retroactive adjustment to non-DSH payments, and that adjustment occurs 
after the completion of the audit for that particular Medicaid State 
plan rate year, the hospital would necessarily have received and booked 
the revenues in a subsequent Medicaid State plan rate year. Under these 
circumstances, the revenue adjustment would be measured during the 
audit of the Medicaid State plan rate year in which the revenues were 
received.
    Comment: A few commenters indicated that several reporting 
requirements under the proposed rule will be of little use without the 
methodology to show how the reported data yielded DSH payments. The 
commenters suggested States could highlight the items requested in 
Sec. Sec.  447.299(c)(6) through (c)(16) whenever they appear on the 
pages or worksheets. Putting the requested data in the context of a 
calculation should help CMS more quickly determine the appropriateness 
of payment adjustments, as required in the MMA, while simplifying the 
reporting requirements for the States.
    Response: As we gain more experience, we intend to refine and 
improve the reporting forms. In this rule, we have focused on defining 
the minimum data elements that are required for analysis of DSH 
payments. We currently believe that these data elements will provide 
sufficient information to do so, when considered along with the 
approved Medicaid State plan and independent certified audits.
    Comment: One commenter noted that the proposed rule requires that a 
State report the payment elements that can be used to determine each 
hospital's DSH limit payment. In order to avoid undue delays in 
disbursing needed DSH funds on a timely basis, the commenter suggests 
it should be acceptable for a State to identify the Medicaid payment 
amounts based on data collected for a recent prior period, with 
appropriate adjustments for expected changes between the data 
collection period and the DSH reporting period. The commenter also 
asked for clarification as to whether States will need to estimate DSH 
payments and then do a settlement, or whether DSH payments will need to 
be retrospective.
    Response: This regulation is not intended to require States to 
implement retrospective DSH methodologies nor delay the making of DSH 
payments consistent with the authority of the approved Medicaid State 
plan. CMS recognizes that States must estimate uncompensated care to 
determine DSH payments in an upcoming year. The regulation will ensure, 
however that those estimates are based on the most current final data. 
Moreover, the regulation will ensure that CMS has data necessary to 
determine whether the ultimate DSH payment was consistent with all 
statutory requirements. Because FFP is only available for proper DSH 
payments, some States may determine that a retrospective reconciliation 
is desirable. The transition period in the regulation ensures that 
States are not adversely impacted retrospectively by the availability 
of new data resulting from the statutory reporting and auditing 
requirements.
    Comment: A few commenters said some of these data elements are not 
available within the specified timeframes. They indicated that, while 
Medicaid related data is readily available directly to the State, data 
regarding Medicare payments and discharges and non-Medicaid/non-
Medicare data are not readily available to the State in efficient 
formats and timeframes required by the proposed rule. Moreover, they 
said that the lag in hospital cost reporting provides States with a 
very small, possibly unmanageable, window of time to complete and 
submit the newly required independent certified audit.
    Response: Under Section 1923(j) of the Act, States must perform 
audits associated with defined periods of time. In consideration of the 
many comments related to timing issues associated with gathering the 
data necessary to identify the costs and revenues, CMS has revised the 
final rule to include the following changes, which we believe will 
afford ample time to obtain final data and analyze that data.
    In order to provide for some uniformity in the application of the 
report and audit requirements among the States, we have identified 
Medicaid State plan rate year 2005 as the first time period subject to 
the audit. This revision recognizes that fiscal periods used by 
hospitals, States and the Federal Government may vary. The Medicaid 
State plan rate year is a time period defined and used by each State to 
make DSH payments under the approved Medicaid State plan, and should be 
the base period for analysis and audit of DSH payments. The statute 
refers to the reporting and audit requirements applying to ``fiscal 
year 2004 and thereafter'', but we are specifying Medicaid State plan 
rate year 2005 because, in some States Medicaid State plan rate year 
2004 may have begun prior to the beginning of Federal fiscal year 2004.
    In recognition of potential delays in obtaining needed information, 
we have extended the period for ongoing report and audit submission 
until the end of

[[Page 77929]]

the Federal fiscal year that is at least three years after the close of 
the Medicaid State plan rate year. We believe that hospitals would have 
received most Medicaid, DSH payments, and other payments associated 
with that Medicaid State plan rate year. This three year period 
accommodates the concern expressed in many comments regarding claims 
lags and is consistent with the varying hospital cost report periods 
and adjustments. And we have provided an additional extension of the 
time period for the reports and audits for Medicaid State plan rate 
year 2005 and 2006 which may be concurrently completed by September 30, 
2009.
    It should be noted that, to the extent that a State makes a 
retroactive adjustment to the non-DSH payments after the completion of 
the audit for that particular Medicaid State plan rate year, the 
hospital would necessarily have received and booked the revenues in a 
subsequent Medicaid State plan rate year. Under these circumstances, 
the revenue adjustment would be measured during the audit of the 
Medicaid State plan rate year in which the revenues were received.
    Comment: A few commenters would like clarification as to whether 
the independent auditor can base certification on the fact that 
Medicaid losses alone justify the DSH payment, thereby allowing the 
auditor to ignore uninsured uncompensated care costs in the 
certification. The commenters recommend for clarity sake that the 
proposed rule be amended to include a provision granting States the 
option to not report uninsured costs for some or all hospitals where 
Medicaid losses justify the DSH payment made.
    Response: Most States do not make DSH payments based solely on 
Medicaid uncompensated care costs. But, as discussed previously, if a 
State does so, then the State may report only the Medicaid portion of 
uncompensated care for each hospital, if it obtains from the hospital a 
certification that the hospital also incurred uncompensated care for 
individuals who have no health insurance or other third party coverage. 
When we review certified audit reports submitted by States, we will 
consider whether more flexibility would be warranted, and we may 
address the issue in future reporting instructions.
15. Institutions for Mental Disease
    Comment: One commenter noted that the proposed rule, under 
Verification 3, does not reference Sec.  441.40, which provides a 
definition of an Institution for Mental Disease (IMD). This is 
problematic since the Social Security Act clearly establishes that IMDs 
are entitled to participate in Medicaid DSH programs.
    Response: We agree with the suggestion that the reporting 
requirement should include identification of whether the DSH facility 
is an IMD; we have revised the regulation and reporting form to do so. 
An additional limit applies to the percentage of the total Federally 
determined DSH allotment for each State that can be used for payments 
to IMDs that otherwise qualify for DSH payments under the Medicaid 
State plan. Identification of whether a DSH facility is an IMD will 
assist CMS in assessing the appropriateness of the DSH payment.
    The IMD limit does not supersede the hospital-specific limit that 
is the primary focus of the reporting and auditing requirements under 
this regulation. For purposes of the hospital-specific limit, reporting 
must take into consideration the Medicaid coverage limitations under 
Section 1905(a) of the Act, which excludes coverage for patients in an 
IMD who are under age 65, except for coverage of inpatient psychiatric 
hospital services for individuals under age 21. For Medicaid-eligible 
individuals under age 21, or over age 65, uncompensated care costs 
those eligible individuals would be reported as uncompensated costs for 
the Medicaid population. For the costs of services provided to those 
patients between the ages of 22 and 64 who are otherwise eligible for 
Medicaid, the treatment for the hospital-specific limit may vary based 
on State practices. Many States remove these individuals from 
eligibility rolls for administrative convenience (and must reinstate 
them if they are discharged from the IMD); if so, the costs should be 
reported as uncompensated care for the uninsured. States that do not 
remove the individuals from the Medicaid eligibility rolls should 
report the costs as uncompensated care for the Medicaid population. DSH 
payments made to IMDs are subject to the same audit and report 
requirements as all other DSH hospitals to which the State has made 
payments.
16. Ownership and Type of Hospital
    Comment: A few commenters noted that reporting on the type of 
hospital, type of ownership and the classification of operator is not 
required under Section 1001 of the MMA. They questioned why CMS 
proposes such information to be necessary to comply with the reporting 
requirements included as uncompensated care.
    Response: We agree. The regulation and reporting form have been 
modified to remove the requirement to report the ownership status of a 
hospital and type of hospital.

C. Auditing

1. General
    Comment: Many commenters questioned the ability of the States to 
actually collect this information and have an independent audit 
completed within one year after the end of SFY 2005. One commenter said 
that demanding 2005 cost report data for SFY 2005 also means that most, 
if not all, of the cost report data forwarded to CMS will be as 
submitted by the hospitals because the States will not be able to 
review and audit the cost reports before the reporting deadline.
    Response: The information required under the audit is readily 
available to hospitals and the State based on existing financial and 
cost reporting tools. As discussed above, we have revised the timing 
requirements to extend the length of time to submit required reports 
and audits to permit submission as late as the last day of the Federal 
fiscal year ending 3 years after the end of the Medicaid State plan 
rate year, with a special timing provision for the audits for 2005 and 
2006, which will be due by December 31, 2009. We believe this 
accommodates most of these concerns. We also note that we expect that 
reports and audits will be based on the best available information. If 
audited Medicare cost reports are not available, the DSH report and 
audit may need to be based on Medicare cost reports as filed.
    Comment: One commenter noted that most of the reporting 
requirements will require the hospital to report information directly 
to the State, and requested explanation of the State's due-diligence 
responsibility for confirmation/assurance of the completeness and 
accuracy of the data provided by the hospital?
    Response: We expect that States will obtain needed information from 
the hospital's Medicare 2552-96 cost report, audited hospital financial 
statements, and other hospital accounting records, in combination with 
information provided by the States' Medicaid Management Information 
Systems.
    Because these source documents are prepared for other purposes, no 
single document will contain the precise information needed for DSH 
reporting and auditing purposes. States will need to work with 
hospitals to develop a methodology that can be applied to these records 
to properly calculate uncompensated care costs incurred in furnishing 
hospital services for

[[Page 77930]]

individuals without health insurance or other third party coverage. 
This methodology will need to exclude costs from the calculation costs 
for services furnished to individuals with third party coverage, 
prisoners, duplicate accounts, individuals included in calculating the 
Medicaid shortfall, charges associated with elective procedures, and 
any professional charges. The methodology must operate in such a way as 
to provide the State's independent auditor confidence that the data is 
an accurate representation of the hospital's eligible uncompensated 
care charge and revenue data.
    Comment: A few commenters questioned access to hospital records and 
other jurisdictional issues. Such access would need to be discussed, 
decided and clarified for the States. State auditors may not have 
jurisdiction to audit private hospitals.
    Response: States already have authority to obtain the primary data 
sources needed to complete the DSH audit and the accompanying report. 
Information can be obtained from existing cost reports and financial 
information. These documents would include the Medicare 2552-96 cost 
report, audited hospital financial statements, and hospital accounting 
records. States and auditors also have access to information from the 
States' Medicaid Management Information Systems. We expect that States 
and auditors will need to work with hospitals to develop a methodology 
that can be applied to these records to properly calculate 
uncompensated care costs incurred in furnishing hospital services for 
individuals without health insurance or other third party coverage.
    Comment: A few commenters noted that although hospitals submit the 
newly required S-10 Worksheet (S-10) for their Medicare cost reports, 
the information required by that Worksheet does not directly parallel 
the data required in the new reporting requirements. In addition, 
although both seek determinations of hospitals' total uncompensated 
care costs, they apply different methodologies for calculating such 
costs. Thus, DSH recipients will be confronted with making one set of 
calculations for their annual reports and another for their State's 
annual DSH report. If States perform calculations with the requested 
data to determine DSH payments, why not discard (c)(6) through (c)(16), 
and instead request a copy of DSH payment calculations for all 
hospitals in a particular fiscal year? Each hospital's payment 
calculation could appear on separate pages or worksheets.
    Response: Worksheet S-10 is not part of the Medicare 2552-96 step-
down process used to allocate inpatient and outpatient hospital costs. 
The cost allocation process utilized in the 2552-96 cost report is 
considered a key component of determining Medicaid and uninsured 
hospital costs for purposes of calculating the hospital-specific DSH 
limit. The Medicare 2552-96 cost report, in conjunction with hospital 
financial information, including hospital accounting records and 
Medicaid Management Information Systems data, may be used to determine 
uncompensated care costs for the calculation of the hospital-specific 
DSH limits. We expect these calculations to rely primarily on existing 
information, as outlined in the General DSH Audit and Reporting 
Protocol that will be available on the CMS Web site. We recognize, 
however, there may be situations in which the hospital may have to work 
with the State to develop new data or methodologies to allocate or 
adjust existing data.
    Comment: A few commenters said that currently, there is no one 
source of data to meet the increased reporting requirements. The 
sources of data are from various data warehouses and under various 
State and hospital management systems. The likelihood that data will 
not be from consistent data sets is possible.
    Response: We expect these calculations to rely primarily on 
existing information, as outlined in the General DSH Audit and 
Reporting Protocol available on the CMS Web site. We recognize, 
however, there may be situations in which the hospital may have to work 
with the State to develop new data or methodologies to allocate or 
adjust existing data. And it may be necessary for auditors to develop 
methods to test, verify the accuracy of, and reconcile data from 
different sources. CMS has developed a General DSH Audit and Reporting 
Protocol available on the CMS Web site that may assist States and 
auditors to utilize information from each source identified above and 
develop the methods under which costs and revenues will be determined.
    Comment: One commenter noted that one State Medicaid agency 
annually surveys all hospitals near the beginning of its fiscal year 
and hospitals report their data for a twelve month period, but this 
period does not match the State fiscal year. Further, the commenter 
noted difficulties in analyzing the data because Federal DSH payments 
are provided on a Federal fiscal year, and at changing match 
percentages. Another commenter indicated that another State's DSH 
payment program operates on a Federal fiscal year basis, which provides 
consistency with Medicare hospital payment systems, the timing of 
changes in their Federal financial participation rate and with the 
timing of their DSH allotment. These commenters noted that the 
requirement in the proposed regulation for States to report and audit 
their DSH and enhanced payment programs on a State fiscal year basis 
will cause significant administrative burden and will not accurately 
reflect the basis upon which the State is making payments.
    Response: We have modified the regulation to indicate the Medicaid 
State plan rate year as the period subject to the annual audit. The 
basis for this modification is recognition of varying fiscal periods 
between hospitals and States. The Medicaid State plan rate year is the 
period which each State has elected to use for purposes of DSH payments 
and other payments made in reference to annual limits.
    In instances where the hospital financial and cost reporting 
periods differ from the Medicaid State plan rate year, States and 
auditors may need to review multiple audited hospital financial reports 
and cost reports to fully cover the Medicaid State plan rate year under 
audit. At most, two financial and/or cost reports should provide the 
appropriate data. The data may need to be allocated based on the months 
covered by the financial or cost reporting period that are included in 
the Medicaid State plan period under audit.
    CMS has developed a General DSH Audit and Reporting Protocol which 
will be available on the CMS Web site that may assist States in using 
the information from each source identified above and developing the 
methods under which costs and revenues will be determined.
    Comment: Several commenters said this would be a reporting burden 
on Critical Access Hospitals and will distract from needed resources to 
provide services to the uninsured. One commenter noted that a reporting 
burden exists because hospitals may not keep self-pay collection logs.
    Response: The DSH audit will primarily rely on existing financial 
and cost reporting tools currently used by all hospitals participating 
in the Medicare program and therefore, should not generally divert 
resources necessary to provide services to the uninsured. These 
documents would include the Medicare 2552-96 cost report, audited 
hospital financial information, and hospital accounting records in 
combination with information provided by the States' Medicaid 
Management Information

[[Page 77931]]

