Medicare Payments: Use of Revised "Inherent Reasonableness" Process
Generally Appropriate (Letter Report, 07/05/2000, GAO/HEHS-00-79).

Pursuant to a congressional request, GAO reviewed the Health Care
Financing Administration's (HCFA) and the Durable Medical Equipment
Regional Carriers' (DMERC) actions to implement a final rule for
processing Medicare payments, focusing on whether: (1) it was proper for
HCFA to issue its inherent reasonableness regulations as an interim
final rule, and whether HCFA is authorized to delegate responsibility
for making payment adjustments to the DMERCs; (2) the DMERCs' survey
methods were adequate to support the proposed payment reductions; and
(3) the proposed payment reductions will reduce patient access to the
affected medical products.

GAO noted that: (1) HCFA acted properly in issuing an interim final rule
to implement the inherent reasonableness provision of the Balanced
Budget Act (BBA) because these regulations did not substantially change
the factors to be considered in making inherent reasonableness
determinations, and thus the criteria were met for bypassing the general
requirement for issuing a notice of proposed rulemaking; (2) under the
revised regulations, HCFA and the DMERCs would conduct payment reviews
under the same circumstances and consider essentially the same
information as in the past; (3) as provided by the BBA, they would be
able to adjust payment amounts by up to 15 percent a year without using
lengthier public notice and comment procedures; (4) GAO feels it is
clearly within HCFA's authority to delegate partial responsibility for
adjusting payment rates to the DMERCs; (5) HCFA has long delegated
similar types of responsibilities to the DMERCs and other claims
processing contractors, and the BBA, which amended Medicare law to
enable use of the revised process, did not preclude such delegation; (6)
survey data clearly showed that Medicare payments are much higher than
the median surveyed retail prices for five of the products the DMERCs
reviewed--lancets, eyeglass frames, urinary catheters, and two types of
catheter insertion trays; (7) as a result, sufficient information
supports proposed payment reductions of up to 15 percent for these
items; (8) however, the DMERCs did not follow a rigorous survey process,
and this led GAO to question the proposed smaller payment reductions for
glucose test strips and albuterol sulfate; (9) for the eighth surveyed
product--enteral formulas--more pricing information is needed before the
payment amount can be adjusted because the DMERCs did not price products
specifically packaged and used for tube feeding and instead priced
products that are generally used as oral supplements; (10) retail
surveys may not be the best strategy for setting payment amounts for
items not generally sold at retail prices, such as enteral formulas;
(11) for such products, using wholesale prices plus a reasonable markup
may represent a better payment-setting mechanism; (12) it is difficult
to predict whether the proposed payment reductions will limit patient
access because Medicare has implemented few comparable reductions in
recent years; and (13) because retail prices--which include retailers'
costs for both acquisition and service--were used to establish the
proposed reductions, GAO believes that access to these products is not
likely to be significantly affected.

--------------------------- Indexing Terms -----------------------------

 REPORTNUM:  HEHS-00-79
     TITLE:  Medicare Payments: Use of Revised "Inherent
	     Reasonableness" Process Generally Appropriate
      DATE:  07/05/2000
   SUBJECT:  Health care programs
	     Medical supplies
	     Prices and pricing
	     Claims processing
	     Agency proceedings
	     Health insurance cost control
	     Medical equipment
	     Medical expense claims
IDENTIFIER:  Medicare Program
	     HCFA Common Procedure Coding System

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GAO/HEHS-00-79

Appendix I: Scope and Methodology

36

Appendix II: Comparison of the Inherent Reasonableness
Procedures for HCFA and the DMERCs

39

Appendix III: 1998 Fee Payments and the Total Proposed Payment Reductions
for the Surveyed Product Groups,
by State

40

Appendix IV: GAO Analysis of DMERC Sampling Methods

52

Appendix V: Comments From the Health Care Financing
Administration

54

Table 1: 1998 Medicare Maximum Payment Allowance, Median
Retail Price, and Percentage Reduction for Six Product
Groups Under Inherent Reasonableness Review 18

Table 2: 1998 Medicare Expenditures, Medicare Maximum Payment Allowance, VA
Median Price, and Percentage Markup, by
Product Group 28

Table 3: 1998 State Fees and the Total Proposed Percentage
Reductions for Glucose Testing Strips 40

Table 4: 1998 State Fees and Total Proposed Percentage
Reductions for Lancets 42

Table 5: 1998 State Fees and Total Proposed Percentage
Reductions for Latex Foley Catheters 44

Table 6: 1998 State Fees and Total Proposed Percentage
Reductions for Catheter Insertion Trays Without Drainage
Bags 46

Table 7: 1998 State Fees and Total Percentage Payment Reductions
for Catheter Insertion Trays With Drainage Bags 48

Table 8: 1998 Fees and Total Proposed Percentage Reductions for
Eyeglass Frames, by State 50

Table 9: Percentage of Surveyed Prices, by Population Level,
Compared With U.S. Population 52

Table 10: Median Surveyed Price by Product Group and Population
Level 53

APA Administrative Procedure Act

BBA Balanced Budget Act of 1997

DMERC Durable Medical Equipment Regional Carrier

HCFA Health Care Financing Administration

HCPCS HCFA Common Procedure Coding System

HHS Department of Health and Human Services

MSA metropolitan statistical area

OMB Office of Management and Budget

VA Department of Veterans Affairs

Health, Education, and
Human Services Division

B-282467

July 5, 2000

The Honorable William M. Thomas
Chairman, Subcommittee on Health
Committee on Ways and Means
House of Representatives

