Health Centers and Rural Clinics: Payments Likely to Be 	 
Constrained Under Medicaid's New System (19-JUN-01, GAO-01-577). 
								 
To increase the accessibility of primary and preventive health	 
services for low-income people living in medically underserved	 
areas, Congress made federally qualified health centers (FQHC)	 
and rural health clinics (RHC) eligible for Medicaid payments.	 
Since 1989, federal law has required the Medicaid program to	 
reimburse both FQHCs and RHCs based on the reasonable costs they 
incurred in providing services to beneficiaries. Cost-based	 
reimbursement can ensure that service providers are reimbursed	 
for necessary costs; it is also regarded as inflationary because 
providers can increase their payments by raising their costs. In 
part because of their mandate to preserve and expand necessary	 
primary health care services, FQHCs and RHCs have traditionally  
received reimbursement based on their costs in an effort to	 
ensure adequate payment. However, this approach does little to	 
encourage efficiency. The new payment system mandated by the	 
Benefits Improvement and Protection Act attempts to ensure	 
adequacy by basing payments on historical rates while promoting  
efficiency by limiting increases. However, the combination of	 
reimbursement limits imposed historically by most states and the 
inflation adjustments in the new prospective payment system may  
contain future Medicaid payment to some FQHCs and RHCs. Finding a
mechanism to strike the proper balance between payment adequacy  
and incentives for efficiency has been, and will likely be, a	 
challenge.							 
-------------------------Indexing Terms------------------------- 
REPORTNUM:   GAO-01-577 					        
    ACCNO:   A01031						        
  TITLE:     Health Centers and Rural Clinics: Payments Likely to Be  
             Constrained Under Medicaid's New System                          
     DATE:   06/19/2001 
  SUBJECT:   Community health services				 
	     Health care costs					 
	     Health insurance cost control			 
	     State-administered programs			 
	     Medicaid Program					 
	     Medicaid Prospective Payment System		 

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GAO-01-577
     
Report to Congressional Committees

United States General Accounting Office

GAO

June 2001 HEALTH CENTERS AND RURAL CLINICS

Payments Likely to Be Constrained Under Medicaid's New System

GAO- 01- 577

Page i GAO- 01- 577 Effect of New Medicaid Payment System Letter 1

Appendix I Scope and Methodology 18

Appendix II State Practices Regarding Supplemental Payments 20

Appendix III Comments From the Department of Health and Human Services 22

Appendix IV GAO Contact and Staff Acknowledgments 25

Related GAO Products 26

Tables

Table 1: Percentage Increase in BIPA Index Compared to Indexes Used by
States That Paid FQHCs Prospectively, 1996 Through 1999 14 Table 2: States?
Provision of Supplemental Payments to FQHCs and

RHCs, 2000 20

Figures

Figure 1: Comparison of Revenue Sources for FQHCs and RHCs 5 Figure 2: The
Typical Reimbursement Process for FQHCs 10 Figure 3: The Applicability of
the Supplemental Payment

Requirement in BBA 11 Contents

Page 1 GAO- 01- 577 Effect of New Medicaid Payment System

June 19, 2001 Congressional Committees To increase the accessibility of
primary and preventive health services for low- income people living in
medically underserved areas, Congress made Federally Qualified Health
Centers (FQHCs) and Rural Health Clinics (RHCs) eligible for Medicaid
payments. FQHCs are urban or rural centers that provide comprehensive
community- based primary care services to the medically underserved
regardless of their ability to pay; FQHCs have two major revenue sources-
Medicaid (34 percent) and federal grant funds from the Health Resources and
Services Administration (23 percent). RHCs provide primary care services in
rural underserved areas and may be operated either as independent clinics or
as parts of larger organizations, such as hospitals. On average, RHCs
receive approximately 25 percent of their revenue from Medicaid, and almost
60 percent of their revenue from Medicare and private insurance payments.
Since 1989, federal law has required the Medicaid program to reimburse both
FQHCs and RHCs based on their reasonable costs, that is, costs that are not
excessive for a type of cost or service provided to Medicaid beneficiaries.
1 While such reimbursement can ensure that service providers are reimbursed
for necessary costs, it is also regarded as inflationary because providers
can increase their payments by raising their costs.

From 1997 through 2000, Congress on three occasions has modified
requirements for Medicaid reimbursement for FQHCs and RHCs. These changes
have generally relaxed requirements to use cost- based reimbursement, but
have also aimed to ensure the financial well- being of FQHCs and RHCs. The
Balanced Budget Act of 1997 (BBA) gave states the flexibility to gradually
phase out Medicaid cost- based reimbursement by 2003. 2 However, BBA also
required that states using capitated managed care plans in their Medicaid
programs supplement managed care plan payments to FQHCs and RHCs if
necessary to ensure they receive as much

1 Section 6404 of the Omnibus Budget Reconciliation Act (OBRA) of 1989 (P.
L. No. 101- 239, 103 Stat. 2258, 2264) established the Federally Qualified
Health Centers program in Medicaid and required state Medicaid agencies to
reimburse FQHCs for 100 percent of reasonable costs. Cost- based
reimbursement for RHCs dates back to 1977. See P. L. No. 95- 210, 91 Stat.
1485, 1488).