Systems and the approved Medicaid State plan governing the Medicaid and 
DSH payments made during the audit period.
    To the extent that hospitals do not separately identify 
uncompensated care related to services provided to individuals with no 
source of third party coverage from uncompensated care costs not 
eligible under the hospital-specific DSH limits, hospitals will need to 
modify their accounting systems to do so. Setting up an accounting 
category to aggregate charges and revenues associated with uninsured 
individuals receiving inpatient and/or outpatient services from a 
hospital should be an accounting system adjustment not far removed from 
the process of setting up an account for any other payer category.
    For purposes of the initial audits, States and auditors may need to 
develop methodologies to analyze current audited financial information 
including hospital accounting records to properly segregate 
uncompensated costs.
    Comment: A few commenters stated the regulation should provide more 
specificity about the level of precision expected in calculating the 
total cost of care. They noted that, due to the timing lag for 
reporting and auditing, some States use the hospital's latest available 
Medicare cost report to calculate that hospital's overall cost-to-
charge ratio. In that instance, the commenters indicated that the State 
converts the Medicaid and uninsured charges to cost using the 
hospital's overall cost-to-charge ratio. The commenters also pointed 
out that relatively few hospitals have a cost reporting period that is 
the same as the State fiscal year and, therefore, there would be two 
cost reporting periods during a State fiscal year. The commenters asked 
if applying a hospital's latest available cost-to-charge ratio to that 
hospital's Federal fiscal year Medicaid and uninsured charges be an 
acceptable and reasonable method to calculate that total cost of care.
    Response: We expect that State reports and audits will be based on 
the best available information. If audited Medicare cost reports are 
not available for each hospital, the DSH report and audit may need to 
be based on Medicare cost reports as filed. We note that hospitals must 
follow the cost reporting and apportionment process as prescribed by 
the Medicare 2552-96 cost report process. To the extent that these cost 
reports do not contain the precise information needed for the DSH 
calculation (for example, by not distinguishing the categories of 
uncompensated care costs that are needed), it may be necessary for 
hospitals to modify their accounting techniques. In those 
circumstances, for the initial audits, it will be necessary to review 
other source materials such as audited hospital financial records and 
other records, and to develop methodologies to determine the necessary 
information from such records. We expect States, independent auditors 
and hospitals to work cooperatively to develop such methodologies.
    CMS has developed a General DSH Audit and Reporting Protocol which 
will be available on the CMS Web site that should assist States and 
auditors in utilizing information from each source identified above and 
developing methods to determine uncompensated costs of furnishing 
hospital services to the Medicaid and uninsured populations.
    Comment: One commenter questioned how to identify, ``* * * costs 
incurred for furnishing those services provided to individuals with no 
source of third party coverage for the inpatient hospital and 
outpatient hospital services they receive.''
    Response: CMS has developed a General Audit and Reporting Protocol 
to provide guidance to States, DSH hospitals and auditors in the 
completion of the DSH audit. This Protocol includes general 
instructions regarding the types of information to be provided by 
hospitals to the State and its auditor as well as the calculations the 
auditor will make based on the data provided. Specifically, the 
protocol details the process of using the Medicare 2552-96 cost report, 
hospital cost to charge ratios and hospital charges for inpatient and 
outpatient hospital services for which the recipient had no source of 
third party coverage. The protocol also details the process for 
determining eligible Medicaid uncompensated care for the Medicaid State 
plan rate year under audit. The protocol will be available on the CMS 
Web site.
    Comment: One commenter noted that identifying uninsured patients is 
complicated by the restrictions on which uninsured patient accounts 
qualify (for example, if one cannot claim accounts denied due to 
medical necessity issues). This requires a painstaking and time-
intensive process of reviewing each account history to identify the 
reason that an insurance company did not pay.
    Response: To the extent that hospitals do not separately identify 
uncompensated care related to services provided to individuals with no 
source of third party coverage from uncompensated care costs not 
eligible under the hospital-specific DSH limits, hospitals will need to 
modify their accounting systems to do so. Setting up an accounting 
category to aggregate charges and revenues associated with uninsured 
individuals receiving inpatient and/or outpatient services from a 
hospital should be an accounting system adjustment not far removed from 
the process of setting up an account for any other payer category.
    For purposes of the initial audits, States and auditors may need to 
develop methodologies to analyze current audited financial information, 
and hospital accounting records to properly segregate and identify DSH 
eligible uncompensated care costs.
    Comment: One commenter noted that a State's Department of Social 
Services signed a Partnership Plan for the purpose of ``establishing a 
stable funding mechanism for the State's Medicaid program that embodies 
accountability while assuring the availability of financial resources 
to provide needed health care to the program's beneficiaries.'' The 
commenter noted that additional auditing and reporting requirements, as 
addressed in the proposed regulation, seem to be unduly burdensome and 
potentially costly to the State and the hospitals.
    Response: Section 1923(j) of the Act contains audit and reporting 
requirements applicable to all States that make DSH payments. As part 
of this process, CMS must determine if all hospitals receiving DSH 
payments under the Medicaid State plan actually qualify to receive such 
payments and that actual DSH payments do not exceed the hospital-
specific DSH limit for the same period.
    To the extent that a State makes DSH payments within a Section 1115 
waiver demonstration and/or a Partnership Plan, the State is not 
exempted from the rules surrounding DSH payments, particularly those at 
1923(g) of the Act, and the audit and reporting requirements would 
still apply to that State.
    It should be noted that the Partnership Plan primarily addresses 
funding of the Medicaid program, and is not relevant to the issue of 
whether particular payments are authorized under the approved Medicaid 
State plan and may be the basis for FFP under the Federal statute. 
Funding issues are not the subject of this regulation.
    Comment: A few commenters suggested the creation of a $500,000 
threshold of DSH payments before an in-depth audit pursuant to 42 CFR 
455, new Subpart C is triggered. Many small hospitals have historically 
low DSH allotments, and the administrative costs

[[Page 77932]]

of the proposed DSH reporting and auditing requirements are 
disproportionately onerous. If this exemption is not possible, the 
commenters request that any State with a DSH allotment under $500,000 
be allowed to use a hospital's independent auditor attestation to meet 
the audit requirements for hospital data used in DSH calculations. A 
few commenters suggested that CMS consider evaluating whether the cost 
associated with detailed audits are justified and whether an audit that 
reviews a sample of hospitals annually might be just as effective and 
considerably less costly. One commenter recommended that the 
requirement be to verify that the State's calculation formula provides 
for inclusion of only uncompensated care costs of furnishing inpatient 
and outpatient hospital services to Medicaid eligible individuals and 
individuals with no source of third party coverage.
    Response: There is no statutory authorization for an exception to 
audit and reporting requirements with respect to hospitals that receive 
low DSH payments. The audit and reporting requirements under Section 
1923(j) of the Act apply to all States that make DSH payments, with 
respect to each hospital receiving a DSH payment. The statute further 
requires that CMS obtain information sufficient to verify that such 
payments are appropriate.
    Relying on a sample of cost reports and financial information will 
not ensure that each DSH payment is appropriate and does not exceed the 
hospital-specific DSH limit.
    The data elements necessary for the State to complete the DSH audit 
and report should, in part, be information the State already gathers to 
administer the DSH program. The responsibility of the auditor is to 
measure DSH payments received by a hospital in a particular year 
against the eligible uncompensated care costs of that hospital in that 
same year as determined using the data provided in the cost, 
utilization and financial reporting documents described above.
    Finally, auditing a State's overall DSH payment methodology will 
not ensure that DSH payments to each hospital do not exceed the 
statutorily required hospital-specific DSH limit.
    Comment: Commenting State Medicaid offices stated that the Medicaid 
program already represents a huge audit task for their offices, and 
that adding the additional responsibility of auditing hospital data for 
each hospital receiving a DSH payment would be an extremely large 
amount of additional work that would be nearly impossible to fit within 
required time frames. One commenter said that unless this requirement 
can be met through the acceptance of evidentiary documentation from the 
qualifying hospitals, further verification can only be made by the 
auditors' actual observation of the hospitals' records. The commenter 
complained that sending auditors to physically visit every qualifying 
hospital is onerous and expensive and the commenter questioned whether 
it is CMS' intent to require this extensive a drill-down.
    Response: Section 1923(j) of the Act instructs States to audit and 
report specific payments and specific costs. The responsibility of the 
auditor is to measure DSH payments received by a hospital in a 
particular year against the uncompensated care costs for the Medicaid 
and uninsured populations incurred by that hospital in that same year. 
The auditor must follow accepted audit standards and develop sufficient 
confidence in the data to certify the results.
    CMS has developed a General DSH Audit and Reporting Protocol to 
provide guidance to States, DSH hospitals and auditors in the 
completion of the DSH audit. This protocol provides general 
instructions regarding the types of information to be provided to the 
State and its auditor as well as the calculations the auditor will make 
based on the data provided. The Protocol will be available on the CMS 
Web site.
    Comment: Several commenters noted that a reconciliation that must 
be completed no later than one year after the completion of each 
State's fiscal year will place a substantial burden on hospitals. They 
asserted that this would mean that hospitals will have to provide the 
State with uncompensated care data for FY 2005 before it is required 
for the FY 2007 DSH computation. They further indicated that this is 
not practical, because uninsured patients are difficult to identify 
until all collection efforts with other payers have been pursued, which 
can take several years.
    Response: As discussed above, we have revised the timing 
requirements to extend the length of time to submit required reports 
and audits to permit submission as late as the last day of the Federal 
fiscal year ending 3 years after the end of the Medicaid State plan 
rate year, with a special timing provision for the audits for 2005 and 
2006, which will be due by December 31, 2009. We believe this 
accommodates most of these concerns. We also note that we expect that 
reports and audits will be based on the best available information. If 
audited Medicare cost reports are not available, the DSH report and 
audit may need to be based on Medicare cost reports as filed.
    Comment: A few commenters said that CMS should not impose 
unnecessary administrative burdens that will raise costs for * * * 
hospitals and States (that ultimately will be shared by the Federal 
Government) that result neither in improved quality or access nor in 
any measurable gain in accuracy or efficiency, particularly at this 
time when Congress and the Administration are intently focused on 
reining in Medicaid expenditures. They argued that diversion of scarce 
hospital resources from other productive activities to achieve, at 
best, only marginal gains in accuracy of the uncompensated care cost 
calculation should be reconsidered. The increased costs outweighing the 
benefit of the reconciliation mandate.
    Response: Section 1923(g)(1)(A) of the Act specifies that DSH 
payments cannot exceed a hospital-specific limit. Section 1923(j) of 
the Act, as added by the MMA, instructed States to audit and report DSH 
payments made by States and compare those payments to the uncompensated 
care costs as set forth in that hospital-specific DSH limit. This 
regulation implements those statutory audit and report requirements and 
is not a discretionary agency action.
    We expect that States and auditors will rely on existing financial 
and cost reporting processes currently used by all hospitals 
participating in the Medicare program and therefore should not create 
an undue burden on states and hospitals in reporting compliance with 
Federal Medicaid law.
    CMS has developed a General Audit and Reporting Protocol to provide 
guidance to States, DSH hospitals and auditors in the completion of the 
DSH audit. This protocol provides general instructions regarding the 
types of information to be provided to the State and its auditor as 
well as the calculations the auditor will make based on the data 
provided. The Protocol will be available on the CMS Web site.
    Comment: One commenter noted that neither the MMA nor the proposed 
rule clearly state if the independent auditor is providing an opinion 
on whether the State's calculation formula includes ``Only 
uncompensated care costs of furnishing inpatient and outpatient 
hospital services to Medicaid eligible individuals and individuals with 
no source of third party coverage * * *'', or whether the intent is for 
the independent auditor to perform an indepth annual audit of the 
hospitals records and cost reports in order to verify the hospital 
reporting processes as well as audit the State's methodology.

[[Page 77933]]

One commenter questions whether the requirement is that each State hire 
an auditor to look at each hospital's uninsured calculations.
    Response: Section 1923(j) of the Act, as added by the MMA requires 
States to audit and report on hospital-specific DSH payments and this 
rule makes clear that this obligation includes specific cost data. The 
responsibility of the auditor is to measure DSH payments received by a 
hospital in a particular year against the eligible uncompensated care 
costs of that hospital in that same year.
    States and auditors will need to obtain data from hospitals and may 
need to work with hospitals to develop new data or methodologies to 
allocate or adjust existing data. And it may be necessary for auditors 
to develop methods to test, verify the accuracy of, and reconcile data 
from different sources. This audit function is not the same as the 
function of the hospital's own auditors, however, and would not involve 
a review of the hospital's financial controls and internal reporting 
procedures. But the auditors must review the overall methodology for 
accumulating data to ensure that the resulting data reflects the 
required elements. In other words, the independent auditors must review 
the methodology for arriving at hospital-specific data, and must have 
confidence that the data accurately represents the hospital's eligible 
uncompensated care costs consistent with the statutory criteria.
    Comment: One commenter said that in their State hospital 
representatives are required to sign a survey of data for DSH purposes, 
in order to certify that the data is accurate and in accordance with 
hospital records. There is a requirement that hospitals maintain the 
supporting documentation for potential audits. The commenter asked if 
this process was sufficient or whether all the supporting documentation 
needed to be housed at the Medicaid agency.
    Response: Section 1923(j) of the Act requires audit and report of 
hospital-specific DSH payments and hospital-specific uncompensated care 
costs. While survey data submitted by the hospital may be an important 
source of information, the auditors may need to examine the methodology 
followed to arrive at that survey data, and may need to develop methods 
to test, verify the accuracy of, and reconcile data from different 
sources. One ultimate responsibility of the auditor is to compare DSH 
payments received by a hospital in a particular year with the actual 
eligible uncompensated care costs incurred by the hospital in that same 
year. Unreviewed survey data is not sufficient to satisfy the statutory 
instruction of the MMA.
    CMS has developed a General DSH Audit and Reporting Protocol to 
provide guidance to States, DSH hospitals and auditors in the 
completion of the DSH audit. This protocol provides general 
instructions regarding the types of information to be provided to the 
State and its auditor as well as the calculations the auditor will make 
based on the data provided. The Protocol will be available on the CMS 
Web site.
    Comment: Many commenters stated that the auditing requirements are 
costly and burdensome to both the hospitals and the State, creating 
another source of disincentive to hospital participation. The 
commenters request CMS be mindful of the additional financial costs 
that hospitals would incur and compensate hospitals accordingly.
    Response: CMS believes that audits will rely primarily on documents 
already available to hospitals, and thus the audit data burden will 
neither be significant nor costly. CMS also believes that it is 
unlikely that a hospital will decline to receive Medicaid DSH payments 
merely because they must provide information to the State to verify 
that DSH payments do not exceed the hospital's DSH eligible 
uncompensated care costs.
    Comment: One commenter asked whether the ``independent audit'' is a 
financial audit, or an audit of agreed-upon procedures. The commenter 
indicated that, if it is an audit of agreed-upon procedures, it would 
be helpful if audit program and procedures clarification were provided 
by CMS.
    Response: The purpose of the audit is to ensure that States make 
DSH payments under their Medicaid program that are in compliance with 
Section 1923 of the Act. The nature of the audit encompasses both 
program and financial elements making it impossible to label as a 
traditional financial or programmatic/governmental audit.
    The audit review of the State's Medicaid program is limited to 
ensuring that DSH payments are consistent with the approved Medicaid 
State plan and Federal statutory limits. The DSH audit will rely in 
part on financial, accounting and cost report data provided by 
hospitals. This data should be subject to generally accepted accounting 
principles, and auditors may need to verify the methodology used for 
calculating such data. These financial elements will demonstrate that 
Federal payments were claimed in compliance with Federal statutes.
    Comment: One commenter's opinion about the most practical manner in 
which the State could meet this regulation is to require hospitals to 
expand their current financial audits to include the appropriate 
hospital-related compliance issues and have their uncompensated care 
data audited as part of their annual financial statement audit. 
Auditors of the Medicaid program (as part of the State's Single Audit) 
could then rely on these audited certifications and evaluate each 
State's DSH payment calculations and other information being reported 
by the State to the Secretary.
    Response: The statute places audit and reporting requirements upon 
States, and these regulations reflect those requirements. These 
regulations do not impede States from developing procedures to meet 
these requirements that place particular burdens on hospitals receiving 
DSH payments. For example, States may establish procedures for 
hospitals to provide detailed audited data that can be relied on by the 
independent certified DSH auditors. We do not agree that these 
procedures can completely substitute for an independent certified audit 
obtained by the State itself. Nor do we agree that the State's single 
audit can substitute for the DSH audit responsibility under Section 
1923(j) of the Act. The purpose of the State's single audit is 
different from the DSH audit responsibility, and we read the statute to 
require a distinct, focused review of DSH payments.
    Comment: Several commenters recommend that CMS accept the current 
audit processes of their State. One commenter said that hospitals in 
the State that are currently required to complete annual certified 
independent audits of their uncompensated care data are only required 
to perform audits using generally accepted accounting principles and 
strongly recommended that the definition be changed so that audits may 
be performed under those principles already in place for a hospital's 
audited financial data. The hospitals of some States already 
independently certify uncompensated care data submitted to the State 
and submit these audited financial statements along with their annual 
cost reports. The information in the cost reports comes from the 
hospitals' accounting systems that have been independently audited. 
Another commenter recommended that CMS exempt States with satisfactory 
independent certification programs already in place from this 
provision.
    Response: The statute places audit and reporting requirements upon 
States, and these regulations reflect those requirements. These 
regulations do not