Dear Mr. Chairman:

In 1998, Medicare paid at least $5.9 billion for medical equipment and
supplies on behalf of beneficiaries who live at home or in long-term-care
facilities such as nursing homes.1 Generally, Medicare uses a fee schedule
to determine the amount it will pay for most medical equipment and supplies.
Even when Medicare paid more than market prices for certain medical
equipment and supplies, the Health Care Financing Administration (HCFA)--the
agency that administers the Medicare program--had almost never adjusted
payment amounts. This was because the process imposed by statute for
changing unreasonably high or low Medicare payments, called the "inherent
reasonableness" process, was slow and cumbersome and not even available for
some items, such as surgical supplies.2

In response to the problems with excessive payments for some items that we
and others identified, the Congress authorized HCFA in section 4316 of the
Balanced Budget Act of 1997 (BBA) to use a revised inherent reasonableness
process to adjust Medicare payments by up to 15 percent a

year for items such as medical equipment and supplies.3 This revised process
was expected to streamline the implementation of payment adjustments. HCFA
published an interim final rule with comment period on January 7, 1998, to
implement the process.4 Most regulations are published first in a proposed
form and become effective only when published as a final rule, which gives
an agency time to respond to public comments solicited through the notice of
proposed rulemaking. In this case, the interim final rule became effective
60 days after it was first published. Because the interim final rule was not
preceded by a notice of proposed rulemaking, HCFA solicited comments through
the interim final rule but did not respond to them before the regulation
became effective.

Under the interim final rule, the four contractors that process Medicare
claims for medical equipment and supplies--the Durable Medical Equipment
Regional Carriers (DMERC)--may adjust payment rates determined to be
excessive or deficient by up to 15 percent after reporting their plans to
HCFA. In 1998, the DMERCs surveyed retail prices for groups of products that
they suspected had excessive Medicare payment rates. In September 1998, the
DMERCs notified suppliers that they proposed to adjust Medicare payments for
eight groups of products, including glucose testing supplies, a type of
urinary catheter, and standard dietary formulas for tube feeding (enteral
formulas). The DMERCs solicited comments on this proposal. Following an
outpouring of concern from industry groups representing different
manufacturers and providers of medical equipment and supplies and your
request that we review these actions, HCFA suspended the proposed payment
reductions. In November 1999, the Congress passed legislation prohibiting
HCFA from using its inherent reasonableness authority until this report is
issued and a final rule has been published that responds to this report and
to public comments.

You requested that we examine HCFA's and the DMERCs' actions to implement
this authority and answer the following questions: (1) Was it proper for
HCFA to issue its inherent reasonableness regulations as an interim final
rule, and is HCFA authorized to delegate responsibility for making payment
adjustments to the DMERCs? (2) Were the DMERCs' survey methods adequate to
support the proposed payment reductions? (3) Will the proposed payment
reductions reduce patient access to the affected medical products?

To address these questions, we reviewed relevant laws and regulations and
interviewed HCFA officials and staff from the DMERCs. We also met with
various representatives from the industry groups involved. We analyzed the
DMERCs' survey methodology, procedures, and data and obtained limited data
on prices for some medical equipment and supplies. We performed our work
from April 1999 to May 2000 in accordance with generally accepted government
auditing standards. Appendix I provides a more detailed discussion of our
scope and methodology.

HCFA acted properly in issuing an interim final rule to implement the
inherent reasonableness provision of the BBA because these regulations did
not substantially change the factors to be considered in making inherent
reasonableness determinations, and thus the criteria were met for bypassing
the general requirement for issuing a notice of proposed rulemaking.
Specifically, under the revised regulations, HCFA and the DMERCs would
conduct payment reviews under the same circumstances and consider
essentially the same information as in the past. As provided by the BBA,
they would be able to adjust payment amounts by up to 15 percent a year
without using lengthier public notice and comment procedures. Furthermore,
in our opinion, it is clearly within HCFA's authority to delegate partial
responsibility for adjusting payment rates to the DMERCs. HCFA has long
delegated similar types of responsibilities to the DMERCs and other claims
processing contractors, and the BBA, which amended Medicare law to enable
use of the revised process, did not preclude such delegation.

Using retail surveys as a basis for adjusting Medicare payments represents a
sound concept for pricing products that can be purchased in retail outlets.
The survey data clearly showed that Medicare payments are much higher than
the median surveyed retail prices for five of the products the DMERCs
reviewed: lancets, eyeglass frames, urinary catheters, and two types of
catheter insertion trays. As a result, sufficient information supports
proposed payment reductions of up to 15 percent for these items. However,
the DMERCs did not follow a rigorous survey process, and this led us to
question the proposed smaller payment reductions for glucose test strips and
albuterol sulfate. For the eighth surveyed product--enteral formulas--more
pricing information is needed before the payment amount can be adjusted
because the DMERCs did not price products specifically packaged and used for
tube feeding and instead priced products that are generally used as oral
supplements. Retail surveys may not be the best strategy for setting payment
amounts for items not generally sold at retail prices, such as enteral
formulas. For such products, using wholesale prices plus a reasonable markup
may represent a better payment-setting mechanism.

It is difficult to predict whether the proposed payment reductions will
limit patient access because Medicare has implemented few comparable
reductions in recent years. Fewer suppliers may be willing to provide these
items to beneficiaries at the reduced payment rates, thus limiting
beneficiary access to these items. Because retail prices--which include
retailers' costs for both acquisition and service--were used to establish
the proposed reductions, we believe that access to these products is not
likely to be significantly affected. However, HCFA should monitor indicators
of potential access problems when payments are reduced so that action can be
taken before beneficiaries experience difficulties obtaining medically
necessary items or have to pay significantly higher out-of-pocket expenses.