2 See Section 4712 of the Balanced Budget Act of 1997 (P. L. 105- 33).

United States General Accounting Office Washington, DC 20548

Page 2 GAO- 01- 577 Effect of New Medicaid Payment System

as they would have under the cost- based reimbursement requirements. 3 The
Balanced Budget Refinement Act of 1999 (BBRA) slowed the phase out of cost-
based reimbursement requirements for FQHCs and RHCs. 4 Most recently, the
Benefits Improvement and Protection Act of 2000 (BIPA) replaced the
requirement for cost- based reimbursement with a new prospective payment
system (PPS) that is effective for services provided beginning January 1,
2001. 5 Under the PPS, the first year?s payment is set at an FQHC?s or RHC?s
average cost per visit for 1999 and 2000. Future years? payments are
adjusted annually for inflation, and when necessary, for changes in the
scope of services.

BBRA also required that we evaluate the impact of changing Medicaid
reimbursement to FQHCs and RHCs. Specifically, we (1) describe how states
implemented the pre- BBA cost- based reimbursement requirement and the
extent to which states? practices changed following the enactment of BBA and
(2) assess the potential impact of the PPS enacted under BIPA on FQHCs and
RHCs.

To examine these issues, we surveyed Medicaid officials in 50 states and the
District of Columbia regarding their FQHC and RHC reimbursement policies. We
visited eight FQHCs and nine RHCs in five states with varying reimbursement
policies. (For additional detail on our survey and the FQHCs and RHCs we
visited, see app. I.) We spoke with officials at the federal Health Care
Financing Administration (HCFA), which oversees states? Medicaid programs
and also has responsibilities for RHCs. 6 We also spoke with officials from
the Health Resources and Services Administration (HRSA), which is
responsible for reviewing FQHC applications and disbursing federal grant
funds to FQHCs. Our work was conducted from May 2000 through May 2001 in
accordance with generally accepted government auditing standards.

3 Over one- half of the states currently have some populations enrolled in
capitated managed care plans. 4 See Section 603 of the Medicare, Medicaid,
and SCHIP Balanced Budget Refinement of 1999 (P. L. 106- 113). 5 See Section
702 of the Medicare, Medicaid, and SCHIP Benefits Improvement and Protection
Act of 2000 (P. L. 106- 554). 6 On June 14, 2001, the Secretary of Health
and Human Services announced that the name of HCFA has been changed to the
Centers for Medicare & Medicaid Services (CMS).

Page 3 GAO- 01- 577 Effect of New Medicaid Payment System

In implementing the pre- BBA cost- based reimbursement requirement, many
states controlled payment rates by imposing limits on what costs were
considered reasonable. These limits resulted in payments to FQHCs and RHCs
below the actual costs incurred. States generally reported using three types
of limits on costs to be reimbursed- setting overall caps, limiting
administrative costs, or setting performance standards. Following the
enactment of BBA, only a few states chose to use the authority granted in
the act to reduce payments to FQHCs and RHCs. Thirty- eight states and the
District of Columbia were subject to the BBA requirement to provide
supplemental payments to FQHCs and RHCs where required to ensure that total
reimbursement for Medicaid managed care beneficiaries was equivalent to what
would be paid under the cost- based requirement. The remaining states had
received approval from HCFA to waive the requirement for making supplemental
payments.

BIPA established a new nationwide PPS for Medicaid reimbursement of FQHCs
and RHCs that is likely to constrain future payments. Initial payments under
the PPS will reflect each FQHC?s or RHC?s average 1999 and 2000 per- visit
reasonable costs as defined by each state. In many cases, this average
payment may be lower than what an FQHC or RHC received in 2000. Beginning in
2002, payments will be adjusted annually using an inflation index
independent of individual FQHCs? and RHCs? costs, and increases are likely
to be lower than what had been historically provided. Ultimately, an FQHC?s
and RHC?s ability to manage under the new PPS will depend on its initial
rate and its ability to keep its cost growth at or below the inflation
adjustment. FQHCs or RHCs that, for example, had high per- visit costs when
the rates were established, may be able to manage by increasing service
volume or find other efficiencies to lower their per- visit costs. FQHCs or
RHCs with low initial per- visit costs, however, may be less able to reduce
their cost growth.

In commenting on a draft of this report, the Department of Health and Human
Services (HHS) generally concurred that the new BIPA PPS has the potential
to limit payments to FQHCs and RHCs. Furthermore, HHS also noted that the
effects of the new system would vary among FQHCs and RHCs, and agreed that
FQHCs and RHCs that are already operating efficiently could be penalized.
HHS also requested that we provide greater emphasis in our discussion of
several provisions in BIPA.

FQHCs and RHCs operate under separate programs, both of which were
established to increase access to care for low- income people in medically
underserved areas. FQHCs are required to provide a comprehensive set of
Results in Brief

Background

Page 4 GAO- 01- 577 Effect of New Medicaid Payment System

primary care services to any individual, regardless of ability to pay. In
addition, a distinguishing feature of FQHCs is that they provide enabling
services that help patients gain access to health care, such as outreach,
translation, and transportation. FQHCs include community health centers,
migrant health centers, public housing programs, health care for the
homeless, and other centers and clinics. FQHCs vary considerably based on
their location, size of their uninsured and Medicaid populations, revenue
mix, market competition, and managed care penetration in the surrounding
area. For instance, an FQHC may be located in an urban area with a large
uninsured or Medicaid population and high capitated Medicaid managed care
penetration, or in a rural area, where it serves as the only source of
primary health care for several communities. Currently, there are over 1,200
FQHCs operating over 3,000 delivery sites that provide services to about 11
million people each year.