[[Page 77934]]

impede States from developing procedures to meet these requirements 
that place particular burdens on hospitals receiving DSH payments. For 
example, States may establish procedures for hospitals to provide 
detailed audited data that can be relied on by the independent 
certified DSH auditors. We do not agree that these procedures can 
completely substitute for an independent certified audit obtained by 
the State itself. Nor do we agree that the State's single audit can 
substitute for the DSH audit responsibility under Section 1923(j) of 
the Act. The purpose of the State's single audit is different from the 
DSH audit responsibility, and we read the statute to require a 
distinct, focused review of DSH payments.
    Comment: Numerous commenters noted that the proposed requirement 
that the audit must be conducted pursuant to the government auditing 
standards is unduly burdensome. Most auditors in the private sector use 
generally accepted accounting principles (``GAAP'') to audit hospitals' 
financial data. Thus, the independent auditors involved in performing 
hospital audits and who use the GAAP standards to do these audits may 
not even be familiar with the generally accepted government auditing 
standards. In any case, it is inefficient to require these auditors to 
perform another audit of the same data using different auditing 
standards. At a minimum, States or hospitals should be allowed to use 
either the GAAP standards or the government auditing standards in 
meeting the audit requirements.
    Response: Generally Accepted Government Auditing Standards (GAGAS) 
are the principles governing audits conducted of government 
organizations, programs activities, functions or funds. In general, 
government audits are either performance audits or financial audits. In 
either type, the focus is on the government entity, its management of a 
program and/or the financial management and reporting systems 
associated with that program.
    The fact that there are some differences between GAGAS and GAAP, 
however, is a further reason why hospital audit efforts and the DSH 
audit have separate focuses and require separate analyses.
    The DSH audit and report is a statutorily required component in the 
administration of the Medicaid program. The purpose of the audit is to 
ensure that States make DSH payments under their Medicaid program that 
are in compliance with Section 1923 of the Social Security Act. The 
audit does not encompass the review of the State's Medicaid program, it 
simply ensures that one portion of the program is conducted in line 
with Federal statutory limits. In addition, the DSH audit will rely on 
financial and cost report data provided by hospitals that are subject 
to generally accepted accounting principles as part of their primary 
reporting function.
    Comment: One commenter said some auditors may find that base year 
figures cannot be verified to the extent necessary to provide a valid 
base because data or audit trails not previously necessary, are now 
required.
    Response: States and auditors will need to obtain data from 
hospitals and may need to work with hospitals to develop new data or 
methodologies to allocate or adjust existing data. And it may be 
necessary for auditors to develop methods to test, verify the accuracy 
of, and reconcile data from different sources.
    Comment: One commenter noted that the proposed rule appears to have 
greatly expanded the required scope (of Section 1923(j)(2)(E)) by 
making the State responsible for retaining documentation of patient-
specific data. Assuming that CMS does not intend to place such a 
reporting burden on the States, the commenter requested that CMS 
clarify that the documentation requirement for hospital-reported data 
is limited to collecting, documenting and retaining State data and does 
not include documentation for data that a hospital might otherwise have 
available.
    Response: States and auditors will need to work with hospitals to 
determine the extent to which original patient-specific source data is 
required and needs to be retained by the State.
2. Timing of Payments Under Review
    Comment: A few commenters questioned whether DSH payments made by a 
State after SFY 2005 for dates of services prior to SFY 2005 are 
subject to the new auditing and reporting requirements. They noted 
that, currently, a few States make DSH payments after receipt of 
settled cost report from the Medicare fiscal intermediary and applies 
the DSH allotment based on dates of service. For example, one State 
made its DSH payment in SFY 2003 for dates of service in 2000 (using 
the 2000 Federal DSH allotment and settled Medicare cost reports).
    Response: Unless otherwise specified in a State plan, the year in 
which payment is contemplated and accrues (even when subject to 
adjustment) is the DSH rate year to which it applies. Many States have 
provisions that provide for DSH payments based on prior year data, but 
that does not mean that those payments are prior year payments. (In the 
cited example, if that was the case, then the effect of any change in 
the DSH payment methodology would take three years to result in payment 
changes.) Each State should be aware of the Medicaid State plan rate 
year for which a DSH payment is made.
    Comment: A few commenters said while Medicaid related data is 
readily available directly to the State, data regarding Medicare 
payments and discharges and non-Medicaid/non-Medicare data is not 
readily available to the State in efficient formats and timeframes 
required by the proposed rule.
    Response: The commenter specifically questions the availability of 
non-Medicaid hospital data necessary to complete the audit. The only 
non-Medicaid related data relevant for the DSH audit would be the 
inpatient and outpatient hospital charges to individuals with no source 
of third party coverage. This information is available in hospital 
accounting records. Since the deadline for reporting the audit findings 
has been extended to at least three full years after the close of the 
Medicaid State plan rate year subject to audit, hospitals would have 
necessarily included this charge data in their as-filed Medicare cost 
reports.
    Comment: One commenter noted it would avoid misunderstanding if CMS 
clarified whether the required data element refers to gross revenue 
(full charges for services) or net revenue (expected collections after 
revenue adjustments.)
    Response: Uncompensated care costs under the hospital-specific DSH 
limit are calculated by reducing costs incurred in furnishing hospital 
services to the Medicaid and uninsured populations, reduced by revenues 
received under Medicaid (not including DSH payments) and further 
reduced by payments received from or on behalf of the uninsured 
population (not including payments made by a State or local government 
for services to indigent patients).
    Comment: Many commenters recognized that the proposed regulations 
are effective for SFY 2005 and stated it is inappropriate to require an 
audit for SFY 2005, when the rule outlining the required data to be 
audited had only been proposed two months after the close of SFY 2005 
(August 26, 2005). The commenters urged a prospective application of 
these requirements effective for the first State fiscal year that 
begins after the date the

[[Page 77935]]

final rule is issued, to allow sufficient time for respondents to 
identify data being required and processes to accumulate such data. A 
few commenters said the proposed regulation is impossible for both 
States and hospitals from an operational standpoint because this 
methodology uses actual costs and payments, and because of the 
deadlines for the audits and reports, neither Medicaid payments nor 
audited cost information are available. Numerous commenters stated that 
should CMS require an independent audit, it would be virtually 
impossible for States to meet the one-year filing deadline.
    Response: The statutory provision at Section 1923(j) of the Act 
requires audits and reports for fiscal year 2004, but we are 
implementing this provision prospectively with Medicaid State plan rate 
year 2005, because that is the first Medicaid State plan rate year that 
necessarily begins in or after Federal fiscal year 2004. With that 
clarification, and because audits are prospective activities, we do not 
believe this rule has any retroactive effect. Moreover, as discussed 
above, CMS has modified the regulation to address the timing concerns 
expressed by these commenters. The regulation has been modified to:
    1. Identify the Medicaid State plan rate year 2005 as the first 
time period subject to the audit requirement.
    2. Extend the time period for submission of completed audit reports 
to the last day of the Federal fiscal year (FFY) ending three years 
from the Medicaid State plan rate year under audit. This means that the 
2007 Medicaid State plan rate year must be audited by the last day of 
FFY 2010.
    3. Provide for a special transition time period for concurrent 
completion of Medicaid State plan rate year 2005 and 2006 audits by 
September 30, 2009.
    4. Provide for submission of each audit report within 90 days of 
the completion of the audit.
    5. Provide for a transition period for reliance on audit findings, 
so that audit findings will not be given weight until Medicaid State 
plan rate year 2011 and thereafter in calculating uncompensated care 
cost estimates and associated DSH payments.
    Comment: Many commenters said that this requirement could not be 
met if the regulations required a retrospective audit, because final 
settlement of hospitals' cost reports is typically contingent upon 
completion by a Medicare intermediary of audits that can take several 
years. One commenter noted that the requirement that the certified 
audit be completed one year after the close of the fiscal year is 
unattainable because the majority of the data required can only be 
derived from the Medicaid cost report, which is submitted no sooner 
than five months after the end of the fiscal year. Given the detail 
involved in the audit, the commenters indicated that there will not be 
enough time to receive cost reports, review and settle the reports, and 
provide data to the auditor, who would need to certify this tentatively 
settled cost report data for each of the States' DSH providers. One 
commenter stated that the regulation should be clarified to permit the 
required report to be based on a hospital's as-filed cost report, and 
time should be allowed for States to collect the additional data needed 
to meet the reporting requirements. One commenter said the hospitals in 
the State accumulate and report costs based on the hospital's fiscal 
year utilizing the audited Medicare cost report (HCFA-2552-96) which is 
generally not available before 21 months after the hospital's year end. 
Moreover, the commenter indicated that such reports do not use the same 
fiscal year as the SFY, and thus the cost information is not available 
on a SFY basis. The commenters also indicated that timing issues are 
also complicated by the fact that Medicaid claims may be submitted by 
hospitals to the State up to one year after the date of service.
    Response: We discussed above the revisions made to address comments 
on timing issues and extend the time frames for reporting and auditing 
requirements. We expect that reports and audits will be based on the 
best available information. If audited Medicare cost reports are not 
available, the DSH report and audit may need to be based on Medicare 
cost reports as filed. We recognize that, in many instances, hospital 
financial and cost report periods will differ from the Medicaid State 
plan rate year. In these instances, States and auditors may need to use 
multiple audited financial reports and hospital cost reports (CMS 2552-
96, finalized when available or as-filed) to fully document the 
appropriateness of DSH payments for the Medicaid State plan rate year 
under audit. The data would then be allocated based on the months 
covered by the financial or cost reporting period that are within the 
Medicaid State plan period under audit. For instance, if a Medicaid 
State plan rate year runs from July 1, 2004 through June 30, 2005, but 
a DSH hospital receiving payments under the Medicaid State plan 
operates its financial and cost reporting based on a calendar year, the 
State and auditors may need to use information from financial and cost 
reports for calendar years 2004 and 2005. Costs and revenues of serving 
the Medicaid and uninsured populations would be allocated from each 
financial and cost reporting period, in this case half from each 
report, to determine the data for Medicaid State plan rate year 2005.
    Comment: One commenter said that due to delays in receiving settled 
cost reports from Medicare Intermediaries, a State may distribute more 
than one year of DSH payments to hospitals in a given State Fiscal 
Year. The commenter asks for confirmation that the State should submit 
a separate Annual DSH Report for each year of DSH payments, regardless 
of the date of DSH payment.
    Response: The DSH Audit must be performed and reported to CMS on an 
annual basis, which should reflect the basis for all DSH payments made 
for the Medicaid State plan rate year, even if the DSH payment for that 
period is made in a subsequent year.
    Comment: A few commenters questioned whether a detailed audit 
manual should be prepared by CMS in order to assure compliance with the 
rule when promulgated and to avoid disputes after payments have been 
made.
    Response: CMS has developed a General DSH Audit and Reporting 
Protocol to provide guidance to States, DSH hospitals and auditors in 
the completion of the DSH audit. This Protocol includes general 
instructions regarding the types of information to be provided by 
hospitals to the State and its auditor as well as the calculations the 
auditor will make based on the data provided. The Protocol will be 
available on the CMS Web site.
3. Audit Objective and Data Sources
    Comment: Several commenters expressed their opposition to the audit 
aspect of the proposed regulation. While recognizing the need for 
audits, the commenters believe that the audits should fulfill only the 
following three objectives: determine whether individual States are 
following their own formulas for the calculation of DSH payments and 
hospital-specific DSH payment limits; verify the accuracy of States' 
calculations; and determine whether individual States are making good-
faith efforts to make those calculations in compliance with Federal 
guidelines. The commenters believe the proposed regulation exceeds 
these three objectives. The commenters hope that CMS will instruct 
auditors that there are, in fact, various ways for States to make these 
calculations while

[[Page 77936]]

remaining in compliance with Federal guidelines.
    Response: Section 1923(j) of the Act requires that States audit 
actual DSH payments made under the approved Medicaid State plan against 
actual eligible uncompensated hospital costs in the same time period. 
Hence, the audit requirement necessarily will measure whether DSH 
payments made under the formulas in the approved Medicaid State plan 
are within the hospital-specific DSH payment limits as calculated by 
the State. The Medicaid State plan includes the reimbursement 
methodologies States utilize to make Medicaid DSH payments. While 
States typically include a provision within the Medicaid State plan 
that such payments will not exceed each qualifying hospital's DSH 
limit, such reimbursement methodologies do not identify cost components 
that are necessary for calculation of the hospital-specific DSH limits. 
Instead, States often for payment purposes rely on survey data reported 
by DSH hospitals to calculate hospital-specific DSH limit, data which 
is not typically audited by States to ensure compliance with the 
statutory limits on DSH payments.
    While CMS recognizes that States must use estimates to determine 
DSH payments in a given Medicaid State plan rate year, Section 1923(j) 
of the Act requires confirmation that such payments do not exceed the 
cost limitations imposed by Congress under the Omnibus Budget 
Reconciliation Act of 1993.
    Comment: A few commenters suggested the regulation should clarify 
the source for the information to be provided for the audit, 
particularly as it pertains to the payments made for the services. The 
commenters specifically asked whether the information should be on 
discharges during a State fiscal year (Medicare pays based on 
discharges), admissions during a State fiscal year (some States pay 
based on admissions), or actual payments made during the State fiscal 
year regardless of when the services were provided.
    Response: Section 1923(j) of the Act requires states to report and 
audit hospital-specific DSH payments and hospital-specific 
uncompensated care costs. To meet this requirement, States must perform 
audits associated with defined periods of time and must identify the 
actual costs incurred and payments received during that defined time 
period.
    As noted previously, we expect that States and auditors will obtain 
information whenever possible from existing sources. States and 
auditors should use consistent practices in their reports and audits. 
Because each State uses different hospital payment methodologies, there 
is no national rule on whether, for example, admissions or discharges 
should be used to measure whether services were furnished within a 
Medicaid State plan rate year. The same methodology should be used to 
measure uncompensated care costs as is used in determining payments 
under the Medicaid State plan.
    CMS has developed a General DSH Audit and Reporting Protocol will 
be available on the CMS Web site to assist States and auditors in 
developing methodologies to use existing sources of information to 
determine uncompensated care costs in furnishing hospital services to 
the Medicaid and uninsured populations.
    Comment: A few commenters stated they currently have no way of 
verifying payments to hospitals by Medicaid managed care organizations 
for inpatient and outpatient hospital services furnished to Medicaid 
eligible individuals because payments to hospitals are paid directly by 
the managed care plans. The commenters indicated that States have no 
first hand knowledge, and no claims documentation regarding these 
payments. The commenters questioned whether CMS would accept the use of 
self-reported hospital financial information that references these 
payments in total for purposes of the Annual DSH Reports.
    Response: There are three specific types of revenues that must be 
included in the audit to which the State conducting the audit will not 
have direct access. They are: (1) Medicaid and DSH payments received by 
the hospital from a State other than the State in which the hospital is 
located; (2) Medicaid MCO payments; and, (3) uninsured payments. The 
State must rely on hospital audited financial statements and hospital 
accounting records for this information. The State's Medicaid 
Management Information System has the most central and current 
information for in-State Medicaid fee-for-service inpatient and 
outpatient hospital payments, Medicaid supplemental and enhanced 
payments and DSH payments and will be the source of such payment.
    In addition, hospital cost information is available only from a 
reporting DSH hospital. The State and CMS must rely on hospital 
Medicare 2552-96 cost reports to provide this information.
    Comment: One commenter requested CMS clarify that it is acceptable 
to report data for a recent prior period, with appropriate adjustments 
for expected changes between the data collection period and the DSH 
reporting period.
    Response: We read the report and audit requirements to call for 
actual data, rather than estimated data. To accommodate the delays in 
obtaining data, we have extended the deadlines for submission of the 
reports and audits. While CMS recognizes that States must use estimates 
to determine initial DSH payments in a given Medicaid State plan rate 
year, Section 1923(j) of the Act requires confirmation that such 
payments do not exceed the cost limitations imposed by Congress under 
the Omnibus Budget Reconciliation Act of 1993. We do not believe 
estimates are sufficient to meet this requirement.
    Comment: One commenter questioned the ramifications of reporting 
costs and payments in out-of-State and border hospitals, and asked 
whether the audit team would be responsible for DSH amounts for only 
hospitals in the State or for all hospitals (in State and out of State) 
that received Medicaid DSH dollars from that State. The commenter 
suggested that, in order to avoid duplicate payments, CMS should 
outline a methodology to be utilized when auditing hospitals that 
receive DSH payments from more than one State.
    Response: A State is required to audit DSH payments and eligible 
uncompensated care costs for only those DSH hospitals that are located 
within the State. This method will allow the auditor to recognize DSH 
payments received by a hospital from other States in addition to the 
DSH payments received by that hospital under the ``home-State's'' 
approved Medicaid State plan.
    For States that make DSH payments to hospitals located in other 
States, the State must include in the reporting requirements the DSH 
payments made to hospitals located outside of the State, but would not 
be required to audit those out-of-State DSH hospital's total DSH 
payments/total eligible uncompensated care costs. This method will 
ensure that no DSH hospital is audited more than one time per year for 
purposes of the DSH auditing and reporting requirements under the MMA.
    Comment: Many commenters noted that the DSH program has allowed 
hospitals to extend access to healthcare for many poor and uninsured 
individuals. They noted that the new requirements include significant 
administrative expenses and responsibilities to both the States and 
hospitals. Several State Medicaid Agencies were concerned that a likely 
outcome will be that hospitals decline to participate in the DSH 
program,