We are making several recommendations to the HCFA Administrator to improve
HCFA's final rule on and use of its inherent reasonableness authority. In
commenting on our report, HCFA agreed with the recommendations and said it
will implement them.

Medicare is a health insurance program that covers almost all people aged 65
and older and certain disabled people. Through its supplemental medical
insurance program (part B), Medicare covers medically necessary durable
medical equipment such as hospital beds and walkers. Medicare also covers
other types of medical items, including certain prescription drugs used with
durable medical equipment for elderly and disabled people who live at home
or in long-term-care facilities. Medicare pays 80 percent of the amount on
its fee schedule or the allowed amount for medical equipment and supplies,
or 80 percent of the amount claimed, whichever is lower. Beneficiaries are
responsible for the remaining 20 percent. Claims for Medicare-covered
services and supplies are processed and paid by insurance companies that
contract with HCFA. Four specialized contractors--the DMERCs--administer
claims for medical equipment and supplies.

and Supplies Established for Product Groups

Medicare groups medical products into categories and pays a specified amount
for each category. Each category is identified by a unique code under the
HCFA Common Procedure Coding System (HCPCS).5 There are about 1,900 product
groups in total. All of the items categorized under a particular product
group have the same payment allowance and are considered to be similar
items. When suppliers or beneficiaries submit a claim to Medicare, they use
the product group they believe best describes the specific item that was
provided.

Medicare part B has different methodologies, specified in law, for
determining payment amounts for different categories of medical equipment
and supplies. For most of the products the DMERCs surveyed--such as diabetic
supplies, catheters, and catheter insertion trays--a fee schedule is used to
determine the amount Medicare pays. Medicare has a separate fee schedule for
each state for most categories of items. These fee schedules are based on
average supplier charges on Medicare claims allowed in each state in 1986
and 1987. In 1990, the Congress amended the fee schedule provisions to
impose upper and lower limits on fees paid in different states to reduce
variation in what Medicare paid for similar items in different parts of the
country.6 The upper limit is the median of all state fees, and the lower
limit is 85 percent of the median of all state fees. Before the BBA was
enacted, the state fees were adjusted for inflation each year using a
formula usually based on the consumer price index. Section 4551(a)(1) of the
BBA amended Medicare law by freezing the fee schedules for these categories
of medical equipment and supplies for 5 years, beginning in 1998.

For orthotic and prosthetic devices, including off-the-shelf items such as
eyeglass frames, Medicare uses 10 regional fee schedules, which are also
based on historical supplier charges and are subject to upper and lower
limits. The upper limit is 120 percent of the average of all regional fees,
and the lower limit is 90 percent of the average of all regional fees.
Section 4551(a)(2) of the BBA limited the increase in these regional fee
schedules to 1 percent per year for 5 years, beginning in 1998.

Medicare uses other methodologies to determine the payment amounts for
enteral formulas and prescription drugs. Medicare covers enteral nutrition
formulas for beneficiaries who are unable to take sufficient food by mouth
and must be fed through a tube. Medicare payment for enteral formulas is
based on supplier charges, using a reasonable charge methodology. A maximum
payment limit has been established for these items, but individual suppliers
may receive less than the maximum payment if their actual or customary
charge, or the prevailing charge in the locality, is lower than the maximum
payment. Section 4315 of the BBA permitted HCFA to replace the reasonable
charge methodology for enteral formulas (and other items) with a fee
schedule, while section 4551(b) limited payments for these items to their
1995 levels for 5 years, beginning in 1998.

For prescription outpatient drugs that generally are covered if they must be
used in conjunction with durable medical equipment, such as albuterol
sulfate, Medicare payments are based on 95 percent of the average wholesale
price of the drug.7 If a drug has multiple brand name and generic sources,
the DMERCs calculate 95 percent of the median of the average wholesale
prices for generic and comparable brand name products.

Inherent Reasonableness Process

Because most Medicare payments for medical equipment and supplies are based
on historical charges, they may become out of line with market prices over
time. The Social Security Act and the corresponding Medicare regulations
have long allowed HCFA to determine whether the standard methods of
determining payments result in amounts that are unreasonably high or low.8
In these cases, HCFA may use other pricing methods to align payment amounts
with current market prices. HCFA does this by using the inherent
reasonableness process.

Prior to 1987, when Medicare payments for medical equipment and supplies
were based on supplier charges, Medicare contractors independently conducted
inherent reasonableness reviews to adjust Medicare payment levels. They
gathered relevant data and set new payments on the basis of their analysis
after notifying suppliers. While HCFA generally evaluated the procedure
followed and functions performed by the contractor, contractor
determinations of payment levels were not reviewed on a case-by-case basis.
In 1986, HCFA was required by law to establish regulations describing the
factors to be used in an inherent reasonableness review.9 In 1987, a new
Medicare payment methodology for medical equipment and supplies, primarily
based on fee schedules, was enacted.10 That law was amended in 1988 to
require that the inherent reasonableness process for medical equipment and
supplies include detailed notice and comment rulemaking procedures that
could be accomplished only by HCFA--not by the DMERCs.11 As stated
previously, this requirement made the inherent reasonableness process long
and cumbersome. Changing an unreasonable payment amount for any product
group required, among other things, a formal rulemaking process that
involved the Administrator of HCFA, the Secretary of Health and Human
Services, and the Director of the Office of Management and Budget (OMB).
HCFA has successfully used the inherent reasonableness process in only one
instance: it took almost 3 years to adjust the Medicare fee schedule for
blood glucose monitors.