Unlike FQHCs, RHCs are not required to provide services to all individuals;
however, they are required to operate in areas that are designated as
underserved. RHCs can operate either independently or as parts of larger
organizations, such as hospitals, skilled nursing facilities, or home health
agencies. RHCs can serve as specialty clinics, focusing their services on
particular populations or specialties such as pediatrics or obstetrics and
gynecology. There are now approximately 3,500 RHCs. 7

FQHCs and RHCs receive, on average, one- quarter to one- third of their
revenues from Medicaid, a joint federal- state program that annually
finances health care for more than 40 million low- income Americans. (See
fig. 1.) FQHCs primarily rely on Medicaid reimbursement and HRSA grant funds
as sources of revenue. From 1996 through 1999, Medicaid dollars per Medicaid
patient increased from $348 to $383, while HRSA grant dollars per uninsured
FQHC patient declined from $228 to $219. 8 FQHCs also receive revenue from
state, local, and private grants; Medicare and other public insurance; and
self- pay and commercial insurance. In contrast, RHCs receive a smaller
proportion of revenue from Medicaid and a much higher proportion of
Medicare, commercial insurance, and self- pay revenue.

7 There are no RHCs in Connecticut, Delaware, the District of Columbia,
Maryland, Massachusetts, or New Jersey. 8 While the amount of HRSA grant
dollars per uninsured has declined, aggregate funding for the grant program
has increased in recent years.

Page 5 GAO- 01- 577 Effect of New Medicaid Payment System

Figure 1: Comparison of Revenue Sources for FQHCs and RHCs

a Miscellaneous revenue includes other federal grants and non- patient-
related revenue. b Revenue from the State Children?s Health Insurance
Program (SCHIP) is reported differently by FQHCs and RHCs. FQHCs report
SCHIP revenue under Medicaid or the Other Public Insurance category, while
RHCs report SCHIP revenue under the Medicaid category only. c RHC data are
from a National Rural Health Clinic Survey that was sent to a random sample
of approximately one- half of the RHCs; response rate to this survey was 42
percent. Because component percentages were rounded, totals do not add to
100 percent.

Source: FQHC Data - Uniform Data System- HRSA; RHC Data - National Rural
Health Clinic Survey.

Prior to BBA, federal law required state Medicaid programs to pay FQHCs and
RHCs on a cost- related basis. In determining payments, states required
FQHCs and RHCs to submit cost reports. States reviewed these cost reports to
determine which reported costs were allowable (related to providing services
to Medicaid beneficiaries) and reasonable (not an excessive amount for a
type of cost or service).

For purposes of reimbursing FQHCs and RHCs for services, the Medicaid
statute directs states to follow the Medicare statute and regulations. 9 The
Medicare regulations provide guidance on the types of allowable costs,
citing activities such as compensation for physicians and other staff,
supplies, administrative overhead, and other items. With regard to

9 See Title XIX of the Social Security Act, sect. 1902( a)( 13)( C). Medicaid
Reimbursement

for FQHCs and RHCs

Self pay 15% Medicaid 25% b Commercial insurance 29%

Medicare 30% Commercial

insurance 2% HRSA grant 23% Other public

insurance 7% b Medicare 7%

Medicaid 34% State, loan and

private grants 15% Self pay 7%

Miscellaneous 5% a

FQHC revenue (1999) RHC revenue (2000) c

Page 6 GAO- 01- 577 Effect of New Medicaid Payment System

reasonableness of cost, states may set limits, or in the case of RHCs, may
rely on Medicare limits on the cost of providing a service. 10 These limits
can include a ceiling on recognized costs per service, such as a medical
visit, or a limit on a type of cost, such as administrative costs.

Since regulations require payments to be based on actual costs- which could
only be reported after the close of an FQHC?s or RHC?s fiscal year- states
generally made interim payments to FQHCs and RHCs throughout the year and
subsequently adjusted these payments after actual cost reports were filed.
The regulations state that these interim payments to FQHCs and RHCs are
subject to reconciliation, which generally occurred after the submission of
a cost report. 11 During reconciliation, the total amount of reasonable
costs was determined and compared to the interim payments that the FQHCs or
RHCs received, and the state Medicaid program either paid any shortfall or
recouped any overage.

BBA gave states the option of phasing out cost- based reimbursement by
percentage reductions in reasonable costs reimbursed- to 95 percent of an
FQHC?s or RHC?s reasonable costs in 2000, 90 percent in 2001, 85 percent in
2002, and 70 percent in 2003- and discontinuing the cost- based
reimbursement requirement after 2003. States were simultaneously required to
make supplemental payments to FQHCs and RHCs that served capitated Medicaid
managed care plan enrollees. Under BBA, states were required to compare the
aggregate managed care plans? payments to the amount that an FQHC or RHC
would receive under the cost- based reimbursement methodology. In the event
that total managed care payments were less, states were expected to provide
supplemental payments to FQHCs and RHCs to make up the difference. 12

BBRA slowed the phase out of cost- based reimbursement, freezing allowed
reductions at 95 percent for 2001 and 2002. It allowed states to resume
reductions to 90 percent of costs in 2003, 85 percent of costs for 2004, and
a complete phase out of the cost- based reimbursement

10 In some cases, particularly with RHCs, a state?s Medicaid program adopted
Medicare?s payment rate as permitted by statute and regulation. See Title
XIX of the Social Security Act, sect. 1902( a)( 13)( C).

11 See 42 C. F. R. sect. 405.2466. 12 To the extent that managed care plans
reduced the volume of visits, an FQHC or RHC may still receive less under
this arrangement than what it might have received under costbased
reimbursement, which has no constraints on patient visits.