[[Page 77937]]

resulting in a decline in the delivery of healthcare services to the 
uninsured citizens and the patients treated from some Indian 
Reservations.
    Response: CMS does not believe that the audit data burden will be 
significant since the audit relies on documents already available to 
hospitals. CMS also believes that it is unlikely a hospital will 
decline to receive Medicaid DSH payments for uncompensated care simply 
because the hospital must provide information to the State to assist in 
the verification that DSH payments do not exceed the hospital's 
eligible uncompensated care costs as required by Federal law.
    The State is responsible for the administration of its Medicaid 
program and the successful completion of the DSH audit as part of that 
administration. Costs associated with the audit are eligible for 
Federal administrative matching funds.
    Comment: Many commenters stated it would be extremely labor 
intensive and an excessive reporting burden for (DSH) hospitals to 
match payments received from individuals to payments received for 
individuals for which there was no third party coverage because it does 
not currently do that automatically.
    Response: To the extent that hospitals do not separately identify 
uncompensated care related to services provided to individuals with no 
source of third party coverage for the inpatient and outpatient 
hospital services they receive from uncompensated care costs not 
eligible under the hospital-specific DSH limits, hospitals will need to 
modify their accounting systems prospectively to do so. Setting up an 
accounting category to aggregate charges and revenues associated with 
uninsured individuals receiving inpatient and/or outpatient services 
from a hospital should be an accounting system adjustment not far 
removed from the process of setting up an account for any other payer 
category.
    For purposes of the initial audits, States and auditors may need to 
develop methodologies to analyze current audited hospital financial 
statements and hospital accounting records to properly segregate 
uncompensated costs.
    Comment: Many commenters have stated that it is unclear who must 
pay for the audit.
    Response: The DSH audit and report is a necessary element in the 
administration of the Medicaid program. The cost of the audit is the 
responsibility of the State and can be matched by the Federal 
Government as a Medicaid administrative cost of the State.
    Comment: Several commenters noted the proposed requirement for the 
independent certified audits is unduly burdensome. Several States have 
had in place for a number of years a requirement that hospitals submit 
certified public audit or certifications of hospitals' uncompensated 
care data. This is followed by the single State audit of State's DSH 
program which tests and verifies all of the elements that are currently 
required by the DSH state plan and State law requirements. To impose an 
additional layer of auditing at considerable expense to States is 
unnecessary.
    Response: Section 1923(j) of the Act requires States to audit 
actual DSH payments made under the approved Medicaid State plan against 
actual eligible uncompensated hospital costs in the same time period. 
Hence, the audit requirement will necessarily measure whether payments 
made under the formulas in the approved Medicaid State plan are within 
the hospital-specific DSH payment limits as calculated by the State. 
The certification required in the regulation is a certification of the 
audit performed to determine compliance with the hospital-specific 
limitations imposed by Section 1923 of the Act.
    While the DSH audit will rely on existing financial and cost 
reporting tools currently used by all hospitals participating in the 
Medicare program including audited hospital financial statements, 
hospital accounting records and the Medicare 2552-96 cost report, these 
source documents simply provide data to the auditor. Certification of 
these source documents is not sufficient to ensure that DSH payments do 
not exceed the hospital-specific limits and would not allow CMS to 
carry out the intent of the law which was to ensure that each DSH 
hospital will not exceed its hospital-specific limit. The independent 
certified audit will verify that the DSH payments authorized under the 
approved Medicaid State plan are within the hospital-specific DSH 
limits defined under Federal law.
    Comment: Several commenters requested clarification regarding who 
is responsible for obtaining the independent audit and ensuring the 
requirements are met. For example, it could be presumed that these 
audit requirements are the responsibility of the State's auditor, the 
State Medicaid program's auditor, the Medicaid agency's staff or their 
agent, or the hospital's auditor.
    A few commenters said it is not clear what constitutes 
``independent,'' and propose that CMS consider ``independent audit'' to 
mean an audit independent of the hospital that does not require the 
State to contract with a private-sector auditing firm to complete and 
certify. One commenter questioned whether the terms in the rule stating 
that the audit must be independent and certified presumes that a 
certified public accountant or comparable professional must perform the 
audit or is the State allowed to engage the services of a contractor 
with different skill sets as long as the auditor is independent? One 
commenter questioned whether ``independent audit'' means that a State 
may employ its current outside auditors to conduct audit and reporting 
requirements required by the proposed regulations, recognizing that 
audit programs will be modified to meet the additional auditing and 
reporting requirements demanded?
    Response: The term ``independent'' means that the Single State 
Audit Agency or any other CPA firm that operates independently from 
either the Medicaid agency (or other agency making Medicaid payments) 
or the subject hospital(s) may perform the DSH audit. States may not 
rely on non-CPA firms, fiscal intermediaries, independent certification 
programs currently in place to audit uncompensated care costs, nor 
expand audits of hospital financial statements to obtain audit 
certification of the hospital-specific DSH limits.
    Section 1923(j) of the Act requires States to report and audit 
specific payments and specific costs. The responsibility of the auditor 
is to measure DSH payments received by a hospital in a particular year 
against the eligible uncompensated care costs of that hospital in that 
same year. Certification means that the independent auditor engaged by 
the State reviews the criteria of the Federal audit regulation and 
completes the verification, calculations and report under the 
professional rules and generally accepted standards of audit practice. 
This certification would include a review of the State's audit protocol 
to ensure that the Federal regulation is satisfied, an opinion for each 
verification detailed in the regulation, a determination of whether or 
not the State made DSH payments that exceeded any hospital's specific 
DSH limit in the Medicaid State plan rate year under audit. The 
certification should also identify any data issues or other caveats 
that the auditor identifies as impacting the results of the audit.
    Comment: Several commenters believe the most practical manner in 
which the State could meet this audit regulation is by requiring 
hospitals to have their uncompensated care data

[[Page 77938]]

audited as part of their annual financial statement audit. Auditors of 
the Medicaid program (as part of the State's Single Audit) could then 
rely on these audited certifications and evaluate each State's DSH 
payment calculations and other information being reported by the State 
to the Secretary. Numerous commenters stated it would be more efficient 
and less burdensome for the individual hospitals to make the required 
verifications for their own financial data. Most hospitals already have 
their financial information reviewed and certified by an independent 
auditor, so the auditor could complete these verifications as part of 
the standard audit process. One commenter stated it is not clear if 
audit procedures applied in any other audits the hospital has undergone 
would be sufficient to rely upon in this verification. One commenter 
suggests that data submitted by a hospital which has had its own 
independent audit be considered ``certified'' for the independent audit 
requirements of this rule.
    Response: States may not rely on independent certification programs 
currently in place to audit uncompensated care costs nor expand audits 
of hospital financial statements to obtain audit certification of the 
hospital-specific DSH limits. Section 1923(j) of the Act MMA imposes 
audit and reporting requirements on States. CMS must determine if all 
hospitals receiving DSH payments under the Medicaid State plan actually 
qualify to receive such payments and that actual DSH payments do not 
exceed the hospital-specific limit for the same period. The 
certification required in the regulation is a certification of the 
audit performed to determine compliance with Section 1923 of the Social 
Security Act.
    While the DSH audit will rely on existing financial and cost 
reporting tools currently used by all hospitals participating in the 
Medicare program including audited hospital financial statements, 
hospital accounting records, and the Medicare 2552-96 hospital cost 
report, these source documents simply provide data to the auditor. 
Certification of source documents or uncompensated care cost programs 
is not sufficient to ensure that DSH payments do not exceed the 
hospital-specific limits and would not allow CMS to carry out the 
intent of the law which was to ensure that each DSH hospital will not 
exceed its hospital-specific limits.
    Comment: Several commenters indicated that most of the requirements 
outlined in the proposed regulations require data that will be obtained 
from hospital cost reports. The commenters questioned whether the 
States will be responsible for completing individual hospital audits in 
greater detail prior to completing the DSH report. One commenter 
questioned whether having the data audited by an independent audit firm 
engaged by the DSH hospitals would satisfy the independent audit 
requirement, or whether States would be required to audit the data?
    Response: We anticipate that the audit will rely primarily on 
already available documents. The State and auditors can use data 
extracted from existing hospital cost and financial reporting tools 
supplemented with State generated data from the State's Medicaid 
Management Information System. The data elements necessary for the 
State to complete the DSH audit and report should, in part, be 
information the State already gathers to administer the DSH program.
    States and auditors will need to obtain data from hospitals and may 
need to work with hospitals to develop new data or methodologies to 
allocate or adjust existing data. And it may be necessary for auditors 
to develop methods to test, verify the accuracy of, and reconcile data 
from different sources. This audit function is not the same as the 
function of the hospital's own auditors, however, and would not involve 
a review of the hospital's financial controls and internal reporting 
procedures. But the auditors must review the overall methodology for 
accumulating data to ensure that the resulting data reflects the 
required elements. In other words, the independent auditors must review 
the methodology for arriving at hospital-specific data, and must have 
confidence that the data accurately represents the hospital's eligible 
uncompensated care costs consistent with the statutory criteria.
    Comment: A few commenters indicated that many States have invested 
an increasing amount of time and expense managing Federal audits and 
presumed the increased audit requirements would be at the States' 
expense.
    Response: CMS does not believe the audit data burden will be that 
significant since the audit may rely primarily on already available 
documents. The State and auditors can use data extracted from existing 
hospital cost and financial reporting tools supplemented with State 
generated data from the State's Medicaid Management Information System. 
The data elements necessary for the State to complete the DSH audit and 
report should, in part, be information the State already gathers to 
administer the DSH program. The State would incur additional cost 
associated with engaging an auditor but that cost is eligible for 
Federal administrative matching funds.
    Comment: One commenter stated that using an independent auditor 
would add administrative costs to the Medicaid program. The State 
requests CMS to confirm if DSH funds can be used to fund the cost of 
the audit, and if the State can claim FFP at the DSH matching rate.
    Response: State costs of the audit are administrative costs of the 
Medicaid program, and not DSH costs. The DSH program was established by 
Congress to help offset uncompensated inpatient and outpatient care 
provided by hospitals to Medicaid individuals and the uninsured. States 
may not access Federal DSH funding for purposes other than reimbursing 
hospitals for unreimbursed inpatient and outpatient services provided 
to Medicaid individuals and individuals with no source of third party 
coverage for the inpatient and outpatient hospital services they 
received.
    The DSH audit and report is a necessary element in the 
administration of the Medicaid program. The State is responsible for 
the successful completion of the DSH audit as part of that 
administration. Costs associated with the audit are eligible for 
Federal administrative matching funds.
    Comment: Numerous commenters noted that the proposed rule does not 
address how the audits will be paid for and there is a concern that the 
State Medicaid programs will pass on these additional costs to DSH 
hospitals. The commenters recommended that CMS state affirmatively that 
the cost of the audits should not be passed on to hospitals. A few 
commenters noted that since the cost of auditing each DSH hospital's 
records to satisfy the new audit requirements will be substantial and 
recommended it be funded by a special appropriation to the States for 
such purpose. Many commenters recommended that CMS reconsider its 
conclusion that the regulation would not have a significant economic 
impact and should undertake appropriate analyses under Executive Order 
12866 and the regulatory impact analysis to consider how the burden on 
hospitals could be lessened.
    Response: We still do not believe that this regulation will impose 
a significant impact. The final rule allows the DSH audits to be part 
of a hospital's existing annual financial. If this is the case, the 
costs to the hospital should be minimal since the annual hospital 
financial audit is already a requirement. States are responsible for 
the administration of their Medicaid programs and the

[[Page 77939]]

successful completion of the DSH audit as part of that administration.
    Comment: Numerous commenters indicated significant confusion 
regarding the mechanics of compliance with the requirement for States 
to have DSH payment programs independently audited annually and to 
submit those certifications annually to the DHHS Secretary. The 
commenters requested further guidance and explicit details of standards 
and procedures required by CMS.
    Response: As a condition of continued Federal DSH funding, pursuant 
to Sec.  455.204, States will need to be in compliance with audit and 
reporting requirements. CMS has developed a General DSH Audit and 
Reporting Protocol which will be available on the CMS Web site to 
assist States and auditors in utilizing information from each source 
identified above and the methods under which costs and revenues will be 
determined. In addition, an auditing and reporting schedule is 
described in earlier responses to comments and is also included in the 
final regulation.
    Comment: A few commenters noted that their States have experienced 
numerous difficulties when contracting with external auditing firms. 
Subjecting each hospital's DSH data to another audit at the State level 
would be an extremely time-consuming and very expensive process for the 
State would not add any value to the auditing process.
    Response: The DSH audit and report is a necessary element in the 
administration of the Medicaid program. The State is responsible for 
the successful completion of the DSH audit as part of that 
administration. Costs associated with the audit are eligible for 
Federal administrative matching funds.
    The term ``independent'' means that the Single State Audit Agency 
or any other CPA firm that operates independently from the Medicaid 
agency and the subject hospitals may perform the DSH audit. States may 
not rely on non-CPA firms, fiscal intermediaries acting as agents for a 
State's Medicaid program, independent certification programs currently 
in place to audit uncompensated care costs, nor expand hospital 
financial statements to obtain audit certification of the hospital-
specific DSH limits.
    States may use Medicaid agency auditors to gather the data and 
perform initial data analysis for the DSH audit. However, the audit 
must be certified by an independent auditor as described above.
    Comment: One commenter questioned whether it is CMS' intent to 
prevent an independent CPA firm, contracted by a State to audit 
Medicaid cost reports on the State's behalf, from being able to audit 
that same state's DSH program through the independence requirements of 
the Government Auditing Standards. If so, the commenter questioned if 
any contract with a State's Medicaid agency would impair the 
independence of a CPA firm in performing the DSH audit required in the 
rule.
    Response: The intent of the requirement that States use independent 
auditors to certify the DSH audit is to provide a quality end product 
based on consistently applied auditing standards to produce unbiased 
findings. An independent auditor must operate independently from the 
Medicaid agency and the subject hospitals. The fact that a CPA firm 
contracts with the Medicaid agency to audit Medicaid cost reports does 
not disqualify that firm from being considered independent and 
therefore qualified to perform the DSH audit as long as the contract 
permits the auditor to exercise independent judgment.
    Comment: Many commenters questioned whether the State audit agency 
would be appropriate for a certified independent audit according to 
generally accepted government auditing standards. If an independent 
audit of each facility is required, the commenters asked if State 
Medicaid program auditors would be considered independent to perform 
the hospital portion of the work.
    Response: The term ``independent'' means that the Single State 
Audit Agency or any other CPA firm that operates independently from the 
Medicaid agency or subject hospitals is eligible to perform the DSH 
audit. States may not rely on non-CPA firms, fiscal intermediaries 
acting as Agents for a State's Medicaid program, independent 
certification programs currently in place to audit uncompensated care 
costs, nor expand hospital financial statements to obtain audit 
certification of the hospital-specific DSH limits.
    States may use Medicaid agency auditors to gather the data and 
perform initial data analysis for the DSH audit. However, the audit 
must be certified by an independent auditor as described above.
    Comment: A few commenters stated that the financial effectiveness 
of the audits would be enhanced if the Medicare fiscal intermediaries 
were available to do the audits. Intermediaries provide services at a 
lower cost than private accounting firms. Time world be saved because 
the intermediaries have all the necessary information. This may also be 
helpful to States that require a lengthy procurement bidding process.
    Response: States may contract with Medicare fiscal intermediaries 
to the extent that the Medicare fiscal intermediary meets the 
definition of an independent CPA firm and operates under a contract 
that ensures independent judgment. The term ``independent'' means that 
the Single State Audit Agency or any other CPA firm operates 
independently from the Medicaid agency or subject hospitals.
    Comment: One commenter questioned whether it would be appropriate 
for the State's Auditor General's office to perform the independent 
audit of DSH Payments using the Generally Accepted Government Auditing 
Standards.
    Response: The term ``independent'' means that the Single State 
Audit Agency or any other CPA firm that operates independently from the 
Medicaid agency or subject hospital may be qualified to perform the DSH 
audit.
    Generally Accepted Government Auditing Standards are the principles 
governing audits conducted of government organizations, programs 
activities, functions or funds. In general, government audits are 
either performance audits or financial audits. In either type, the 
focus is on the government entity, its management of a program and/or 
the financial management and reporting systems associated with that 
program.
    The DSH audit and report is a necessary part of the administration 
of the Medicaid program. The purpose of the audit is to ensure that 
States make DSH payments under their Medicaid program that are in 
compliance with Section 1923 of the Act. The audit does not encompass 
the review of the State's overall Medicaid program, it simply ensures 
that one portion of the program is conducted in line with Federal 
statutory limits. In addition, the DSH audit will rely on financial and 
cost report data provided by hospitals that are subject to generally 
accepted accounting principles as part of their primary reporting 
function.
    Comment: Many commenters expressed concern for the financial 
stability of disproportionate share hospitals and States and their 
requirement for finality, with respect to prior year DSH payment 
determinations. They asserted that allowing States to make good-faith 
efforts to estimate hospital-specific DSH payment limits, so long as 
States are using the most recently available data, would help prevent 
situations in which States would need to attempt to take back past DSH 
payments to hospitals--a situation