Following several reports that Medicare was overpaying for medical equipment
and supplies and needed more flexibility to adjust payment amounts, the
Congress, in the Balanced Budget Act of 1997, expanded HCFA's options for
making inherent reasonableness adjustments. The law no longer requires HCFA
to use the formal rulemaking process to make inherent reasonableness
adjustments as long as the annual adjustments are 15 percent or less. The
only requirement remaining is that HCFA describe in regulation the factors
to be used in determining when payment amounts are not inherently reasonable
as well as those to be considered in establishing reasonable payment
amounts.12 These are factors to be considered in any future inherent
reasonableness review and are not specific to any particular product or
service.

In revising the existing inherent reasonableness regulations, HCFA set up
three different procedures for conducting the inherent reasonableness
process and adjusting payment amounts:

ï¿½ HCFA adjusts payment amounts by more than 15 percent in a year,

ï¿½ HCFA adjusts payment amounts by up to 15 percent in a year, and

ï¿½ the DMERCs adjust payment amounts by up to 15 percent in a year. (See app.
II for an illustration of the three inherent reasonableness procedures.)

The original inherent reasonableness process--which required the notice of
proposed rulemaking--now applies only to payment adjustments of more than 15
percent in a year. However, the regulations do not articulate under what
circumstances HCFA and the DMERCs will use the three inherent reasonableness
procedures.

HCFA and the DMERCs follow different procedures to adjust Medicare payments
by up to 15 percent a year. In adjusting payments for medical equipment and
supplies, HCFA employs public notice and comment procedures.13 The DMERCs,
on the other hand, can bypass the requirement for public notice and comment.
Instead, through local bulletins, the DMERCs inform the affected suppliers
of the factors considered in adjusting a payment amount and provide direct
notice of the proposed inherent reasonableness adjustments. They also
solicit supplier comments. The DMERCs must evaluate the comments and notify
HCFA regarding the proposed payment amounts. Once HCFA acknowledges in
writing that it has received this notification, the DMERCs' proposed payment
amount may be applied 30 days after their notification to HCFA. The DMERC
procedure is expected to reduce the time needed to implement the inherent
reasonableness process and hereafter is called "streamlined" inherent
reasonableness authority.

Revised Inherent Reasonableness Process

Industry groups expressed concern that HCFA did not publish a notice of
proposed rulemaking before issuing its regulations on the use of the revised
inherent reasonableness process. However, we believe that HCFA acted
properly in issuing the regulations in this fashion because the criteria
were met for bypassing the general requirement for issuing a notice of
proposed rulemaking. HCFA also acted within its authority in delegating the
revised inherent reasonableness process to the DMERCs. The BBA was important
in removing the barriers that prevented the DMERCs from conducting inherent
reasonableness reviews; however, HCFA did not materially change the factors
to be considered under the inherent reasonableness process in the revised
regulations. HCFA and the DMERCs will conduct inherent reasonableness
reviews under the same circumstances and may consider almost all of the same
factors they did when conducting inherent reasonableness reviews in the
past. Moreover, delegation is proper because pricing Medicare goods and
services is already a responsibility of the DMERCs and the statute does not
specifically preclude delegation of this authority to the DMERCs.

Inherent Reasonableness Regulations as an Interim Final Rule

Section 4316 of the BBA enabled HCFA to use a more flexible, simplified
process to adjust unreasonably high or low Medicare payment amounts by up to
15 percent per year. On January 7, 1998, HCFA revised its inherent
reasonableness regulations in the form of an interim final rule with comment
period, which became effective on March 9, 1998.14 The DMERCs were delegated
authority under the rule to make inherent reasonableness adjustments of up
to 15 percent a year. By issuing the rule in this fashion, HCFA was able to
finalize the regulation on an expedited basis, allowing the DMERCs to
quickly begin their inherent reasonableness reviews.

Various industry groups likely to be affected by future inherent
reasonableness adjustments believed that HCFA deprived them of the
opportunity to comment on the revised inherent reasonableness regulations
because HCFA did not issue a notice of proposed rulemaking. The Small
Business Administration also contended that by not publishing a proposed
rule HCFA was able to avoid analyzing the potential effect that the
regulation would have on small businesses. Proposed rules are not legally
binding until after a public comment period and the issuance of a final
rule, a process that can sometimes take years to complete.

When federal agencies take official action, they are generally required to
publish a proposed rule in the Federal Register and provide interested
parties the opportunity to participate by submitting written comments and
other material for the agency to consider before such rules become
effective. Whenever a proposed rule is published, an agency also must
publish an initial regulatory flexibility analysis describing the effect on
small businesses.15 Unless otherwise required by statute, however, an agency
may bypass proposed rulemaking when it determines for good cause that it is
impracticable, unnecessary, or contrary to the public

interest.16 This also permits an agency to bypass the requirement to publish
an initial regulatory impact statement.

HCFA concluded that publishing a proposed rule in this case was both
unnecessary and contrary to the public interest. HCFA asserted that it was
unnecessary because the revised inherent reasonableness regulations did not
significantly change the underlying inherent reasonableness methodology. The
inherent reasonableness methodology already in place when the interim final
rule was issued called for replacement of the standard payment amount when
application of the statutory payment methodology resulted in a Medicare
payment amount that was "grossly excessive" or "grossly deficient" and thus
not inherently reasonable. These existing inherent reasonableness
regulations described the factors to be used in determining when a Medicare
payment amount is grossly excessive or deficient and in establishing a
realistic and equitable payment amount. The revised regulations did not
materially change these existing regulations.