Page 7 GAO- 01- 577 Effect of New Medicaid Payment System

requirement in 2005. BBRA also extended requirements for supplemental
payments through 2004 for FQHCs and RHCs participating in capitated Medicaid
managed care.

BIPA specified a new nationwide PPS to reimburse FQHCs and RHCs for Medicaid
visits. An FQHC?s or RHC?s PPS rate is the average of its own 1999 and 2000
reasonable costs per visit, effective for services provided beginning
January 1, 2001. For future years? payments, this amount will be adjusted
annually for inflation. 13 In addition to this annual adjustment, BIPA
requires that payments to FQHCs and RHCs be adjusted in the event of any
increase or decrease in the scope of services furnished. States also may
receive approval from HCFA to use an alternative system if they can
demonstrate that the alternative payment methodology used results in rates
no lower than the prospective system?s minimum payment and if the FQHC or
RHC agrees to its use.

In fulfilling prior federal requirements to use cost- based reimbursement
for FQHCs and RHCs, many states controlled payment rates by imposing limits
on costs considered reasonable. States generally reported using three types
of spending limits- setting overall caps, limiting administrative costs, or
setting performance standards- in defining reasonable costs. As a result,
not all costs incurred by FQHCs, RHCs, or both were reimbursed. A few states
did not reconcile costs- that is, compare the total Medicaid reimbursement
with the total amount of Medicaid payments for a reporting period and settle
any over- or under- payments- as required by HCFA regulation. 14

BBA contained two major provisions regarding Medicaid reimbursement for
FQHCs and RHCs: allowing states to reduce the percentage of reasonable cost
reimbursed and mandating that states make supplemental payments. With regard
to the first provision, most states did not choose to modify their payment
practices and reduce the percentage of reasonable costs reimbursed. With
regard to the second provision, 38 states and the District of Columbia were
subject to the BBA requirement to provide supplemental payments to FQHCs and
RHCs that were contracting with capitated Medicaid managed care plans in the
event that plan payments

13 The inflation adjuster will be the Medicare Economic Index for primary
care, which represents the increase applied to physician fees in order to
reflect inflation. 14 42 C. F. R. sect. 405.2466. Payment Rates

Generally Complied With Federal Requirements, but Many States Limited Costs
Reimbursed

Page 8 GAO- 01- 577 Effect of New Medicaid Payment System

were less than what these FQHCs and RHCs would have received under cost-
based reimbursement.

Many states? Medicaid programs reported imposing one or more limits in
defining FQHCs? and RHCs? reasonable costs. These limits can significantly
affect what FQHCs and RHCs are paid. While most states employed a
retrospective system that reconciled reimbursement with actual reasonable
costs, at least seven states based payments for FQHCs, RHCs, or both on a
prior period?s reasonable costs, and most adjusted them for inflation
without a reconciliation process- a practice that is inconsistent with HCFA
reconciliation regulations.

For FQHCs, states reported using three types of limits in defining
reasonable costs: setting overall caps, setting performance standards, or
limiting administrative costs. 15

 Twenty- four states reported limits on how much they reimbursed for a
patient?s visit, sometimes by comparing FQHCs? costs across the state to
establish a cap. Alabama and Florida, for example, limited reasonable costs
to the 80th percentile of FQHCs? costs per visit, while Maryland limited
reasonable costs by establishing an overall cap at 115 percent of the median
cost per visit across FQHCs.

 Twelve states limited reasonable costs by setting performance or
productivity standards. For instance, some states stipulated the number of
visits per year that a full- time- equivalent physician should provide;
similar guidelines were used for nurse practitioners and physician
assistants. Similarly, New Jersey required a certain number of visits per
hour for physicians and other medical personnel.

 Ten states reported limits on administrative costs, disallowing
administrative costs exceeding 30 to 45 percent of total costs. For example,
Maryland limited the amount of administrative costs reimbursed

15 As part of our survey, we asked states to report or provide documentation
regarding their reimbursement practices. States? responses, however, varied
in the amount of documentation provided. Thus, our counts reflect the
minimum number of states that may use these limits. Many States Already

Limited Costs Reimbursed Before BBA Enactment

Page 9 GAO- 01- 577 Effect of New Medicaid Payment System

to one- third of total costs, while Wisconsin did not reimburse
administrative costs in excess of 30 percent of the center?s total costs. 16

With regard to RHCs, 32 of the 45 states with RHCs reported relying on
Medicare?s payment methodology for determining reasonable costs. Medicare
payment policies include both an overall cap and a performance or
productivity standard. In 2000, the Medicare payment cap for RHCs was $61.85
per visit.

As noted above, HCFA regulations provide that Medicaid interim payments to
FQHCs and RHCs are subject to reconciliation based on actual reasonable
costs. Most states reimbursed FQHCs and RHCs under a retrospective system
that includes interim payments based on estimated costs and a year- end
reconciliation process to account for differences in reimbursement and
actual reasonable costs. However, seven states (Colorado, Connecticut,
Delaware, Florida, Maryland, New York, and Rhode Island) and the District of
Columbia reported setting payment rates for FQHCs based on a prior year?s
costs with most adjusting for inflation- essentially establishing
prospectively determined rates. The difference between these states?
processes and states with end- of- year reconciliation is illustrated in
figure 2. Four of the seven states- Delaware, Maryland, New York, and Rhode
Island- were granted a waiver of the reconciliation requirement under
Section 1115 of the Social Security Act. 17 However, the remaining three
states- Colorado, Connecticut, and Florida- and the District of Columbia
were not in compliance with the reconciliation regulation since they did not
reconcile with their FQHCs and RHCs and did not obtain a waiver of this
requirement.