[[Page 77940]]

that would be especially burdensome for the very kinds of hospitals 
that DSH payments are intended to help. One commenter stated that the 
new rules impose an extremely heavy penalty on certain small hospitals. 
That commenter indicated that it would be unlikely that these hospitals 
could repay any amounts to the Medicaid program from current operating 
income.
    Response: We recognize that States must use estimates to determine 
DSH payments in a given year. The regulation will provide information 
that will help ensure that the actual DSH payment made by States based 
on those estimates do not exceed the actual eligible uncompensated 
costs under the hospital-specific DSH limit. The transition period 
included in this regulation ensures that States will have time to 
adjust those estimates prospectively.
    Comment: Numerous commenters did not see how the verification 
requirement could be completed without an additional annual cost report 
for an annual period that differs from its established fiscal year cost 
reporting period and an additional audit that would tie the hospital 
costs to the State year-end versus hospital year end and DSH payments 
with the same year actual uncompensated care costs. They asserted that 
the verification requirement is an extraordinary unreasonable and 
completely unnecessary administrative and economic burden on hospitals 
and States due to time-consuming, costly, and often duplicative audits. 
Many critical access hospitals do not have the excess manpower and 
resources to accomplish this additional audit. In many States, it 
disturbs an effective and efficient system that already meets Federal 
standards for program integrity.
    Response: The DSH audit will rely on existing financial and cost 
reporting tools currently used by all hospitals participating in the 
Medicare program. We expect that State reports and audits will be based 
on the best available information. If audited Medicare cost reports are 
not available for each hospital, the DSH report and audit may need to 
be based on Medicare cost reports as filed. CMS does not believe that 
the audit data burden will be significant since the audit relies on 
documents already available to hospitals.
    Comment: Many commenters noted that it would be an administrative 
burden to perform retrospective reviews and adjust each year's DSH 
payments. Therefore, the commenters request that CMS audit the data 
used by the State to determine the prospective DSH payments paid during 
the State fiscal year based upon the CMS approved DSH State plan 
payment methodology to determine the actual uncompensated care costs in 
the same audited SFY.
    Response: Section 1923(j) of the Act imposes audit and reporting 
requirements on all States that make DSH payments to all DSH eligible 
hospitals within the State. As part of this process, CMS must determine 
if all hospitals receiving DSH payments under the Medicaid State plan 
actually qualify to receive such payments and that actual DSH payments 
made do not exceed the hospital-specific DSH limit for the same period.
    DSH payments are limited by Federal law to each qualifying 
hospital's specific eligible uncompensated care cost in a given year. 
Auditing a State's DSH payment methodology will not ensure that DSH 
payments actually made by States do not exceed the statutorily required 
hospital-specific DSH limit. Verifying cost elements within a DSH 
payment methodology would not allow CMS to carry out the intent of the 
law which was to ensure that each DSH hospital will not exceed its 
hospital-specific DSH limit.
    Comment: One commenter said Verification 3 would be a burden on the 
State. Another commenter stated that the requirements in Verification 3 
would dictate significant additional work by the independent auditor 
(and added cost to the State and Federal governments) for unnecessary 
data analysis.
    Response: CMS does not believe that Verification 3 in the 
regulation will create significant additional work for the independent 
auditor nor the States. The auditor engaged by a State to complete the 
DSH audit must rely on information provided by the State and DSH 
hospitals. This information will be based on existing financial and 
cost reporting tools as well as information provided by the State's 
Medicaid Management Information System and the existing approved 
Medicaid State plan. DSH hospitals must provide the State with 
hospital-specific cost and revenue data, including backup 
documentation, so that independent auditor may utilize in developing 
audit report. The State must provide the auditor with information 
pertaining to the Medicaid State plan DSH payment methodologies and the 
methodology utilized by the State uses to estimate the hospital-
specific DSH limits.
    CMS has developed a General DSH Audit and Reporting Protocol to 
provide guidance to States, DSH hospitals and auditors in the 
completion of the DSH audit. This Protocol includes general 
instructions regarding the types of information to be provided by 
hospitals to the State and its auditor as well as the calculations the 
auditor will make based on the data provided. The Protocol will be 
available on the CMS Web site.
    The DSH audit and report is a necessary element in the 
administration of the Medicaid program. The cost of the audit is the 
responsibility of the State and can be matched by the Federal 
government as a Medicaid administrative cost of the State.
    Comment: One commenter questioned whether it is CMS' intent that 
the term ``appropriate'' indicates documentation that has been verified 
and/or audited. The vagueness of the term may also make it difficult 
for an independent auditor to provide an opinion. As an alternative, 
and assuming that all other requirements will be clearly defined, the 
commenter recommends that CMS consider an alternative that a State 
employs a methodology for calculating the hospital-specific DSH limit 
that is permissible under Federal rules.
    Response: The statutory process requires examination of whether all 
hospitals receiving DSH payments under the Medicaid State plan actually 
qualify to receive such payments and whether actual DSH payments made 
are within the hospital-specific DSH limit for the same period. DSH 
payments are limited by Federal law to each qualifying hospital's 
specific eligible uncompensated care cost limit. Several audits by the 
Inspector General have highlighted the need for greater scrutiny and 
have indicated that calculations performed by State agencies or 
hospitals are not reliable.
    Concerning the degree of data verification required, States and 
auditors will need to obtain data from hospitals and may need to work 
with hospitals to develop new data or methodologies to allocate or 
adjust existing data. And it may be necessary for auditors to develop 
methods to test, verify the accuracy of, and reconcile data from 
different sources. This audit function is not the same as the function 
of the hospital's own auditors, however, and would not involve a review 
of the hospital's financial controls and internal reporting procedures. 
But the auditors must review the overall methodology for accumulating 
data to ensure that the resulting data reflects the required elements. 
In other words, the independent auditors must review the methodology 
for arriving at hospital-specific data, and must have confidence that 
the data accurately represents the hospital's eligible uncompensated 
care costs consistent with the statutory criteria.

[[Page 77941]]

    Comment: A few commenters are concerned that the reporting 
requirements, as stated in the proposed regulation, suggest that there 
is only one way to calculate DSH payments and hospital-specific DSH 
payment limits when, in reality, Federal guidelines give States some 
leeway in making these calculations. The commenters are concerned that 
auditors will interpret their mandate very literally. One commenter 
said the State may find itself disagreeing with its auditor over the 
definitions of certain requirements and methodologies. Without 
additional CMS clarification, the auditor may revert to a 
reasonableness test when clarification is lacking, which may not meet 
the objectives of CMS in promulgating these rules.
    Response: We agree that States may have some flexibility in 
interpreting the payment provisions under their State plan, and we 
expect that auditors will consult with the State agency on such 
interpretative issues. The calculation of the hospital-specific limits 
is less discretionary; DSH payments are limited by Federal law to each 
qualifying hospital's specific uncompensated care costs incurred in 
furnishing hospital services to the Medicaid and uninsured populations.
    Comment: A few commenters said this rule would adversely affect 
access to health care for all children, not just Medicaid 
beneficiaries. Hospitals may be forced to close programs or clinics in 
order to cover revenue losses and access to care for all children, not 
just Medicaid beneficiaries would be limited. Children and their 
families would be forced to seek care in emergency rooms, which is a 
more expensive visit for Medicaid and will invariably result in ever 
more crowded emergency rooms.
    Response: DSH payments are a way to provide additional funding to 
hospitals that serve a disproportionate share of low income patients, 
but the statute limits DSH payments to each hospital to the total 
uncompensated care costs in serving the Medicaid and uninsured 
populations. Since these limitations have been in place since 1993, CMS 
does not believe that any hospital could reasonably have relied on 
receiving funding above that level. CMS recognizes that States must use 
estimates to determine DSH payments in a given year. The information 
available through the reporting and auditing program under this 
regulation will assist States in ensuring that those estimates do not 
generate DSH payments that exceed the hospital-specific DSH limit.
    Comment: One commenter believes the independent audit requirements 
should be included in the existing framework for audits of Federal 
programs under the Single Audit Act and include the five items 
requiring verification in the OMB Circular A-133 Compliance Supplement. 
One commenter suggested revision of OMB Circular A-133 Compliance 
Supplement to require the State Medicaid program's auditor test this 
reporting requirement by ensuring the Medicaid program received the 
information and audit assurances from the hospitals, accumulated the 
information, and properly reported the results to the Centers for 
Medicare and Medicaid Services.
    Response: The DSH audit and report is a necessary element in the 
administration of the Medicaid program. The purpose of the audit is to 
ensure that States make DSH payments under their Medicaid program that 
are in compliance with Section 1923 of the Social Security Act. DSH 
payments are a small portion of a State's Medicaid program and the OMB 
Circular A-133 direction is far larger in scope than this audit.
    It would be inappropriate to make the requested revisions to OMB 
Circular A-133 as OMB Circular A-133 specifically exempts Medicaid 
payments made by the State because these Medicaid payments are not 
considered to be ``federal awards expended under this Section [Section 
205, Basis for Determining Federal Awards Expended]''. In addition, 
Subpart E also indicates that the scope of the A-133 Audit shall cover 
the entire operations of the auditee or a department, agency or other 
organizational unit.
    It should be noted that the Single State Audit Agency qualifies as 
operating independently from the Medicaid Agency and, therefore, could 
perform the DSH audit albeit separate from the Single State Audit Act.
    Comment: One commenter requests confirmation that the audit would 
be a Program Performance Audit of the State as defined in Government 
Auditing Standards, July 1999, Chapter 2, and as such would not require 
verification by a Certified Public Accounting firm as in the case of 
financial audits that lead to the expression of an opinion as defined 
in Chapter 3. One commenter noted that requiring the audits of the 
States to be performed under Generally Accepted Government Auditing 
Standards (GAGAS) will ensure that the reports are accurate and can be 
relied upon by third party users. One commenter stated that there are 
three sets of standards within GAGAS: Financial Audits, Attestation 
Engagements, and Performance Audits and questioned which set of 
standards would apply to the independent audit of DSH payments.
    Response: The standards in GAGAS generally exceed the scope and 
objectives of the DSH audit and report. GAGAS rules govern the audits 
of government organizations, programs activities, functions or funds. 
In general, government audits are either performance audits, 
attestation engagements or financial audits.
    In financial and performance audits, the focus is on the government 
entity, its management of a program and/or the financial management and 
reporting systems associated with that program. The DSH audit and 
report is a review of a segment of the Medicaid program and therefore 
does not fall within the scope of a performance or financial audit 
under GAGAS rules.
    Attestation engagements may take a narrower focus (less than full 
program review) and, therefore, may seem to more directly fit with the 
scope of the DSH audit and report. However, attestation agreements 
under GAGAS rules include standards beyond non-governmental attestation 
agreements and these additional standards exceed the scope of the DSH 
audit and report.
    The DSH audit and report is a necessary part of the administration 
of the Medicaid program. The purpose of the audit is to ensure that 
States make DSH payments under their Medicaid program that are in 
compliance with Section 1923 of the Social Security Act. The audit does 
not encompass the review of the State's Medicaid program, it simply 
ensures that one portion of the program is conducted in compliance with 
Federal statutory limits. In addition, the DSH audit will rely on 
financial and cost report data provided by hospitals that are subject 
to generally accepted accounting principles as part of their primary 
reporting function.
4. Section 1115 Demonstrations
    Comment: One commenter believes the proposed rule as presently 
drafted will have a significant impact on hospitals if an exemption is 
not provided. The State has operated its DSH program for a number of 
years in strict accordance with the prescriptive terms negotiated 
between the State and CMS.
    Response: The MMA imposes audit and reporting requirements on all 
States that make DSH payments. As part of this process, CMS must 
determine if all hospitals receiving DSH payments under the Medicaid 
State plan actually qualify to receive such payments and that actual 
DSH payments do not exceed

[[Page 77942]]

the hospital-specific DHS limit for that same period. To the extent 
that a State makes DSH payments under a waiver demonstration, the State 
is not exempted from the rules surrounding DSH payments, particularly 
those at 1923(g) of the Act, and the audit and reporting requirements 
would still apply to that State.
    Comment: Several commenters had questions regarding how States that 
operate their Medicaid programs under Federal waivers would do their 
Medicaid DSH reporting. The commenters suggest the regulation should 
specify that the DSH reporting and audit requirements do not apply to 
States that do not make DSH payments or are not required to comply with 
DSH requirements pursuant to Federal waivers of DSH requirements. The 
commenters urge CMS to exempt States with 1115 waivers from this rule 
if the waivers are based on certified public expenditures (CPEs) for 
Medicaid and DSH payments. One commenter stated that the recent 
implementation of the State's 1115 waiver completely changes the way 
DSH payments are calculated for the State's hospitals, therefore, this 
audit requirement would be duplicative.
    Response: These DSH audit and reporting requirements apply to 
States with Section 1115 demonstrations to the extent that the waiver 
list associated with the demonstration does not explicitly waive the 
State from compliance with Section 1923 of the Act. The DSH audit and 
reporting time frames for States with DSH programs and Section 1115 
demonstrations are subject to the same time frames as those States 
without 1115 demonstrations. The only exception would be if a State has 
a demonstration project under Section 1115 that includes a waiver of 
the requirements of Section 1923 so that the State does not make 
Medicaid DSH payments at all. In that instance, since there are no DSH 
payments, the DSH audit and reporting requirements would not apply.
5. Time Period Subject to DSH Audit and Report
    Comment: One commenter asked for clarification of the treatment of 
DSH payments when a State makes a portion of the fiscal year's DSH 
payments after the end of its fiscal year. One commenter asked whether, 
when DSH payments are made on an accrual accounting basis and adjusted 
after the report has been filed, whether the State must file a 
corrected report. Several commenters indicated that dissatisfied 
hospitals have the ability to appeal their payments, a process that 
could extend the period of time before the final payment is known. They 
asked how to report regular Medicaid rate payments that are not known 
at the end of any given State fiscal year. One commenter said that many 
States allow Medicaid providers up to a year to submit claims following 
the date of service. As such, the commenter indicated that there is 
often a significant lag in payments to Medicaid hospitals and 
uncompensated care figures would be overstated if only cost incurred 
and payments received during a SFY are considered.
    Response: Since the deadline for reporting the audit findings has 
been extended to at least three full years after the close of the 
Medicaid State plan rate year subject to audit, hospitals would have 
received all Medicaid and DSH payments associated with that Medicaid 
State plan rate year. This two-year period accommodates the one-year 
concern expressed in many comments regarding claim lags and is 
consistent with the varying hospital cost reporting periods and 
adjustments and accommodates DSH payments made from different allotment 
years.
    It should be noted that, to the extent that a State makes a 
retroactive adjustment to non-DSH payments after the completion of the 
audit for that particular Medicaid State plan rate year, the hospital 
would necessarily have received and booked the revenues in a subsequent 
Medicaid State plan rate year. Under these circumstances, the revenue 
adjustments would be measured during the audit of the Medicaid State 
plan rate year in which the revenues were received.
    The treatment of post-audit Medicaid payments, including regular 
Medicaid rate payments, supplemental and enhanced payments, Medicaid 
managed care payments, DSH, and ``self-pay'' revenues and other 
collections including liens would be treated as revenues applicable to 
the Medicaid State plan rate year in which they are received.
    Comment: Several commenters noted that the State is required to 
indicate the Medicaid Managed Care Organization Payments paid to the 
hospital for the SFY being reported. Claims may be submitted to the 
Medicaid Managed Care Organization (MCO) for payment up to one year 
after the date of service. Therefore, payments made by the MCO for 
claims with date of service in the SFY may be submitted up to a year 
after the service date by the hospital. The payments would not be 
available before 12 months after the SFY at a minimum. Obtaining the 
amount paid by the MCO for the SFY being reported is not possible by 
the end of the SFY.
    Response: Based on the modifications to the audit and reporting 
deadlines and the Medicaid two-year timely filing claim limit, there 
should not be a significant adjustment to Medicaid payments that would 
warrant a corrected report. To the extent that such an adjustment to 
Medicaid payments occurs, no corrected audit or report is necessary. To 
the extent that a State makes a retroactive adjustment to non-DSH 
payments after the completion of the audit for that particular Medicaid 
State plan rate year, the hospital would necessarily have received and 
booked the revenues in a subsequent Medicaid State plan rate year. 
Under these circumstances, the revenue adjustments would be measured 
during the audit of the Medicaid State plan rate year in which the 
revenues were received.
6. Verification I--Proper Reduction to Uncompensated Care Cost
    Comment: Several commenters believe that different parts of the 
regulation define ``uncompensated care costs'' differently, and they 
should be modified and made consistent. The commenters provided 
suggested changes in an effort to eliminate a contradiction between the 
definitions, contained in Sec. Sec.  447.299(c)(15) and 455.204(c). 
Several commenters believe that Verification 1 requires each 
hospital receiving DSH payments reduce its uncompensated care costs by 
the amount of DSH payments received in any given year. The commenters 
argued that the statute clearly defines the DSH limit so that DSH 
payments should not be offset against the hospital specific limits. 
They noted that the language of Section 1923(j) only requires the 
auditors to verify ```the extent to which'' the costs have been 
reduced. Thus, if costs have not been reduced at all, the auditor would 
verify that fact and the audit requirement would be met. The regulatory 
language should be revised to be consistent with the statutory 
requirement. Other commenters stated that the proposed rule requires an 
audit verification that each disproportionate share hospital in the 
State has reduced its uncompensated care costs in order to reflect the 
total amount of claimed DSH expenditures. They are not clear how a 
hospital can demonstrate this, as costs generally are not reduced by 
expenditures. One commenter recognizes that CMS likely based its 
formulation of the verification requirement on the statutory language, 
which contains similarly confusing terminology, requiring the audit to 
verify ``the extent to which hospitals in the State have reduced their