Additionally, HCFA allowed for a 60-day comment period before the interim
final rule became effective and has indicated that before finalizing its
regulations on the inherent reasonableness process it will consider any
comments received. HCFA also stated that it is contrary to the public
interest to delay savings to the Medicare program and to beneficiaries--in
the form of lower copayments--that could be achieved through the revised
inherent reasonableness process.

HCFA's reliance on the good cause exception to bypass formal notice and
comment rulemaking procedures seems reasonable. The revised inherent
reasonableness regulations change neither the factors that may be considered
in determining whether a payment amount is grossly excessive or deficient
nor the sources of information that can be used to establish realistic and
equitable payment amounts. For example, Medicare payment amounts can be
determined to be excessive if they are much higher than production and
supplier acquisition costs for products covered under the reviewed product
group.17 These costs also can be considered in establishing a realistic and
equitable payment amount.18 This methodology for applying the inherent
reasonableness process has existed in regulation since 1986 and has already
been through a formal notice and comment rulemaking process.19 We believe it
is a reasonable interpretation of the statute. HCFA should respond to
industry concerns regarding this methodology in the final rule on the
inherent reasonableness process.

The legislative history of the good cause exception provides that notice and
comment are unnecessary in cases in which "minor or merely technical"
amendments to regulations are issued.20 The leading precedent for this line
of argument is National Helium Corp. v. FEA, in which the court considered
notice and comment unnecessary because a change in a pricing regulation was
largely technical and did not substantively alter the existing regulatory
framework or application of the rules to the parties involved in the case.21
Similarly, the only significant change to the inherent reasonableness
regulations is permitting the use of a less cumbersome process when
adjusting Medicare payments by up to 15 percent per year and allowing once
again the DMERCs to make inherent reasonableness adjustments. The inherent
reasonableness framework and its application to suppliers remain essentially
intact.

Likewise, we accept HCFA's finding that good cause exists to bypass the
formal notice and comment procedures because it would be contrary to the
public interest to delay the savings to the Medicare program and its
beneficiaries. Numerous GAO and HHS Office of Inspector General reports have
documented that Medicare overpays for certain medical equipment and
supplies.22 HCFA has a fiduciary responsibility to safeguard Medicare funds.
The BBA gave HCFA the flexibility to act expeditiously in adjusting
unreasonable Medicare payments for medical products. The imposition of the
notice and comment procedures associated with proposed rulemaking would
hinder HCFA's ability to bring Medicare payments in line with market prices
in a timely manner. In short, we find that going through the notice of
proposed rulemaking to issue the inherent reasonableness regulations would
have serious financial implications for Medicare and its beneficiaries.

Responsibility to the DMERCs

HCFA acted within its authority when it delegated certain responsibilities
under the revised inherent reasonableness process to the DMERCs. The DMERCs
have the authority under the regulations to make inherent reasonableness
adjustments of up to 15 percent a year. Some supplier groups commented that
it was improper for HCFA to bypass its complex set of regulatory procedures
for adjusting Medicare payments and allow the DMERCs to conduct inherent
reasonableness reviews. These groups said that if the DMERCs jointly act to
adjust Medicare payment rates, this action would set payment rates at the
national level, and the inherent reasonableness process applicable to HCFA
should be followed.

Neither section 4316 of the BBA, which amended the inherent reasonableness
provision of the Social Security Act, nor the Social Security Act itself
specifically precludes HCFA from delegating responsibility under the revised
inherent reasonableness process to the DMERCs. Moreover, section 4316 of the
BBA removed the legal barriers that had prevented the DMERCs from making use
of the inherent reasonableness process over durable medical equipment,
prosthetics, orthotics, and supplies. This provision is included in Medicare
law under the section regarding the use of Medicare contractors in
administering benefits. Although the BBA is silent on the issue of DMERC
delegation, we believe that HCFA made a reasonable interpretation of the
statute to permit delegation of the "streamlined" inherent reasonableness
authority to its contractors.

HCFA has long relied on its Medicare contractors and their expertise to
handle pricing and payment issues. The DMERCs have staff who conduct payment
reviews by collecting historical and current catalog prices. These pricing
staff review information to establish initial payment amounts for products
covered under newly created product groups. An individual DMERC can also
adjust states' base fees when information indicates that they are
inappropriate. For example, a DMERC may determine that problems with
supplier charge data have led to inaccurate and unreasonable state base
fees. Because these adjustments can affect suppliers, the regulations
require the DMERCs to inform the affected suppliers and give them 30 days to
comment. These DMERC pricing activities preceded the revised inherent
reasonableness process under the BBA. Given that inherent reasonableness
determinations are well within the expertise of DMERC staff and that HCFA
has a responsibility to adjust unreasonable Medicare payments in a timely
manner, HCFA's delegation of inherent reasonableness authority to the DMERCs
is reasonable.