16 Limits on reasonable costs have been a matter of legal dispute between
FQHCs and RHCs and states? Medicaid programs. For example, in a settlement
agreement Florida expanded its definition of reasonable costs to include
additional administrative costs. In contrast, a New Jersey official reported
that a recent legal challenge to the state?s definition of reasonable costs
was unsuccessful.

17 Section 1115 of the Social Security Act grants HCFA the authority to
provide states with a waiver of certain Medicaid requirements to test
concepts likely to assist in promoting program objectives; these waivers are
intended to offer greater flexibility in the areas of utilization, benefit
modification, eligibility, and reimbursement rules.

Page 10 GAO- 01- 577 Effect of New Medicaid Payment System

Figure 2: The Typical Reimbursement Process for FQHCs

Source: GAO analysis.

Most states chose not to reduce their reimbursements to FQHCs and RHCs as
allowed by BBA. According to our survey, five states and the District of
Columbia chose to implement the BBA reduction to 95 percent of reasonable
costs for their FQHCs, RHCs, or both. Alabama, Minnesota, and Nevada reduced
payments to both FQHCs and RHCs. Connecticut and the District of Columbia
reduced payments to FQHCs, while Maine did so for RHCs.

As required by BBA, states with capitated managed care plans did make
supplemental payments to FQHCs or RHCs or received a waiver from HCFA from
this requirement. These supplemental payments were to make up the difference
between the reimbursement FQHCs and RHCs received from managed care
organizations and what they would have received under cost- based
reimbursement. Not all states were required to make supplemental payments.
Thirty- eight states and the District of Columbia were subject to this BBA
requirement, while the remaining 12 states received approval from HCFA to
waive supplemental payments. (See fig. 3.) Few States Used BBA

Flexibility to Reduce Payments and All Made Supplemental Payments, if
Required

Current year (Year 2) Subsequent year

(Year 3) Past year

(Year 1) Calculate

previous year?s total reasonable

costs Calculate visit cost

Calculate an interim

visit cost Pay rate

Without reconciliation With reconciliation

Add an inflation

factor

Last year?s cost report

audited

Pay interim

rate Year 1 cost report

Medicaid pays or recoups

money

Last year?s cost report

audited

Year 2 cost report

Page 11 GAO- 01- 577 Effect of New Medicaid Payment System

Figure 3: The Applicability of the Supplemental Payment Requirement in BBA

Source: GAO Survey, 2000.

Of the 38 states and the District of Columbia that were subject to the BBA
requirement for supplemental payments, 12 states did not have capitated
Medicaid managed care, so the BBA policy did not affect them. Twentyfive of
the remaining 26 states and the District of Columbia made supplemental
payments to FQHCs participating in Medicaid managed care, while 16 states
made payments to RHCs. 18 Fewer RHCs qualified for supplemental payments
because many operated in areas that did not have

18 New Hampshire did not have any FQHCs participating in capitated Medicaid
managed care.

Subject to BBA requirement to make supplement payments (38 states and the
District of Columbia) Required to make supplemental payments to FQHCs and
RHCs participating in capitated Medicaid managed care (26 states and the
District of Columbia)

Do not have capitated Medicaid managed care (12 states) Not Subject to BBA
requirement to make supplement payments (12 states)

States with an 1115 waiver from HCFA of cost- based reimbursement
requirements

Page 12 GAO- 01- 577 Effect of New Medicaid Payment System

managed care. (App. II shows states? practices with regard to supplemental
payments.)

The 12 states that have received approval to waive supplemental payments are
operating under Section 1115 waivers, under which HCFA can allow states to
waive most federal Medicaid requirements for a demonstration project that is
likely to assist in promoting program objectives. Of the 12 states with
waivers, 4 states- Arizona, Hawaii, New York, and Rhode Island- made
supplemental payments, but not the full amount that would be required under
BBA. 19 New York, for example, provided varying percentages of the
difference between reasonable costs and managed care payments, depending on
when mandatory managed care enrollment began in the county where the FQHC is
located. New York reimbursed FQHCs 90 percent of the difference during the
first year of mandatory managed care and 50 percent in subsequent years. 20
RHCs in New York received supplemental payments only if (1) at least 50
percent of the RHC?s visits were provided to Medicaid beneficiaries or (2)
60 percent of the visits were provided to Medicaid beneficiaries and
indigent persons; as of April 2001, no RHCs had qualified under this
provision. In Rhode Island, supplemental payments were unrelated to the
costs of an FQHC or RHC; instead, the state legislature allocated funds that
were distributed to FQHCs and RHCs based on a set per- member- per- month
amount.

BIPA established a new nationwide PPS for Medicaid that is likely to
constrain future payments. In particular, some FQHCs and RHCs may receive
Medicaid payment increases that are lower than what they have received in
the past. Ultimately, an FQHC?s or RHC?s ability to manage under the new PPS
will depend on its initial payment rate, and changes it can make to keep its
cost growth at or below the inflation index.

19 Of the eight states that currently operate under 1115 waivers and do not
provide supplemental payments, two of these states- Oklahoma and Delaware-
previously offered such payments during the initial years of the waiver, but
have discontinued this practice.