[[Page 77943]]

uncompensated care costs to reflect the total amount of claimed 
expenditures made under [the Medicaid DSH statute].'' The commenter 
suggests that a more useful interpretation of this statutory language 
would be to require verification that DSH payments have not exceeded 
uncompensated care costs.
    Response: The purpose of the statute is for States to audit actual 
DSH payments made under the approved Medicaid State plan against actual 
eligible uncompensated hospital costs for the same time period. In 
reviewing the meaning of the statutory language, we have determined 
that verification 1 is designed to ensure that hospitals are able to 
fully retain the DSH payments made to them for the uncompensated cost 
of providing inpatient and outpatient hospital services to Medicaid 
beneficiaries and individuals with no source of third party coverage 
net of all Medicaid payments received and payments by or on behalf of 
individuals with no source of third party coverage for the services 
they received. We have revised the regulation text to make this 
clearer.
7. Verification 2--Calculation of Eligible Uncompensated Care Cost, 
Prospective Estimates Versus Reconciled Cost
    Comment: Many commenters indicated that for States that determine 
the individual hospital DSH limit prospectively, the one-year filing 
requirement may be attainable (at least after these rules take effect) 
if the requirement is only to validate the accuracy of the prospective 
calculation. But for those States that do base the determination on 
current year costs, a report based on a final audit of hospital cost 
reports could not be submitted within one year. Final settlement of 
hospitals' cost reports is typically contingent upon completion by a 
Medicare intermediary of audits--a process that can take several years. 
CMS should allow these States additional time to submit the audit 
certifications, so these certifications can be based on the final 
settled cost report. Alternatively, CMS could clarify the rule to 
permit the required report to be based on a hospital's as-filed cost 
report. If necessary, there could be later reconciling adjustment after 
the cost report is finally settled and an audit certification can be 
made.
    Response: CMS recognizes that States may need to use estimates to 
determine DSH payments made by States to individual qualifying 
hospitals in an upcoming Medicaid State plan rate year. Section 1923(j) 
of the Act requires States to report and audit hospital-specific DSH 
payments and hospital-specific uncompensated care costs. To meet this 
requirement, States must perform audits associated with defined periods 
of time and must identify the actual costs incurred and payments 
received during that defined time period. To respond to comments on the 
practicality of audit timing, we have modified the time frame for the 
audit and reporting requirements as discussed above. We also note that 
we expect that reports and audits will be based on the best available 
information. If audited Medicare cost reports are not available, the 
DSH report and audit may need to be based on Medicare cost reports as 
filed.
    Comment: Numerous States indicated that if the audit requirement is 
simply to verify the manner in which the DSH limit was applied 
prospectively, the one-year timeline may be realistic for years 
subsequent to the adoption of a final regulation for States using 
prospective methods, and hospitals with fiscal years different than the 
State's should not present as much of a concern, because the 
prospectively determined limit would have been calculated based on cost 
reports for earlier time periods. Accordingly, the commenters request 
that CMS clarify that the proposed regulations are not intended to 
disturb the use of prospective calculations to apply the individual 
hospital DSH limit.
    Response: This regulation is not intended to require States to 
implement retrospective DSH methodologies. CMS recognizes that States 
may need to use estimates to determine DSH payments in an upcoming 
Medicaid State plan rate year. However, Section 1923(j) of the Act 
requires confirmation that DSH payments made by States to individual 
qualifying hospitals do not exceed the actual cost limitation imposed 
by Congress.
    Based on the revisions to the auditing and reporting timeframes, 
which, in part, requires the Medicaid State Plan rate year 2005 and 
2006 audits to be completed no later than the last day of Federal 
fiscal year 2009, it is feasible for the audit to measure eligible 
uncompensated care costs incurred against the DSH payments received in 
a given time frame. The transition period included in the final 
regulation ensures that States may adjust those estimates prospectively 
to avoid any immediate adverse fiscal impact and to ensure that future 
DSH payments do not exceed the hospital-specific DSH limits.
    Comment: Several commenters noted that there is no current law 
requiring that DSH payments made in a fiscal year correspond to costs 
from that same fiscal year. In addition, CMS has never before imposed a 
reconciliation requirement. A few commenters stated Section 1923(g) of 
the Act does not require that the OBRA 1993 limits be recalculated and 
reapplied to reflect subsequently available year-of-service data.
    Response: Section 1923(j) of the Act requires States to report and 
audit specific payments and specific costs. These reports must assess 
compliance with the statutory hospital-specific limitations on the 
level of DSH payments to which qualifying hospitals were entitled. 
Section 1923(g)(1)(A) specifies that DSH payments cannot exceed, ``the 
costs incurred during the year of furnishing hospital services (as 
determined by the Secretary and net of payments under this title, other 
than under this Section, and by uninsured patients * * *)''. The goal 
of the regulation is to audit DSH payments made under the authority of 
the Medicaid State plan and to ensure that States do not make DSH 
payments that exceed the hospital-specific cost limit defined under the 
Omnibus Budget Reconciliation Act of 1993.
    CMS recognizes that States may need to use estimates to determine 
DSH payments in an upcoming Medicaid State plan rate year. However, the 
statute requires confirmation that DSH payments do not exceed the 
actual cost limitation imposed by Congress.
    Comment: Numerous commenters stated that the DSH reporting and 
auditing requirements contained in MMA were intended only to ensure 
compliance with the DSH requirements, not to change the DSH 
requirements themselves. They asserted that nothing in the statute 
either requires or encourages a change in CMS's longstanding policy 
that DSH payments can be based on a prospective estimate of a 
hospital's uncompensated care costs. They argued that the statute does 
not require that payments be based on actual audited costs and nothing 
in the statute requires CMS to impose this dramatic shift in policy. 
This approach allows for adjustment during future years for reconciling 
DSH payments to actual costs. Numerous commenters said that CMS has 
always acknowledged that the law permits States to base their DSH 
payments on a prospective estimate of a hospital's uncompensated care 
costs for a given year, derived from the hospital's costs in prior 
years, and many if not most States utilize this approach. A few 
commenters noted that CMS has allowed States flexibility to use 
estimates of current year uncompensated costs. One commenter stated the 
statute provides that a DSH payment adjustment ``during a fiscal

[[Page 77944]]

year'' is considered non-compliant with the limit if the adjustment 
exceeds the uncompensated costs for Medicaid and uninsured patients 
incurred ``during the year'' and that CMS appears to be basing this 
burdensome reconciliation requirement solely on this language. The 
commenter believes that while the provision does limit current year 
payments to current year costs, nothing in the language mandates the 
use of actual audited costs. Indeed, the commenter indicated that 
reliable estimates based on audited prior year data will produce 
sufficient controls on the DSH payments and fulfill Congress' intent of 
limiting DSH expenditures on a hospital-specific basis.
    Response: Section 1923(g)(1)(A) of the Act specifies that DSH 
payments cannot exceed, ``the costs incurred during the year of 
furnishing hospital services (as determined by the Secretary and net of 
payments under this title, other than under this Section, and by 
uninsured patients * * *)''. The goal of the regulation is to audit DSH 
payments made under the authority of the Medicaid State plan and to 
ensure that States do not make DSH payments that exceed the hospital-
specific cost limit defined under the Omnibus Budget Reconciliation Act 
of 1993.
    Section 1923(j) of the Act expressly requires States to report and 
audit specific payments and specific costs. As part of this process, 
CMS must obtain all information necessary to determine if all hospitals 
receiving DSH payments under the authority of the approved Medicaid 
State plan actually qualify to receive such payments and that actual 
DSH payments made by States do not exceed the hospital-specific limit 
for the same period. DSH payments are limited by Federal law to each 
qualifying hospital's specific eligible uncompensated care cost limit.
    CMS recognizes that States may need to use estimates to determine 
DSH payments in an upcoming Medicaid State plan rate year. However, the 
statute requires confirmation that DSH payments do not exceed the 
actual cost limitation imposed by Congress. CMS has modified the 
regulation to include a transition period to ensure that States may 
adjust those estimates prospectively to avoid any immediate adverse 
fiscal impact and to ensure that future DSH payments do not exceed the 
hospital-specific DSH limits.
    Auditing actual payments made in a given year against estimated 
hospital uncompensated care costs in that same year would not ensure 
that DSH payments did not exceed actual uncompensated care costs. 
Several Inspector General audits attest to the discrepancies in the 
results. In fact, measuring the difference between DSH payments and 
estimates of uncompensated care costs would never produce a true 
determination of whether or not DSH payments in a given year exceeded 
the Congressionally defined cost limit for that year.
    Comment: Numerous commenters indicated that States cannot determine 
the actual uncompensated care costs prior to or during the year that 
DSH payments are made. The commenters stated that this could prevent 
States from making prospective estimates of Medicaid shortfalls and 
uninsured costs. The commenters recommend that States be allowed to 
continue to utilize historical information to perform prospective DSH 
limit calculations.
    Response: CMS recognizes that States may need to use estimates to 
determine DSH payments in an upcoming Medicaid State plan rate year. 
However, CMS does not have authority to authorize payments that exceed 
statutory hospital-specific limits and those limits are based on actual 
uncompensated care costs. The goal of the regulation is to audit DSH 
payments made under the authority of the Medicaid State plan and to 
ensure that States do not make DSH payments that exceed those statutory 
hospital-specific cost limits. The information necessary for such 
confirmation is readily available to hospitals and the State based on 
existing financial and cost reporting tools.
    Comment: Many commenters noted that the proposed methodology would 
be inconsistent with their approved Medicaid State plan and conflicts 
with past CMS guidance and practice. They indicate that a retrospective 
audit to determine the accuracy of the estimates used to determine 
uncompensated care costs based on the approved prospective methodology 
would require changing the State plan. They ask how this audit should 
be conducted by States that already have CMS approval for use of 
prospective methodologies, not to mention that a retroactive audit 
could significantly affect already approved programs.
    Response: This regulation is not intended to require States to 
implement retrospective DSH methodologies. CMS recognizes that States 
may need to use estimates to determine DSH payments in an upcoming 
Medicaid State plan rate year. However, CMS cannot authorize DSH 
payments that exceed the limitations imposed by Congress. States will 
have to determine how to best ensure that prospective DSH methodologies 
do not result in payments that exceed those limitations, either by 
revising those methodologies or by providing for reconciliation of 
prospective payments with those limits. CMS as always is available to 
offer technical assistance to States in developing such methodologies.
    CMS has modified the regulation to include a transition period to 
ensure that States may adjust prospective estimates to avoid any 
immediate adverse fiscal impact.
8. Fiscal Impact--Effect on Federal Financial Participation
    Comment: A few commenters questioned whether CMS will withhold 
Federal Financial Participation from the States until its Independent 
Audit of DSH Payments is completed and filed with CMS.
    Response: The final regulation defines the time periods applicable 
to the auditing and reporting of DSH payments. These deadlines provide 
sufficient time for States to comply with the statute. The final 
regulation also provides that Federal financial participation for DSH 
payments is not available to any State that has not submitted its 
required audits and reports.
    Comment: A few commenters said that the proposed regulation states 
the penalty for failure to provide the required information by the 
stipulated deadline but does not address the question of whether or not 
CMS will require States to return DSH funds if the information 
collected is unsatisfactory to CMS.
    Response: The goal of the regulation is to audit DSH payments made 
under the authority of the Medicaid State plan and to ensure that 
States do not make DSH payments that exceed the hospital-specific cost 
limit defined in Section 1923(g) of the Act. CMS has modified the 
regulation to include a transition period to ensure that States have an 
opportunity to refine audit and reporting practices and determine the 
impact on the State DSH methodologies. The final regulation provides 
that Federal financial participation for DSH payments is not available 
to any State that has not submitted its required audits and reports. 
However, CMS intends to work with States to ensure that the audits and 
reports meet all statutory and regulatory requirements.
    Comment: A few commenters asked for clarification on the actions 
that may be taken against States if States are not found to be in 
compliance with all verifications required as part of the audit (Sec.  
455.204(c)).
    Response: The final regulation defines the time periods applicable 
to the auditing and reporting of DSH

[[Page 77945]]

payments. These deadlines provide sufficient time for States to comply 
with the statute. The final regulation also provides that Federal 
financial participation in DSH payments is not available to any State 
that has not submitted its required audits and reports. As mentioned 
above, CMS intends to work with States to ensure that the audits and 
reports meet all statutory and regulatory requirements.
    Comment: A few commenters said the proposed regulation is silent on 
the question of post-audit adjustments. In some cases, audits will 
reveal actual costs that were not included in the estimated 
uncompensated care costs provided. In such cases, provided there are 
funds remaining in the State's DSH allotment or other money available 
for such purposes, the commenters recommended that States should be 
permitted to compensate hospitals.
    Response: CMS has modified the regulation to lengthen the time 
frame for preparation of the required report and audit, and to include 
a transition period to ensure that States have time to refine their 
audit processes. The instance of post audit adjustments will be 
significantly lessened as a result.
9. Verification Three--Data Sources Used in Calculation of Eligible 
Uncompensated Care Costs
    Comment: Many commenters requested clarity on the mechanics of 
reconciliation. Although the MMA requires an annual certified public 
audit, the proposed rule is unclear about how the audit will reconcile 
DSH payments and the hospitals' calculation of actual compensated care. 
Hospitals submit accurate data on Medicaid and uncompensated care at a 
point in time. Data can change over time as claims and payment appeals 
are settled.
    Response: We believe that the three-year period allotted for 
completion of the audit accommodates these concerns. Sufficient time is 
available to ensure that necessary cost reports and other financial 
data are available to make these determinations. This accommodates the 
concern expressed in many comments regarding claims lags and is 
consistent with the varying hospital cost report periods and 
adjustments. CMS has developed a General DSH Audit and Reporting 
Protocol to provide guidance to States, DSH hospitals and auditors in 
the completion of the DSH audit. This protocol provides general 
instructions regarding the calculations the auditor will make based on 
the data provided.
10. Verification Four--Proper Accounting of Medicaid and Uninsured 
Revenues
    Comment: A few commenters noted that the audit and reporting 
requirements are unnecessary in several States where the federal DSH 
allocation to the States has consistently fallen short of the State's 
aggregate DSH limit by at least $200 million in each of the past five 
years.
    Response: The Statewide aggregate DSH allotment is only one of the 
limitations on DSH payments. The audit and reporting requirements also 
concern hospital-specific limitations, which involve review of specific 
payments and specific costs by individual hospital. The goal of the 
audit and report is to ensure that DSH payments made by States under 
the authority of the approved Medicaid State plan do not exceed the 
hospital-specific uncompensated care cost limit as required by Section 
1923(g) of the Act. Irrespective of a State's aggregate DSH allotment, 
or overall levels of uncompensated care, a DSH hospital may not receive 
more in DSH payments than the individual hospital's eligible 
uncompensated care costs.
    Comment: A few commenters stated that the financial exposure for 
the Federal government through the use of estimated rather than 
reconciled data is not significant, as total DSH expenditures are 
limited by the Statewide DSH allotment. The benefit obtained through 
the reconciliation mandate is therefore far outweighed by its costs.
    Response: As discussed above, the Statewide DSH allotment and 
hospital-specific limitations are separate and distinct. Section 
1923(g)(1)(A) of the Act specifies that DSH payments cannot exceed, 
``the costs incurred during the year of furnishing hospital services 
(as determined by the Secretary and net of payments under this title, 
other than under this Section, and by uninsured patients * * *)''. 
Section 1923(j) of the Act and this regulation require States to audit 
DSH payments made under the authority of the Medicaid State plan and to 
ensure that States do not make DSH payments that exceed this hospital-
specific cost limit.
    The data elements necessary for the State to complete the DSH audit 
and report should, in part, be information the State already gathers to 
administer the DSH program. Thus, CMS believes that the burden on the 
State will not be substantial. The State will have some additional cost 
associated with engaging an auditor but that cost is eligible for 
Federal administrative matching funds.
    Comment: Numerous commenters expressed concern about the proposed 
rule because adoption would greatly reduce the DSH payments to 
hospitals. Such a reduction would eliminate some of the future services 
hospitals provide. The largest burden would be on the impoverished 
communities since many of those people could not travel to receive 
those services elsewhere.
    Response: Hospitals should not realize a significant reduction in 
DSH payments based on the audit and reporting requirements. Moreover, 
any reduction would simply be the result of ensuring that limited State 
DSH funds are used appropriately and meet the requirements of the 
Medicaid statute. This rule will help to ensure that Medicaid DSH 
payments appropriately recognize allowable unreimbursed Medicaid and 
uninsured uncompensated care costs. The DSH law was enacted to 
recognize needs of hospitals that serve a disproportionate number of 
Medicaid and low-income patients. In 1993, Congress imposed hospital-
specific limitations on the level of DSH payments to which qualifying 
hospitals were entitled. Section 1923(g)(1)(A) specifies that DSH 
payments cannot exceed, ``the costs incurred during the year of 
furnishing hospital services (as determined by the Secretary and net of 
payments under this title, other than under this Section, and by 
uninsured patients * * *)''. Congress clearly identified the DSH limit 
as specific to the costs incurred for providing certain hospital 
services to Medicaid individuals and individuals with no source of 
third party coverage.
    Comment: Several commenters expressed concern that the results of 
audits may be used to attempt to take back money from States and/or 
hospitals for failing to meet standards that they never knew existed, 
long after hospital's fiscal year is over. If the State would be 
required to return DSH money to the Federal Government, this would 
necessitate the return of DSH money to the State by hospitals. This 
would be extremely burdensome for hospitals, which undoubtedly would 
already have spent that money serving their low-income and uninsured 
patients. One commenter said that after-the-fact exposure is untenable 
for States with balanced budget requirements.
    Response: CMS has modified the regulation to include a transition 
period to ensure that States may adjust uncompensated care estimates 
prospectively to avoid any immediate adverse fiscal impact and to 
assist States in ensuring that future DSH payments do not exceed the 
hospital-specific DSH limit. To permit States an opportunity to

[[Page 77946]]

develop and refine audit procedures, audit findings from Medicaid State 
plan rate year 2005-2010 will be limited to use for the purpose of 
estimating prospective hospital-specific uncompensated care cost limits 
in order to make actual DSH payments in the upcoming Medicaid State 
plan rate years. CMS is not requiring retroactive collection for 
Medicaid State plan rate years that have already passed. By using that 
time to improve State DSH payment methodologies, States may avoid 
circumstances in which DSH payments that exceed Federal statutory 
limits must be recouped from hospitals. CMS will also be available to 
provide necessary technical assistance to States to ensure proper 
implementation of these requirements.
    Comment: One commenter said that their State plan permitted DSH 
payments to DSH-eligible, out-of-State hospitals that service the 
State's Medicaid recipients. The commenter requested clarity regarding 
the State's responsibility in terms of hospital-specific DSH limit 
calculations and auditing and reporting requirements insofar as these 
out-of-State hospitals are concerned.
    Response: A State is required to audit payments and costs for only 
those DSH hospitals that are located within the State. This method will 
allow the auditor to recognize DSH payments received from other States 
in addition to the DSH payments received by that hospital under the 
``home-State's'' approved Medicaid State plan.
    For States that make DSH payments to hospitals in other States, the 
State must include in the reporting requirements the DSH payments made 
to hospitals located outside of the State but would not be required to 
audit those out-of-State DSH hospital's total DSH payments/total 
eligible uncompensated care costs. This method will ensure that no DSH 
hospital is audited more than one time per year for purposes of the DSH 
auditing and reporting requirements under Section 1923(j) of the Act.
    Comment: A few commenters asked whether CMS will require States to 
include in the report information on patients from another State.
    Response: The goal of the audit and report is to ensure that DSH 
payments made by States under the authority of the approved Medicaid 
State plan do not exceed the hospital-specific cost limit. In order to 
do this, all applicable revenues must be offset against all eligible 
costs. For purposes of determining the hospital-specific DSH limit, 
revenues would include all Medicaid payments made to hospitals for 
providing inpatient and outpatient hospital services to Medicaid 
individuals (irrespective of the State in which the individual is 
eligible) and all payments made by or on behalf of patients with no 
source of third party coverage for the inpatient and outpatient 
hospital services they received. For purposes of the DSH audit and to 
determine whether hospital-specific cost limits have been exceeded, all 
DSH payments made by States and received by a hospital would need to be 
offset against the determined eligible uncompensated care cost limit.
    Any Medicaid payments received by a hospital from any Medicaid 
agency (in state or out of state) should be counted as revenue offsets 
against total incurred Medicaid costs. Any DSH payments received by a 
hospital from any Medicaid agency (in state or out of state) must be 
counted as an offset against uncompensated care for purposes of the DSH 
audit and ensuring that the hospital-specific DSH limit is not 
exceeded.
    Comment: One commenter requested instructions for reporting 
information to CMS related to DSH payments on an annual basis. Annual 
reporting requirements also contain specific reporting requirements 
related to DSH payments. The commenter asked for clarification as to 
whether the proposed rules supersede the reporting requirements 
detailed in the March 26, 2004, Federal Register Notice [CMS-2062-N].
    Response: All DSH reporting requirements published under CMS-2062-N 
are superseded by Section 1923(j) of the Act and this implementing 
regulation.
    Comment: A few commenters noted the proposed Sec.  447.299(c)(8) 
incorrectly refers to Section 1923(g) instead of referring to the 
entire Section 1923.
    Response: The regulation has been modified to reflect the correct 
statutory citation.
    Comment: A few commenters noted that the Reporting form was not 
included with the proposed rules and requested a copy of the example 
Reporting form.
    Response: A modified Reporting form is included in this regulation.
    Comment: One commenter noted that in FY 2003, total Federal DSH 
allotments to States totaled just under $9 billion. The commenter 
requests copies of any audit findings and/or programs associated with 
CMS' historic and ongoing efforts to audit and/or verify the figures 
used by States to justify Federal funds.
    Response: The commenter may request information consistent with the 
authority of the Freedom of Information Act.
    Comment: One commenter noted CMS has not pointed to any systematic 
findings that call into question the reasonableness of approved 
methodologies.
    Response: The statutory authority under MMA instructed States to 
report and audit specific payments and specific costs. This rule does 
not call into question the reasonableness of approved methodologies; it 
simply implements the statutory reporting and auditing requirements to 
determine whether DSH payments were proper with respect to the specific 
DSH hospitals that were paid.