Medicare Payments for Five of Eight Product Groups

The DMERCs exercised their streamlined inherent reasonableness authority by
surveying retail prices for certain commonly used medical products. They
found that Medicare pays more than the median surveyed retail prices for
these product groups. While the DMERCs collected a large number of retail
prices from different locations, they did not conduct the retail surveys as
rigorously as they could have. Despite problems in the survey process, we
believe the results can be used as a basis for adjustments of up to 15
percent for the product groups for which Medicare payments clearly exceed
median retail prices by more than 15 percent--lancets, eyeglass frames, a
type of urinary catheter, and two types of catheter insertion trays (because
their price adjustments were based on the adjustment for catheters).
However, the surveys are not sufficient, without additional information and
analysis, to serve as a basis to adjust payments for glucose test strips,
albuterol sulfate, and enteral formulas because the DMERCs did not follow a
rigorous methodology to ensure that the payment amounts set for these items
were appropriate.

for High-Volume Products

The DMERCs began their use of the streamlined inherent reasonableness
authority by reviewing prices for products that were frequently used by
Medicare beneficiaries, that could be purchased in retail stores, and for
which Medicare appeared to overpay. They chose items that were also
purchased by retail customers who were not Medicare beneficiaries so that
the current Medicare payment amount would have less influence on the price
set in the retail market. The DMERCs surveyed prices for six of the eight
reviewed product groups: glucose test strips, lancets, standard eyeglass
frames, latex Foley catheters, category 1 enteral tube-feeding formulas, and
albuterol sulfate (an inhalation drug used with a nebulizer). For the other
two product groups, they planned to use prices collected on catheters to
propose payment adjustments for two types of catheter insertion trays,
because catheters are the main component in the trays. Several of the
product groups--albuterol sulfate, enteral formulas, and catheters--were
ones that the HHS Office of Inspector General and we had identified as being
overpriced.

The four DMERCs surveyed retail stores in at least 16 states and used the
median retail price for each item as the benchmark for a reasonable maximum
payment amount. Using the median price is similar to the statutory method
for establishing Medicare payment limits for most

medical products based on the median of state fees.23 The DMERCs also used
the median or average catalog price, whichever is lower, as the basis for
the maximum payment amounts for new product groups.

Through the retail survey, the DMERCs found that the median retail prices
were less than Medicare's maximum payment amounts for the six product groups
surveyed. As a result, the DMERCs proposed new maximum payment allowances
based on the median retail prices for these product groups (see table 1).
For the other two product groups reviewed--two types of catheter insertion
trays--the DMERCs proposed to reduce state fees, but they did not collect
retail prices for these items because the trays are not generally purchased
in retail settings. Instead, for these two product groups the DMERCs
proposed adjusting state fees on the basis of the payment reductions for
latex Foley catheters, which, according to HCFA officials, are the most
expensive items included in the insertion trays. For these two product
groups, the highest payment reductions the DMERCs proposed were about 23
percent for catheter insertion trays without drainage bags (with 15 percent
applied in the first year) and 14 percent for trays with drainage bags.

                                                 Median
     Product group      1998 Medicare maximum    retail       Percentage
                         payment allowancea                   reduction
                                                 priceb
 Glucose test strips
 (50 per box)           $36.73                $35.49       3.4
 Lancets (100 per box)  12.15                 7.81         35.7
 Eyeglass frames        62.06                 49.00        21.0
 Coated latex Foley
 catheters              11.70                 8.89         24.0
 Category 1 enteral
 formulas (per 100      0.61                  0.51         16.4
 calories)
 Albuterol sulfate (.83
 percent per 3 ml.      0.47                  0.42         10.6
 vial)

aThese allowances represent the upper payment limit of the fee schedule for
glucose test strips, lancets, eyeglass frames, and catheters. For these
product groups, the maximum payment allowances are also the median of state
fees. These allowances also represent the maximum reasonable charge for
category 1 enteral formula and the payment amount for albuterol sulfate.
Medicare pays 80 percent of these allowances, and the beneficiary pays the
remaining 20 percent.

bThe median retail price would replace the maximum payment allowance for
these product groups.

Source: HCFA.

As table 1 shows, four product groups that the DMERCs surveyed had
differences between the Medicare maximum payment allowance and the median
retail price of more than 15 percent. Because the DMERC inherent
reasonableness process can be used only to adjust prices by up to 15 percent
a year, for these product groups the DMERCs proposed a 15-percent reduction
for the first year and additional adjustments in future years until the
difference is eliminated. For example, imposing the 35.7-percent payment
reduction for lancets would involve adjustments of 15 percent for 2 years,
and a partial adjustment of 5.7 percent in the third year.

For products paid under the fee schedule, the proposed payment reductions
would vary by state. In some states, there would be little or no reduction
in fees paid for certain product groups. For example, 8 states that
previously had the lowest fees for eyeglass frames and 21 states with the
lowest fees for glucose test strips would experience no payment change
because the fees paid in those states were below the new proposed fees.24
Other states would experience less than the maximum change. (See app. III
for state fees and proposed payment reductions by reviewed product group.)

Industry groups raised two major concerns about the DMERCs' proposals to
reduce Medicare payments for the eight reviewed product groups. They
believed that using the revised inherent reasonableness process when the
total percentage reductions in Medicare payments exceeded 15 percent would
violate congressional intent. They also stated that the proposed 3.4-percent
reduction in the upper payment limit for glucose test strips does not
indicate that Medicare's fee schedule is grossly excessive. Therefore, they
did not believe a payment reduction is warranted.

According to the statute, if the revised process is used, inherent
reasonableness payment adjustments cannot exceed 15 percent in a single
year.25 HCFA has asserted that if it or the DMERCs determine that Medicare
payments should be reduced by more than 15 percent in total, they may use
the revised process to implement these reductions incrementally over several
years until the full reduction is achieved. In our opinion, the law does not
preclude HCFA or the DMERCs from using the revised inherent reasonableness
process as long as the adjustments do not exceed 15 percent in a single
year.26 However, HCFA and the DMERCs should have firm evidence to justify
subsequent payment reductions. To develop that evidence, HCFA or the DMERCs
should confirm market prices in the subsequent years to ensure that the
proposed reductions continue to be appropriate.