20 New York planned to phase out supplemental payments after 2 years;
however, instead of phasing out payments, the state has maintained the
provision of supplemental payments at 50 percent. New System Likely to

Constrain Future Payments

Page 13 GAO- 01- 577 Effect of New Medicaid Payment System

All states- including those with 1115 waivers- will have to comply with the
new payment system requirement established by BIPA. 21 Under this new
system, an FQHC?s or RHC?s prospective payment rate is the average of its
own 1999 and 2000 reasonable costs per visit, which will be updated for
inflation in future years. These initial rates became effective for services
provided beginning January 1, 2001. States may receive approval from HCFA to
use an alternative system to reimburse some or all of their FQHCs and RHCs,
if they can demonstrate that the alternative payment methodology would
result in rates no lower than the prospective system?s minimum payment and
if the FQHC or RHC agrees to the alternative methodology. In addition, BIPA
requires that we assess the need for adjusting the initial rate for FQHCs
and RHCs. 22

States can continue to use their prior methods of determining reasonable
costs in establishing the 2001 payment rate under the PPS. Under these
circumstances, the initial PPS rates would reflect average 1999 and 2000
per- visit reasonable costs rather than the actual costs incurred by the
FQHC or RHC. For the FQHCs and RHCs in the states that have applied limits
in determining reasonable costs, this could result in 2001 PPS rates well
below their actual costs. In contrast, the 2001 PPS rate for FQHCs and RHCs
in states that did not incorporate reasonable cost limits- or that have
costs below their states? overall caps- will be closer to their actual
costs.

Further, the 2001 PPS rate will not be updated for inflation from 1999
through 2001. This could mean that most FQHCs and RHCs would receive lower
per- visit payments in 2001 than in the prior year. 23 BIPA does require the
rates for 2002 be adjusted for inflation using the Medicare Economic Index
for primary care services (MEI- PC). This adjustment will be the only
automatic annual modification of Medicaid rates to reflect increasing costs.
24 If changes in patients? needs or other factors result in costs

21 On January 19, 2001, HCFA issued a letter to state Medicaid directors
describing the new payment system, indicating that all states, including
those operating 1115 waiver programs, are subject to the new PPS outlined in
BIPA.

22 P. L. 106- 554 requires that we report on our assessment by December
2004. 23 Assuming an FQHC?s or RHC?s costs increase each year, PPS rates for
2001 will be less than what the FQHC or RHC received in 2000 as states are
required to average 1999 and 2000 costs in determining the initial PPS
payment rate.

24 However, BIPA requires that payments to FQHCs and RHCs be adjusted in the
event of any decrease or increase in the scope of services furnished.

Page 14 GAO- 01- 577 Effect of New Medicaid Payment System

increasing more than the index, those additional costs will not result
automatically in higher Medicaid rates as they did under the prior state
systems. The MEI- PC has increased less than other measures of inflation,
making the Medicaid payment increases under the PPS less than what some
states have used in the past. For example, four states that previously set
prospective rates using a prior year?s cost updated for inflation used
inflation indexes that have grown faster than the MEI- PC. (See table 1.)

Table 1: Percentage Increase in BIPA Index Compared to Indexes Used by
States That Paid FQHCs Prospectively, 1996 Through 1999

States a Year BIPA b Colorado c Connecticut d Delaware e Florida f

1996 2.0 3.8 4. 4 6 6 1997 2.0 3.7 3. 6 6 5. 9 1998 2.2 2.8 3. 9 4.5 3. 4
1999 2.3 3.5 3. 8 4.5 4. 6 Cumulative growth 8.8 14.5 16.6 22.7 g 21.3 g

a Colorado, Connecticut, Delaware, Florida, Maryland, Rhode Island, and the
District of Columbia all pay prospectively. We did not obtain annual rates
of change from Arizona, Rhode Island, and the District of Columbia; New
York?s rates are frozen at 1992 levels, and Maryland reported using the MEI-
PC as its inflationary index beginning in July 2000. b BIPA uses the MEI-
PC.

c Colorado used the Medical Care component of the Consumer Price Index (CPI)
for Urban Wage Earners and Clerical Workers. d Connecticut inflated the most
recent cost report with a change factor derived from the Gross

Domestic Product deflator. e Delaware had a contract with the University of
Delaware to calculate a unique inflation factor for the

state. In calculating this index, the contractor reviewed other inflation
indexes such as the Eggert Consensus Estimates. f Florida used the CPI All
Urban Inflation Index for the South Atlantic Region.

g States used actual prior year?s reasonable cost and applied the index to
determine rates for the following year. If actual reasonable costs grew
faster than the index, that growth would be incorporated in subsequent
years? rates. Under these circumstances, cumulative increases on average
rates in these states would exceed the cumulative growth in each index.

Source: GAO analysis of state information.

The PPS created by BIPA provides stronger control over state payments to
FQHCs and RHCs than the previously required cost- based systems by limiting
per- visit payment increases to what appears to be a historically low
measure of inflation. It also creates incentives and pressures for FQHCs and
RHCs to operate efficiently. However, the pressure on individual FQHCs and
RHCs to control or reduce costs, created by the

Page 15 GAO- 01- 577 Effect of New Medicaid Payment System

PPS, could vary considerably. If payment increases lag behind necessary cost
increases, FQHCs and RHCs with low average costs may have less ability to
keep future costs at or below their payment rates than higher cost centers.