C. Regulatory Impact

    Comment: Several commenters stated that there would be a 
significant burden on the States for the reporting requirement in terms 
of time and effort to prepare and submit the required information and 
that CMS' estimate of the time needed for the proposed Sec.  447.299(c) 
reporting requirements is underestimated. One commenter questioned 
whether this estimate is based upon an assumption by CMS that States 
have historically been collecting and verifying the information 
required in the report to CMS. The commenter requested that CMS provide 
details on how this estimate was calculated.
    Response: CMS believes that since the audit relies on documents 
already available to hospitals that the audit data burden will neither 
be significant nor costly. The reporting of each year's audit findings 
will be achieved through the completion of a one-page Reporting form. 
The elements necessary for this report will be extrapolated from the 
data and analysis performed by the auditor and will be based on 
existing source documentation.
    Comment: One commenter noted that if a State utilizes different 
criteria for qualifying hospitals as a DSH than the Medicaid Inpatient 
Utilization Rate or the Low-Income Utilization Rate, then these two 
calculations would be unnecessary. The commenter asserted that 
requiring a State to calculate and submit the Medicaid Inpatient 
Utilization Rate and Low-Income Utilization Rate calculations would be 
an additional burden. The commenter asked if CMS considered this added 
effort in the estimate of States' time and effort to prepare and submit 
the required information.
    Response: Section 1923(j) of the Act imposes audit and reporting 
requirements on States regarding payments to DSH eligible hospitals. As 
part of this process, CMS must

[[Page 77947]]

determine if all hospitals receiving DSH payments under the Medicaid 
State plan actually qualify to receive such payments. Sections 
1923(b)(1)(A) and (B) of the Act require that all hospitals meeting the 
Medicaid Inpatient Utilization Rate (MIUR) or the Low Income 
Utilization Rate (LIUR) calculated therein are deemed DSH hospitals. 
This is the minimum Federal standard. States have the right to use 
alternative qualifying criteria that are broader. States that use only 
the LIUR or only the MIUR to determine DSH qualification should report 
on the statistic utilized in the approved Medicaid State plan for the 
Medicaid State plan rate year under audit. State using a broader 
methodology should use that statistic in lieu of the MIUR or LIUR.
    We believe that since the audit relies on documents already 
available to hospitals that the audit data burden will neither be 
significant nor costly. The reporting of each year's audit findings 
will be achieved through the completion of a one page Reporting form. 
The elements necessary for this report will be extrapolated from the 
data and analysis performed by the auditor and will be based on 
existing source documentation.
    Comment: A few commenters believe that the information collection 
burden is significant, that in many cases the information requested is 
ambiguous or inaccurate and there are likely more efficacious means of 
implementing the statutory requirements, for instance, by more closely 
tracking the S-10 categories. The commenters urge CMS to revise the 
regulation to reduce the paperwork burden associated with the new audit 
and reporting requirements and avoid imposing unnecessary additional 
administrative costs on States and hospital providers by considering 
less burdensome means of collecting necessary information.
    Response: Hospitals will be required to provide the State with data 
extracted from existing cost and financial reporting tools as well as 
copies of the source documents. The State must provide these data as 
well as Medicaid Management Information Systems and Medicaid State plan 
information to the auditor. The source documents would include the 
Medicare 2552-96 cost report, audited hospital financial statements and 
hospital accounting records in combination with information provided by 
the State's MMIS.
    We believe that since the audit relies on documents already 
available to hospitals that the audit data burden will neither be 
significant nor costly. The reporting of each year's audit findings 
will be achieved through the completion of a one page Reporting form. 
The elements necessary for this report will be extrapolated from the 
data and analysis performed by the auditor and will be based on 
existing source documentation.
    Worksheet S-10 is not part of the Medicare 2552-96 step-down 
process used to allocate inpatient and hospital outpatient costs. The 
cost allocation process utilized in the Medicare 2552-96 cost report is 
considered a key component of determining Medicaid and uninsured 
hospital costs.
    Comment: One commenter said that while collection activities in 
response to audit requirements are exempt from the Paperwork Reduction 
Act, CMS should acknowledge that the new substantive requirements that 
it is announcing in the form of audit standards will impose independent 
new paperwork burdens on States separate and apart from the response to 
the audits. For example, CMS' proposal that the audits verify that DSH 
payments do not exceed actual year costs will impose a massive new DSH 
reconciliation requirement on States so that the audits do not conclude 
that they have exceeded the hospital-specific DSH limits. Therefore, 
the commenters believe CMS should evaluate the paperwork burden 
associated with new standards announced as part of the audit 
requirements as well as the reporting requirements.
    Response: The goal of the regulation is to audit DSH payments made 
under the authority of the Medicaid State plan and to ensure that 
States do not make DSH payments that exceed the hospital-specific cost 
limit defined under Section 1923(g) of the Act. The information 
necessary for such confirmation is readily available to hospitals and 
the State based on existing financial and cost reporting tools. The 
reporting of each year's audit findings will be achieved through the 
completion of a one page Reporting form. The elements necessary for 
this report will be based on existing source documentation.
    Comment: Several commenters noted that the proposed rules will have 
a significant economic impact and therefore, the Regulatory Flexibility 
Act (RFA) requires CMS to analyze options for regulatory relief of 
small businesses, such as hospitals. The newly announced DSH 
requirements contained in the proposed rule and discussed throughout 
this comment letter may result in decreased DSH funding for some 
hospitals, jeopardizing their ability to provide broad access to 
services for the uninsured and underinsured.
    Response: CMS believes that this rule would not have a significant 
economic impact on a substantial number of small entities. The 
regulation requires States to audit and report DSH payments made to DSH 
eligible hospitals in a given Medicaid State plan rate year. Hospitals 
will only be required to provide data to States from existing primary 
source documents such as the Medicare 2552-96 cost report, audited 
hospital financials, and hospital accounting records. The regulation 
also includes a transition period to ensure that no immediate fiscal 
impact is realized by States or hospitals.
    Comment: Many commenters noted that the cost for hospital audits 
can reach $50,000 or higher per hospital and therefore contended that 
the estimate clearly suggests the economic impact of this one audit 
requirement will meet the test of a major rule under the Regulatory 
Flexibility Act.
    Response: Although the State will have some additional cost 
associated with engaging an auditor, but that cost is eligible for 
Federal administrative matching funds. The DSH audit and report is a 
necessary element in the administration of the Medicaid program to 
ensure that hospital-specific DSH limits are not exceeded by DSH 
payments made under the approved Medicaid State plan for a given year.
    Hospitals should not incur additional costs as they will be 
required to provide the State with data extracted from existing 
hospital cost and financial reporting tools supplemented with State 
generated data from the State's Medicaid Management Information System.

IV. Changes to the Proposed Rule

    As explained in our responses to comments, we have made the 
following revisions to the DSH Auditing and Reporting regulations 
published in the August 26, 2005 Proposed Rule:

A. Reporting Requirements

1. Audit Year and Submission Dates Defined
    CMS has modified the regulation at Sec.  447.299(c) to address 
concerns regarding the inability to complete the audit and report 
within a year from the end of SFY 2005. The regulation has been 
modified to identify the Medicaid State plan rate year 2005 as the 
first time period subject to the audit. The basis for this modification 
is recognition of varying fiscal periods between hospitals and States. 
The Medicaid State plan rate year is the one uniform time period under 
which all States must estimate uncompensated costs in order

[[Page 77948]]

to make DSH payments under the approved Medicaid State plan. The 
regulation has also been modified to identify that each audit report 
must be submitted to CMS within 90 days of the completion of the 
independent certified audit. The reports associated with Medicaid State 
plan rate years 2005 and 2006 are due no later than December 31, 2009. 
Each subsequent audit report is due no later than December 31st of the 
FFY ending three years after the Medicaid State plan rate year under 
audit.
2. Report Data Elements
    CMS has modified the regulation at Sec.  447.299(c) to address many 
comments concerning the necessary data elements to fulfill the audit 
and reporting requirements. Specifically, the regulation has been 
modified to remove the following data elements:
    1. Medicare provider number.
    2. Medicaid provider number.
    3. Type of hospital.
    4. Type of hospital ownership.
    5. Transfers.
    6. Medicaid eligible and uninsured individuals.
    In addition, the regulation at Sec.  447.299(c) has been modified 
to add or clarify the following data elements which are necessary to 
fulfill the auditing and reporting requirements:
    1. Identification of facilities that are Institutes for Mental 
Disease (IMD) receiving DSH payments;
    2. Identification of out-of-state hospitals receiving DSH payments;
    3. State estimate of hospital-specific DSH limit;
    4. Medicaid inpatient utilization rate (if applicable);
    5. Low-income utilization rate (if applicable);
    6. State-defined DSH eligibility statistic (if applicable);
    7. Total inpatient and outpatient Medicaid payments;
    8. Total inpatient and outpatient Medicaid cost of care;
    9. Total Medicaid inpatient and outpatient uncompensated care;
    10. Total inpatient and outpatient uninsured and self-pay revenues;
    11. Total applicable Section 1011 payments received by the 
hospital;
    12. Total inpatient and outpatient uninsured cost of care;
    13. Total inpatient and outpatient uninsured uncompensated care;
    14. Total eligible inpatient and outpatient uncompensated care.
    The Reporting form has also been modified to reflect these 
modifications.

B. Audit Requirements

1. Definitions
    CMS has modified the regulation at Sec.  455.201 to clarify the 
definition of independent certified audit to mean that the Single State 
Audit Agency or any other CPE firm that operates independently from the 
Medicaid agency is eligible to perform the DSH audit and to define 
Medicaid State plan rate year as the time period subject to the audit. 
The definition of State fiscal year has been removed.
2. Certified Independent Audit Requirements
    Based on many comments regarding the potential immediate adverse 
fiscal impact of the DSH audit on States, CMS has modified the 
regulation at Sec.  455.204(a) to indicate conditions related to the 
audit that States must meet in order to receive Federal 
disproportionate share hospital payments. A transition period related 
to audit findings for Medicaid State plan rate year 2005 through 2010 
is included in this Section. Instructions regarding audit findings and 
their applicability to Medicaid State plan rate year 2011 forward are 
also included. The modifications are as follows:
     Transition period. Findings of the 2005 and 2006 Medicaid 
State plan rate year audit and report will be available to States 
during their SFY 2010. These findings must be taken into consideration 
for Medicaid State plan rate year 2011 uncompensated care cost 
estimates and associated DSH payments.
     Audit findings associated with Medicaid State plan rate 
years 2007 through 2010 must be similarly considered for Medicaid State 
plan rate years 2012 through 2015. Findings from Medicaid State plan 
rate year 2005-2010 will be used only for the purpose of determining 
prospective hospital-specific eligible uncompensated care cost limits 
and associated DSH payments.
     DSH payments that exceed the hospital-specific eligible 
uncompensated care cost limit related to Medicaid State plan rate year 
2011 must be returned to the Federal government or redistributed by 
States to other qualifying hospitals.
    In response to many public comments regarding the inability of 
States to complete the audit within one year of the end of the State 
fiscal year, CMS has modified the regulation at Sec.  455.204(b) to 
indicate a new time period for the submission of the independent 
certified audit. The new time period is as follows:
     Identify that the Medicaid State plan rate year 2005 and 
2006 audits must be completed no later than the last day of Federal 
fiscal year 2009. Each subsequent audit beginning with Medicaid State 
plan rate year 2007 must be completed by the last day of the Federal 
fiscal year ending three years from the Medicaid State plan rate year 
under audit. Therefore, for the 2007 Medicaid State plan rate year, the 
audit must be completed by the last day of Federal fiscal year 2010.
    The regulation was modified at 455.204(c) to include a new Section 
identifying the primary sources and source documents from which States 
will draw data necessary to complete the independent certified audit. 
These documents are identified as:
     The approved Medicaid State plan for the State plan rate 
year under audit.
     State Medicaid Management Information System payment and 
utilization data.
     The Medicare 2552-96 cost report or subsequent Medicare 
defined hospital cost report tool.
     DSH hospital audited financial statements and hospital 
accounting records.
    The regulation was modified to redesignate Sec.  455.204(c) as 
Sec.  455.204(d) (1) through (6) to accommodate the new Sec.  
455.204(c).
    In addition, CMS developed a General DSH Auditing and Reporting 
Protocol to provide States with guidance on the completion of the DSH 
Audit and Report. This protocol will be available on the CMS Web site.

V. Collection of Information Requirements

    Under the Paperwork Reduction Act of 1995, we are required to 
provide 30-day notice in the Federal Register and solicit public 
comment before a collection of information requirement is submitted to 
the Office of Management and Budget (OMB) for review and approval. In 
order to fairly evaluate whether an information collection should be 
approved by OMB, Section 3506(c)(2)(A) of the Paperwork Reduction Act 
of 1995 requires that we solicit comment on the following issues:
     The need for the information collection and its usefulness 
in carrying out the proper functions of our agency.
     The accuracy of our estimate of the information collection 
burden.
     The quality, utility, and clarity of the information to be 
collected.
     Recommendations to minimize the information collection 
burden on the affected public, including automated collection 
techniques.

[[Page 77949]]

    Therefore, we are soliciting public comment on each of these issues 
for the following information collection requirements discussed below.

Section 447.299 Reporting Requirements

    Paragraph (c) of this Section requires the States to submit to CMS 
information for each DSH for the most recently-completed fiscal year 
beginning with the first full State fiscal year (SFY) after the 
enactment of Section 1001(d) of the MMA, which for all States will 
begin with their respective SFY 2005 and each subsequent SFY. This 
paragraph presents the information to be submitted.
    The burden associated with this requirement is the time and effort 
for the States to prepare and submit the required information. We 
estimate that it will take each State approximately 30 minutes to 
prepare and submit the information for each of its DSHs. On average, 
each State has approximately 75 DSHs. Therefore, we estimate it will 
take 38 hours per State to comply for a total of 1,976 annual hours. 
The burden for this requirement is currently approved under OMB 
 0938-0746 with an expiration date of August 31, 2011.

Section 455.204 Condition for Federal Financial Participation

    In summary, this Section states what information must be included 
in the audit report and submitted to CMS.
    The PRA exempts the information collection activities referenced in 
this Section. In particular, 5 CFR 1320.4 excludes collection 
activities during the conduct of administrative actions, 
investigations, or audits involving an agency against specific 
individuals or entities.
    As required by Section 3504(h) of the Paperwork Reduction Act of 
1995, we have submitted a copy of this final regulation to OMB for its 
review of these information collection requirements described above.
    If you comment on these information collection and recordkeeping 
requirements, please mail copies directly to the following:
    Centers for Medicare & Medicaid Services, Office of Strategic 
Operations and Regulatory Affairs, Division of Regulations Development, 
Attn.: Melissa Musotto, CMS-2198-F, Room C5-14-03, 7500 Security 
Boulevard, Baltimore, MD 21244-1850.
    Office of Information and Regulatory Affairs, Office of Management 
and Budget, Room 10235, New Executive Office Building, Washington, DC 
20503, Attn.: Katherine T. Astrich, CMS Desk Officer, CMS-2198-F, 
[email protected]. Fax (202) 395-6974.