In addition, the inherent reasonableness process can be used only when
Medicare payments are "grossly excessive or deficient." The law does not
define when a payment amount is "grossly excessive," although clearly an
adjustment of under 15 percent could qualify, because the inherent
reasonableness authority extends to situations in which the difference
between a current and proposed payment amount is under 15 percent. The
revised inherent reasonableness regulations also do not define when a
payment amount is "grossly excessive." HCFA pointed out that because of the
very high number of some items paid for by Medicare, even a relatively small
excess payment per product group can lead to high overpayments. As a result,
HCFA believes that overpaying for a single product group by even a small
amount can be characterized under the statute as grossly excessive. Issuing
a final rule will give HCFA an opportunity to better explain the terms
"grossly excessive or deficient" payment--and not just give examples of
factors that may result in grossly excessive or deficient payments--so that
suppliers are aware of the different criteria for conducting inherent
reasonableness reviews.

Suggesting Certain Results Should Be Used With Caution

The DMERCs' surveys of retail prices had deficiencies, which limits our
confidence in the use of the results to estimate reasonable payment
reductions for three of the eight product groups. In general, we believe the
survey results clearly indicated that Medicare overpaid for five of the
eight product groups. The DMERCs sampled prices in different states and
collected a large number of retail prices to develop their payment
proposals. However, they did not choose their sample in a consistent way,
nor did they set sufficient criteria so that we could be assured that the
locations sampled represented retail prices nationally. The DMERCs also did
not follow a consistent methodology, leading to differences in how they
collected and analyzed retail prices, such as not properly calculating state
sales taxes for all items. In addition, the DMERCs did not survey the types
of enteral formulas and the packaging systems considered most appropriate
and generally used for tube feeding. Instead, they obtained prices for cans
of oral nutritional supplements.

Despite these deficiencies, we believe that the surveys provide a sufficient
basis to adjust payments by up to 15 percent for the product groups for
which Medicare pays substantially more than 15 percent above the median
retail price. However, for glucose test strips and albuterol sulfate, the
difference between the current maximum Medicare payment amount and the
DMERCs' median surveyed price was less than 15 percent, and thus the
precision of the survey results becomes more critical to setting the new
payment amounts. Similarly, the survey results are questionable for enteral
formulas, because the DMERCs did not survey the types of enteral formulas
and the packaging systems considered most appropriate and generally used for
tube feeding. As a result, we do not believe the surveys of glucose test
strips, albuterol sulfate, and enteral formulas provide a sufficient basis,
without gathering more information, to adjust the payment amounts.

DMERC Sample of Prices Was Large but Might Not Fully
Represent the Range of Retail Prices

The DMERCs collected about 2,800 prices for the six product groups. They
used a judgmental sample, meaning that they chose certain locations to
obtain retail prices that they believed represented a good mix of localities
across the country. However, they did not choose a sample of states and
localities for their surveys of retail stores or samples of stores in those
locations in a consistent way. Setting criteria would have ensured that the
prices sampled fully represented the range of retail prices nationally.

To establish a median retail price, the DMERCs decided that each would
select three populous states and one less populous state, and within each
state, sample three urban areas and two rural areas. Then, within each urban
area the DMERCs agreed to select four large stores and one small store,
while within each rural area they were to select one store.

A weakness in the DMERCs' sampling plan is that it was developed without
fully considering the geographic distribution of Medicare beneficiaries.
Also, the DMERCs did not consider relative prices in the localities from
which they sampled, which would have helped ensure that an appropriate mix
of areas with high, medium, and low consumer prices was included.
Furthermore, the DMERCs did not establish criteria to define populous state,
less populous state, urban area, and rural area, and consequently each DMERC
used different criteria in selecting locations. The DMERCs were also not
consistent in how they chose retail outlets within the selected cities.

Because of the sampling methodology used, we cannot be certain that the full
range of retail prices that Medicare beneficiaries might pay was reflected
in the DMERCs' sample. As a result, it is not clear how close the median of
sampled prices may be to the median of national prices for each product
group. In our opinion, this weakness is less important when the current
Medicare payments are significantly higher than the proposed payment
amounts. This is because the precision of the median price does not matter
as much when a payment adjustment of up to 15 percent in the first year
would still leave the Medicare payment higher than the median. However, the
quality of the sample becomes a more significant issue when the difference
between the current maximum payment and the median is small--such as the
estimated 3.4-percent proposed reduction for glucose test strips.

Industry groups contended that large urban areas were underrepresented in
the DMERCs' surveys of retail prices. These groups claimed that median
retail prices in large urban areas are higher than in other population areas
and therefore underrepresenting these areas resulted in a downward bias in
the surveyed median price. We found that the distribution of sampled prices
from localities surveyed was not fully representative of the distribution of
the U.S. population (see table 9 in app. IV). However, this did not appear
to give a downward bias to the survey results, because the DMERCs sampled
retail prices in many large urban areas, and the larger urban areas in the
survey did not always have the higher median retail prices (see table 10 in
app. IV).

Survey Methods Were Not Consistent Among the DMERCs

The DMERCs did not use consistent methods to collect and analyze the pricing
data. HCFA provided guidance on survey methodologies because the DMERCs were
conducting a retail survey for the first time under the revised inherent
reasonableness process. The DMERCs also discussed with HCFA the methods to
be used in their surveys. But the DMERCs did not develop written guidelines
for data collection and analysis. As a result, we found differences among
the DMERCs' practices in requesting pricing data and in calculating the
proposed reductions. The DMERCs did not develop a consistent set of survey
questions to use when they requested prices from retail stores. This made
their survey less rigorous, and it was impossible to determine, after the
fact, whether they collected price information in a consistent way.