FQHCs? and RHCs? ability to manage under the new PPS will depend on their
initial rate and their ability to keep cost growth at or below the inflation
index. For example, FQHCs and RHCs that had a low volume of visits and high
per- visit costs when the rates were established may be better able to
manage by increasing service volume to lower their per- visit costs. FQHCs
and RHCs with low initial per- visit costs, however, may have more
difficulties. To the extent that lower initial per- visit costs already
reflect greater efficiency, there may be fewer options for an efficient FQHC
or RHC to adapt to necessary cost increases not reflected in the inflation
index. FQHCs and RHCs that face an increasingly complex mix of patients may
be also disadvantaged as the PPS incorporates payment increases only related
to inflation or changes in scope of service.

Because of their heightened reliance on Medicaid, FQHCs are likely to be
more affected than RHCs by the new payment system. As noted earlier, grant
dollars per uninsured FQHC patient have been declining, making Medicaid
reimbursement even more critical to FQHC operations.

In part because of their mandate to preserve and expand necessary primary
care health services, FQHCs and RHCs have received reimbursement based on
their costs in an effort to ensure adequate payment. However, this approach
does little to encourage efficiency. The new payment system mandated by BIPA
attempts to ensure adequacy by basing payments on historical rates while
promoting efficiency by limiting increases. However, the combination of
reimbursement limits imposed historically by many states and the inflation
adjustments in the new PPS may constrain future Medicaid payment to some
FQHCs and RHCs. Finding a mechanism to strike the proper balance between
payment adequacy and incentives for efficiency has been, and will likely be,
a challenge.

We provided HHS an opportunity to comment on a draft of this report. In its
comments, HHS generally concurred that the new BIPA PPS has the potential to
limit payments to FQHCs and RHCs. Although HHS stated that the BIPA payment
system may result in higher payments than the staged phase out of cost-
based reimbursement, as we note in the report, we found Concluding

Observations Agency Comments

Page 16 GAO- 01- 577 Effect of New Medicaid Payment System

that few states had taken action aimed at making reductions in cost- based
reimbursement. HHS also agreed that the effects of the new system would vary
among FQHCs and RHCs, and that FQHCs and RHCs that are already operating
efficiently could be penalized.

HHS suggested that we place greater emphasis on three aspects of the BIPA
PPS. In particular, HHS suggested that we include more discussion about
potential adjustments to the base rate in addition to those for inflation.
We have done so by including additional reference to BIPA?s provision that
rates should be adjusted to account for a change in the scope of service.
Second, HHS suggested that we place greater emphasis on states? ability to
implement an alternative payment methodology under BIPA, which may result in
higher payments to FQHCs and RHCs. Our draft report already recognized that
payments under the alternative methodology can be no lower than payments
under the PPS, and we have not changed the report. Third, HHS requested that
we emphasize that states cannot impose a stricter definition of reasonable
costs in establishing 2001 payment rates than they had under the prior
reimbursement system. We have no basis to question HHS? position, but
because BIPA does not include explicit language to that effect, we have not
modified the report.

HHS also provided technical comments, which we incorporated where
appropriate. HHS? comments are provided in appendix III.

We are sending copies of this report to the Secretary of Health and Human
Services and other interested parties. We will also make copies available to
others on request. If you or your staffs have questions about this report,
please contact me or Janet Heinrich at (202) 512- 7114. An additional GAO
contact and the names of other staff who made key contributions to this
report are listed in appendix IV.

William J. Scanlon Director, Health Care Issues

Page 17 GAO- 01- 577 Effect of New Medicaid Payment System

List of Committees The Honorable Max Baucus Chairman The Honorable Charles
E. Grassley Ranking Minority Member Committee on Finance United States
Senate

The Honorable Tom Harkin Chairman The Honorable Arlen Specter Ranking
Minority Member Subcommittee on Labor, Health and Human Services, and
Education Committee on Appropriations United States Senate

The Honorable W. J. ?Billy? Tauzin Chairman The Honorable John D. Dingell
Ranking Minority Member Committee on Energy and Commerce House of
Representatives

The Honorable Michael Bilirakis Chairman The Honorable Sherrod Brown Ranking
Minority Member Subcommittee on Health Committee on Energy and Commerce
House of Representatives

The Honorable Ralph Regula Chairman The Honorable David Obey Ranking
Minority Member Subcommittee on Labor, Health and Human Services, and
Education Committee on Appropriations House of Representatives

Appendix I: Scope and Methodology Page 18 GAO- 01- 577 Effect of New
Medicaid Payment System

To describe how states implemented cost- based reimbursement and the extent
to which states? practices changed as a result of BBA, we surveyed Medicaid
officials in the 50 states and the District of Columbia regarding their FQHC
and RHC reimbursement policies. We analyzed responses to our mail survey
from all 50 states and the District of Columbia regarding

 whether states were phasing out or continuing cost- based reimbursement or
had a waiver of the cost- based reimbursement requirement,

 states? reimbursement practices,

 managed care participation and supplemental payments, and

 general information on other funding sources. Additionally, we interviewed
representatives from 12 state Primary Care Associations, which are private,
nonprofit membership organizations that receive grant funds from HRSA. We
also analyzed national demographic, financial, and utilization information
on FQHCs using HRSA?s Uniform Data System (UDS) for 1996 through 1999.