VI. Regulatory Impact Analysis

    We have examined the impact of this rule as required by Executive 
Order 12866 (September 1993, Regulatory Planning and Review), the 
Regulatory Flexibility Act (RFA) (September 19, 1980, Pub. L. 96-354), 
Section 1102(b) of the Social Security Act, the Unfunded Mandates 
Reform Act of 1995 (Pub. L. 104-4), and Executive Order 13132 on 
Federalism, and the Congressional Review Act (5 U.S.C. 804(2)).
    Executive Order 12866, as amended, directs agencies to asses all 
costs and benefits of available regulatory alternatives and, if 
regulation is necessary, to select regulatory approaches that maximize 
net benefits (including potential economic, environmental, public 
health and safety effects, distributive impacts and equity). A 
regulatory impact analysis (RIA) must be prepared for major rules with 
economically significant effects ($100 million or more in any 1 year). 
This rule does not reach the economic threshold and thus is not 
considered a major rule.
    The RFA requires agencies to analyze options for regulatory relief 
of small businesses. For purposes of the RFA, small entities include 
small businesses, nonprofit organizations and government agencies. Most 
hospitals and most other providers and suppliers are small entities, 
either by nonprofit status or by having revenues of $7 million to $34.5 
million in any 1 year. Individuals and States are not included in the 
definition of a small entity. We are not preparing an analysis for the 
RFA because the Secretary has determined and we certify that this rule 
would not have a significant economic impact on a substantial number of 
small entities. This rule will directly affect States.
    In addition, Section 1102(b) of the Act requires us to prepare a 
regulatory impact analysis if a rule may have a significant impact on 
the operations of a substantial number of small rural hospitals. This 
analysis must conform to the provisions of Section 604 of the RFA. For 
purposes of Section 1102(b) of the Act, we define a small rural 
hospital as a hospital that is located outside of a metropolitan 
statistical area and has fewer than 100 beds. Therefore, the Secretary 
has determined and we certify that this final rule will not have a 
significant impact on the operations of a substantial number of small 
rural hospitals.
    Section 202 of the Unfunded Mandates Reform Act (UMRA) of 1995 also 
requires that agencies assess anticipated costs and benefits before 
issuing any rule whose mandates require spending in any 1 year of $100 
million in 1995 dollars, updated annually for inflation. In 2008 that 
threshold level is approximately $130 million. Since this rule would 
not mandate spending on State, local, or tribal governments in the 
aggregate, or by the private sector of $130 million or more in any 1 
year, the requirements of the UMRA are not applicable.
    Based upon the parameters of this rule and comments received, we do 
not believe the costs incurred by States will be significant. The final 
rule allows the DSH audits to be part of a hospital's annual financial 
audit (for example, the auditors would follow the DSH limit protocol 
provided in the regulation), which means a portion of the audit costs 
could actually be borne by the hospitals and not the States. Based upon 
comments received, it appears that most States want to incorporate the 
DSH audit into the annual hospital financial audits. If that is the 
case, the costs to the hospital should be minimal as well since the 
annual hospital financial audit is already a requirement.
    It is further unknown if any States will contract with an 
independent accounting firm to conduct the audit. While there would be 
a contracting cost to the State, it is unknown what that cost would be 
and we believe it unlikely that States will avail themselves of this 
option. The final rule does allow for the use of the Single State 
Auditor to perform the DSH audit and if that is done, CMS would match 
the State audit costs at the 50 percent administrative matching rate.
    Regardless of the mechanism for conducting the DSH audit, the 
auditor will be using existing documentation (for example, hospital 
cost reports, hospital accounting records, and MMIS) and apply the 
methodology provided by this rule, which should result in nominal 
costs.
    Executive Order 13132 establishes certain requirements that an 
agency must meet when it promulgates a proposed rule (and subsequent 
final rule) that imposes substantial direct requirement costs of State 
and local governments, preempts State law, or otherwise has Federalism 
implications. Since this rule would not impose any costs on State or 
local governments, preempt State law, or otherwise have Federalism 
implications, the requirements of E.O. 13132 are not applicable.
    In accordance with the provisions of Executive Order 12866, this 
regulation was reviewed by the Office of Management and Budget.

[[Page 77950]]

List of Subjects

42 CFR Part 447

    Accounting, Administrative practice and procedure, Drugs, Grant 
programs--health, Health facilities, Health professions, Medicaid, 
Reporting and recordkeeping requirements, and Rural areas.

42 CFR Part 455

    Fraud, Grant programs--health, Health facilities, Health 
professions, Investigations, Medicaid, and Reporting and recordkeeping 
requirements.

0
The Centers for Medicare & Medicaid Services amends 42 CFR chapter IV 
as follows:

PART 447--PAYMENTS FOR SERVICES

0
1. The authority citation for part 447 continues to read as follows:

    Authority: Sec 1102 of the Social Security Act (42 U.S.C. 1302).


0
2. Section 447.299 is amended by--
0
A. Redesignating existing paragraphs (c) and (d) as paragraphs (d) and 
(e).
0
B. Adding a new paragraph (c) to read as set forth below.


Sec.  447.299  Reporting requirements.

* * * * *
    (c) Beginning with each State's Medicaid State plan rate year 2005, 
for each Medicaid State plan rate year, the State must submit to CMS, 
at the same time as it submits the completed audit required under Sec.  
455.204, the following information for each DSH hospital to which the 
State made a DSH payment in order to permit verification of the 
appropriateness of such payments:
    (1) Hospital name. The name of the hospital that received a DSH 
payment from the State, identifying facilities that are institutes for 
mental disease (IMDs) and facilities that are located out-of-state.
    (2) Estimate of hospital-specific DSH limit. The State's estimate 
of eligible uncompensated care for the hospital receiving a DSH payment 
for the year under audit based on the State's methodology for 
determining such limit.
    (3) Medicaid inpatient utilization rate. The hospital's Medicaid 
inpatient utilization rate, as defined in Section 1923(b)(2) of the 
Act, if the State does not use alternative qualification criteria 
described in paragraph (c)(5) of this section.
    (4) Low income utilization rate. The hospital's low income 
utilization rate, as defined in Section 1923(b)(3) of the Act if the 
State does not use alternative qualification criteria described in 
paragraph (c)(5) of this section.
    (5) State defined DSH qualification criteria. If the State uses an 
alternate broader DSH qualification methodology as authorized in 
Section 1923(b)(4) of the Act, the value of the statistic and the 
methodology used to determine that statistic.
    (6) IP/OP Medicaid fee-for-service (FFS) basic rate payments. The 
total annual amount paid to the hospital under the State plan, 
including Medicaid FFS rate adjustments, but not including DSH payments 
or supplemental/enhanced Medicaid payments, for inpatient and 
outpatient services furnished to Medicaid eligible individuals.
    (7) IP/OP Medicaid managed care organization payments. The total 
annual amount paid to the hospital by Medicaid managed care 
organizations for inpatient hospital and outpatient hospital services 
furnished to Medicaid eligible individuals.
    (8) Supplemental/enhanced Medicaid IP/OP payments. Indicate the 
total annual amount of supplemental/enhanced Medicaid payments made to 
the hospital under the State plan. These amounts do not include DSH 
payments, regular Medicaid FFS rate payments, and Medicaid managed care 
organization payments.
    (9) Total Medicaid IP/OP Payments. Provide the total sum of items 
identified in Sec.  447.299(c)(6), (7) and (8).
    (10) Total Cost of Care for Medicaid IP/OP Services. The total 
annual costs incurred by each hospital for furnishing inpatient 
hospital and outpatient hospital services to Medicaid eligible 
individuals.
    (11) Total Medicaid Uncompensated Care. The total amount of 
uncompensated care attributable to Medicaid inpatient and outpatient 
services. The amount should be the result of subtracting the amount 
identified in Sec.  447.299(c)(9) from the amount identified in Sec.  
447.299(c)(10). The uncompensated care costs of providing Medicaid 
physician services cannot be included in this amount.
    (12) Uninsured IP/OP revenue. Total annual payments received by the 
hospital by or on behalf of individuals with no source of third party 
coverage for inpatient and outpatient hospital services they receive. 
This amount does not include payments made by a State or units of local 
government, for services furnished to indigent patients.
    (13) Total Applicable Section 1011 Payments. Federal Section 1011 
payments for uncompensated inpatient and outpatient hospital services 
provided to Section 1011 eligible aliens with no source of third party 
coverage for the inpatient and outpatient hospital services they 
receive.
    (14) Total cost of IP/OP care for the uninsured. Indicate the total 
costs incurred for furnishing inpatient hospital and outpatient 
hospital services to individuals with no source of third party coverage 
for the hospital services they receive.
    (15) Total uninsured IP/OP uncompensated care costs. Total annual 
amount of uncompensated IP/OP care for furnishing inpatient hospital 
and outpatient hospital services to Medicaid eligible individuals and 
to individuals with no source of third party coverage for the hospital 
services they receive. The amount should be the result of subtracting 
paragraphs (c)(12) and (c)(13), from paragraph (c)(14) of this section. 
The uncompensated care costs of providing physician services to the 
uninsured cannot be included in this amount. The uninsured 
uncompensated amount also cannot include amounts associated with unpaid 
co-pays or deductibles for individuals with third party coverage for 
the inpatient and/or outpatient hospital services they receive or any 
other unreimbursed costs associated with inpatient and/or outpatient 
hospital services provided to individuals with those services in their 
third party coverage benefit package. Nor does uncompensated care costs 
include bad debt or payer discounts related to services furnished to 
individuals who have health insurance or other third party payer.
    (16) Total annual uncompensated care costs. The total annual 
uncompensated care cost equals the total cost of care for furnishing 
inpatient hospital and outpatient hospital services to Medicaid 
eligible individuals and to individuals with no source of third party 
coverage for the hospital services they receive less the sum of regular 
Medicaid FFS rate payments, Medicaid managed care organization 
payments, supplemental/enhanced Medicaid payments, uninsured revenues, 
and Section 1011 payments for inpatient and outpatient hospital 
services. This should equal the sum of paragraphs (c)(11) and (c)(15) 
subtracted from the sum of paragraphs (c)(9), (c)(12) and (c)(13) of 
this Section.
    (17) Disproportionate share hospital payments. Indicate total 
annual payment adjustments made to the hospital under Section 1923 of 
the Act.
    (18) States must report DSH payments made to all hospitals under 
the authority of the approved Medicaid State plan. This includes both 
in-State and out-of-State hospitals. For out-of-State hospitals, States 
must report, at a minimum, the information identified in

[[Page 77951]]

Sec.  447.299(c)(1) through (c)(6), (c)(8), (c)(9) and (c)(17).
* * * * *

PART 455--PROGRAM INTEGRITY: MEDICAID

0
1. The authority citation for part 455 continues to read as follows:

    Authority: Sec 1102 of the Social Security Act (42 U.S.C. 1302).

0
2. Add new subpart D to read as follows:
Subpart D--Independent Certified Audit of State Disproportionate Share 
Hospital Payment Adjustments
Sec.
455.300 Purpose.
455.301 Definitions.
455.304 Condition for Federal financial participation (FFP).

Subpart D--Independent Certified Audit of State Disproportionate 
Share Hospital Payment Adjustments


Sec.  455.300  Purpose.

    This subpart implements Section 1923(j)(2) of the Act.


Sec.  455.301  Definitions.

    For the purposes of this subpart--
    Independent certified audit means an audit that is conducted by an 
auditor that operates independently from the Medicaid agency or subject 
hospitals and is eligible to perform the DSH audit. Certification means 
that the independent auditor engaged by the State reviews the criteria 
of the Federal audit regulation and completes the verification, 
calculations and report under the professional rules and generally 
accepted standards of audit practice. This certification would include 
a review of the State's audit protocol to ensure that the Federal 
regulation is satisfied, an opinion for each verification detailed in 
the regulation, and a determination of whether or not the State made 
DSH payments that exceeded any hospital's specific DSH limit in the 
Medicaid State plan rate year under audit. The certification should 
also identify any data issues or other caveats that the auditor 
identified as impacting the results of the audit.
    Medicaid State Plan Rate Year means the 12-month period defined by 
a State's approved Medicaid State plan in which the State estimates 
eligible uncompensated care costs and determines corresponding 
disproportionate share hospital payments as well as all other Medicaid 
payment rates. The period usually corresponds with the State's fiscal 
year or the Federal fiscal year but can correspond to any 12-month 
period defined by the State as the Medicaid State plan rate year.


Sec.  455.304  Condition for Federal financial participation (FFP).

    (a) General rule. (1) The State must submit an independent 
certified audit to CMS for each completed Medicaid State plan rate 
year, consistent with the requirements in this subpart, to receive 
Federal payments under Section 1903(a)(1) of the Act based on State 
expenditures for disproportionate share hospital (DSH) payments for 
Medicaid State plan rate years subsequent to the date the audit is due, 
except as provided in paragraph (e) of this section.
    (2) FFP is not available in expenditures for DSH payments that are 
found in the independent certified audit to exceed the hospital-
specific eligible uncompensated care cost limit, except as provided in 
paragraph (e) of this section.
    (b) Timing. For Medicaid State plan rate years 2005 and 2006, a 
State must submit to CMS an independent certified audit report no later 
than the last day of calendar year 2009. Each subsequent audit 
beginning with Medicaid State plan rate year 2007 must be completed by 
the last day of the Federal fiscal year ending three years from the end 
of the Medicaid State plan rate year under audit. Completed audit 
reports must be submitted to CMS no later than 90 days after 
completion. Post-audit adjustments based on claims for the Medicaid 
State plan rate year paid subsequent to the audit date, if any, must be 
submitted in the quarter the claim was paid.
    (c) Documentation. In order to complete the independent certified 
audit, States must use the following data sources:
    (1) Approved Medicaid State plan for the Medicaid State plan rate 
year under audit.
    (2) Payment and utilization information from the State's Medicaid 
Management Information System.
    (3) The Medicare 2552-96 hospital cost report(s) applicable to the 
Medicaid State plan rate year under audit. If the Medicare 2552-96 is 
superseded by an alternate Medicare developed cost reporting tool 
during an audit year, that tool must be used for the Medicaid State 
plan rate year under audit.
    (4) Audited hospital financial statements and hospital accounting 
records.
    (d) Specific requirements. The independent certified audit report 
must verify the following:
    (1) Verification 1: Each hospital that qualifies for a DSH payment 
in the State is allowed to retain that payment so that the payment is 
available to offset its uncompensated care costs for furnishing 
inpatient hospital and outpatient hospital services during the Medicaid 
State plan rate year to Medicaid eligible individuals and individuals 
with no source of third party coverage for the services in order to 
reflect the total amount of claimed DSH expenditures.
    (2) Verification 2: DSH payments made to each qualifying hospital 
comply with the hospital-specific DSH payment limit. For each audited 
Medicaid State plan rate year, the DSH payments made in that audited 
Medicaid State plan rate year must be measured against the actual 
uncompensated care cost in that same audited Medicaid State plan rate 
year. (3) Verification 3: Only uncompensated care costs of furnishing 
inpatient and outpatient hospital services to Medicaid eligible 
individuals and individuals with no third party coverage for the 
inpatient and outpatient hospital services they received as described 
in Section 1923(g)(1)(A) of the Act are eligible for inclusion in the 
calculation of the hospital-specific disproportionate share limit 
payment limit, as described in Section 1923(g)(1)(A) of the Act.
    (4) Verification 4: For purposes of this hospital-specific limit 
calculation, any Medicaid payments (including regular Medicaid fee-for-
service rate payments, supplemental/enhanced Medicaid payments, and 
Medicaid managed care organization payments) made to a disproportionate 
share hospital for furnishing inpatient hospital and outpatient 
hospital services to Medicaid eligible individuals, which are in excess 
of the Medicaid incurred costs of such services, are applied against 
the uncompensated care costs of furnishing inpatient hospital and 
outpatient hospital services to individuals with no source of third 
party coverage for such services.
    (5) Verification 5: Any information and records of all of its 
inpatient and outpatient hospital service costs under the Medicaid 
program; claimed expenditures under the Medicaid program; uninsured 
inpatient and outpatient hospital service costs in determining payment 
adjustments under this Section; and any payments made on behalf of the 
uninsured from payment adjustments under this Section has been 
separately documented and retained by the State.
    (6) Verification 6: The information specified in paragraph (d)(5) 
of this Section includes a description of the methodology for 
calculating each hospital's payment limit under Section 1923(g)(1) of 
the Act. Included in the description of the methodology, the

[[Page 77952]]

audit report must specify how the State defines incurred inpatient 
hospital and outpatient hospital costs for furnishing inpatient 
hospital and outpatient hospital services to Medicaid eligible 
individuals and individuals with no source of third party coverage for 
the inpatient hospital and outpatient hospital services they received.
    (e) Transition Provisions: To ensure a period for developing and 
refining reporting and auditing techniques, findings of State reports 
and audits for Medicaid State Plan years 2005-2010 will not be given 
weight except to the extent that the findings draw into question the 
reasonableness of State uncompensated care cost estimates used for 
calculations of prospective DSH payments for Medicaid State plan year 
2011 and thereafter.

(Catalog of Federal Domestic Assistance Program No. 93.778, Medical 
Assistance Program)

    Dated: September 25, 2008.
Kerry Weems,
Acting Administrator, Centers for Medicare & Medicaid Services.
    Approved: October 29, 2008.
Michael O. Leavitt,
Secretary.

    Editorial Note: This document was received in the Office of the 
Federal Register on Friday, December 12, 2008.
[FR Doc. E8-30000 Filed 12-18-08; 8:45 am]
BILLING CODE 4120-01-P