We conducted site visits in five states: Michigan, New York, Ohio, Oklahoma,
and Rhode Island. We selected these states because they had (1) unique
reimbursement methodologies, (2) rural and/ or urban populations, or (3)
different levels of managed care penetration. These states also varied in
their policies regarding supplemental payments, ranging from making the full
payments required by BBA to having received approval to waive supplemental
payments entirely. Within each state, we interviewed representatives from
the Medicaid office and Medicaid managed care organizations. We also met
with officials from eight FQHCs and nine RHCs.

To assess the impact of the new PPS enacted under BIPA for 2001, we examined
BIPA in light of previous statutes regarding Medicaid reimbursement for
FQHCs and RHCs and HCFA regulations applicable to the new statute. We
examined the indexes used by four states- Connecticut, Colorado, Delaware,
and Florida- from 1996 through 1999 and compared them to the annual
inflation adjustments specified in BIPA. 1

1 Initially, we considered analyzing the financial data from the UDS, HRSA?s
database of information on FQHCs, to compare the annual increases in
Medicaid reimbursement per encounter for FQHCs in all states from 1996
through 1999. However, after making several adjustments to the data,
numerous problems and limitations still existed. As a result, we could not
analyze the UDS for this purpose. Thus, we included the indexes used by
these four states to demonstrate changes in reimbursement. Appendix I: Scope
and Methodology

Appendix I: Scope and Methodology Page 19 GAO- 01- 577 Effect of New
Medicaid Payment System

Our work was conducted from May 2000 through May 2001 in accordance with
generally accepted government auditing standards.

Appendix II: State Practices Regarding Supplemental Payments

Page 20 GAO- 01- 577 Effect of New Medicaid Payment System

Table 2 shows states? practices regarding the provision of supplemental
payments to FQHCs and RHCs participating in capitated Medicaid managed care.
As shown below, 25 states and the District of Columbia have made
supplemental payments to FQHCs as required by BBA. Additionally, four states
have made payments to FQHCs that are not the full amount required under BBA
since the states have 1115 waivers. RHCs have received supplemental payments
as required by BBA in 16 states, while 2 states with 1115 waivers have made
some level of payment to RHCs. The remaining states do not make supplemental
payments to FQHCs or RHCs because there is no capitated Medicaid managed
care in the state, no FQHCs or RHCs contract with Medicaid managed care
organizations, or the state has an 1115 waiver and thus is not required to
make supplemental payments.

Table 2: States? Provision of Supplemental Payments to FQHCs and RHCs, 2000
State FQHC RHC

Alabama a a Alaska a a Arizona b Arkansas a a California Colorado
Connecticut c

Delaware b b, c District of Columbia c Florida Georgia a a

Hawaii

Idaho a a Illinois d Indiana d Iowa Kansas Kentucky b b

Louisiana a a Maine Maryland b b, c

Massachusetts b b, c Michigan Minnesota Mississippi a a

Missouri Montana a a

Appendix II: State Practices Regarding Supplemental Payments

Appendix II: State Practices Regarding Supplemental Payments

Page 21 GAO- 01- 577 Effect of New Medicaid Payment System

State FQHC RHC

Nebraska d Nevada d New Hampshire d d New Jersey c New Mexico New York e

North Carolina a a North Dakota d Ohio b b, d Oklahoma b b Oregon b b
Pennsylvania Rhode Island

South Carolina South Dakota a a Tennessee b b Texas Utah d

Vermont a a Virginia e Washington West Virginia Wisconsin Wyoming a a

The state makes supplemental payments.

The state has an 1115 waiver and, while not required to make supplemental
payments, the state offers payments that are less than what would be
required under BBA. a There is no capitated Medicaid managed care in the
state and, thus, no need for supplemental payments. b The state has an 1115
waiver and is not required to make supplemental payments.

c There are no RHCs in the state. d Although capitated Medicaid managed care
exists in the state, no FQHCs and/ or RHCs contract with Medicaid managed
care organizations. e Although the state makes supplemental payments
available to RHCs, no RHCs have applied for or

received such payments. Source: GAO Survey, 2000.

Appendix III: Comments From the Department of Health and Human Services

Page 22 GAO- 01- 577 Effect of New Medicaid Payment System

Appendix III: Comments From the Department of Health and Human Services

Appendix III: Comments From the Department of Health and Human Services

Page 23 GAO- 01- 577 Effect of New Medicaid Payment System

Appendix III: Comments From the Department of Health and Human Services

Page 24 GAO- 01- 577 Effect of New Medicaid Payment System

Appendix IV: GAO Contact and Staff Acknowledgments

Page 25 GAO- 01- 577 Effect of New Medicaid Payment System

Carolyn Yocom, (202) 512- 4931 Catina Bradley, Barbara Chapman, Michelle
Rosenberg, Behn Miller, Sharon Brigner, Anne Dievler, and Evan Stoll made
key contributions to this report. Appendix IV: GAO Contact and Staff

Acknowledgments GAO Contact Staff Acknowledgments

Related GAO Products Page 26 GAO- 01- 577 Effect of New Medicaid Payment
System

Health Care Access: Programs for Underserved Populations Could Be Improved
(GAO/ T- HEHS- 00- 81, Mar. 23, 2000).

Community Health Centers: Adapting to Changing Health Care Environment Key
to Continued Success (GAO/ HEHS- 00- 39, Mar. 10, 2000).

Health Care Access: Opportunities to Target Programs and Improve
Accountability (GAO/ T- HEHS- 97- 204, Sept. 11, 1997).

Rural Health Clinics: Rising Program Expenditures Not Focused on Improving
Care in Isolated Areas (GAO/ HEHS- 97- 24, Nov. 22, 1996). Related GAO
Products

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