Various industry groups were concerned that the DMERCs consistently sampled
less expensive products that beneficiaries rarely use and that the survey
results included prices for products that were temporarily "on sale." They
were also concerned that the DMERCs conducted primarily telephone surveys,
which, compared with site visits, may have missed pricing information on
higher priced items available in a store. However, these are not valid
criticisms of the survey because, as a general principle, the Medicare
program covers products to the extent that they are medically necessary but
does not cover deluxe products, such as designer eyeglass frames, or
products with features that are designed only for personal convenience and
comfort. HCFA's guidance to the DMERCs was based on this principle.
Generally, the DMERCs were to survey retail stores for the most reasonably
priced item that a consumer could buy within the surveyed product groups.
The exceptions were glucose test strips and lancets. Since specific brands
of diabetic supplies must be used in conjunction with specific blood glucose
monitors, the DMERCs were asked to survey different brands of test strips
and lancets so that prices reflected testing supplies used with different
blood glucose monitor models currently on the market.

We found that for glucose test strips and lancets, the DMERCs collected
prices for a range of brands to ensure that they had information on a
variety of testing supplies used with different monitor models. For other
product groups, the DMERCs did not collect as many prices. When they
obtained prices for different-sized packages for the same brand of testing
supplies or for various items within a product group from the same store on
the same day, they generally used the packaging size with the lowest unit
price or the lowest-priced sample to calculate the median price.

In addition to inconsistencies in collecting data, the DMERCs were not
always consistent in calculating the state sales tax to be added to the
purchase price for some of the items.27 The tax treatment of medical
equipment and supplies varies among states. For example, many states exempt
eyeglasses from state sales tax, whereas other states do not. Our
preliminary analysis showed that the DMERCs correctly calculated the sales
tax in many of the surveyed states, but for other states, they either
overstated or understated the sales tax. Because the DMERCs erred in both
directions, the net effect is considerably lessened.

While these errors in calculating sales tax had a negligible effect on the
proposed payment amounts for most items, they did affect the proposed
payment limit for glucose test strips and albuterol sulfate because the
proposed reductions are small. For example, our preliminary analysis
indicated that the DMERCs incorrectly applied sales taxes to prices of
glucose test strips sampled in seven states. Once we applied what we believe
are the appropriate sales taxes, the median retail price rose to $35.99--a
2.0-percent, rather than a 3.4-percent, reduction from the current payment
limit for this item. In the case of albuterol sulfate, we found that
prescription drugs are exempt from sales tax in the states where prices were
sampled. One DMERC added sales taxes even though taxes may not have been
applicable in those states. Correcting this appeared to reduce the median
surveyed price to $.41--which represents a 12.7-percent, rather than a
10.6-percent, reduction in the payment amount.

We believe that the DMERCs could have avoided some of their inconsistent
survey practices and been less open to criticism if they had used a written
survey guide to help collect and prepare the pricing data. It is standard
practice when collecting survey data to use a written survey instrument to
help ensure that all respondents are asked the same questions in the same
manner so that the data collected are consistent and comparable.

DMERCs Did Not Survey Enteral Products Used in Tube Feeding

In our 1998 report on Medicare payments for medical equipment and supplies,
we found that different types of items can be billed under the same product
group and that HCFA does not know the specific items supplied to a
beneficiary under its billed product groups.28 To set a maximum payment
amount for enteral formulas, the DMERCs surveyed prices on some types of
items covered under the product group for tube-feeding formulas. However,
our review of the survey results indicated that the DMERCs did not sample
the most appropriate enteral formulas for tube feeding. They also did not
collect pricing data on sterile prefilled formula bags, which are commonly
used for enteral feeding in nursing homes to reduce the risk of patient
infection. As a result, we do not believe that the survey results support
the proposed payment reduction without additional information and analysis.

To price enteral formulas, the DMERCs primarily sampled over-the-counter
items sold in retail stores as oral nutritional supplements. Medicare covers
enteral formulas intended for beneficiaries who must be fed through a tube
but not when the formulas are used as oral supplements. HCFA's rationale for
pricing oral supplements was that they could be used in feeding tubes.
However, several pharmacists and enteral nutritionists told us that while
over-the-counter formulas can be used for a small subset of tube-fed
patients, such formulas are generally not the most appropriate products for
tube feeding. They also said that although over-the-counter formulas were
used for this purpose in the past, new formulas have been developed
specifically for tube-fed patients that are better tolerated and are more
widely provided to Medicare beneficiaries.

Moreover, when we reviewed enteral products approved by several hospitals,
medical centers, and VA hospitals for standard tube feeding, we found that
these facilities did not generally include as approved formulas the
over-the-counter formulas that the DMERCs surveyed. In addition, we reviewed
billing data from two large Medicare medical suppliers and found that
specialized tube-feeding formulas--not the products the DMERCs
surveyed--were the most common items provided to beneficiaries under the
enteral formula product group. By not surveying the prefilled bags, the
DMERCs did not develop any price information on this type of packaging, even
though this type of packaging represented about half of the products these
two suppliers billed to Medicare under the product group.

As the industry contended, the specialized formulas for tube-fed patients
packaged in cans or prefilled formula bags were generally not available
over-the-counter. As a result, a retail survey was not the best way to
establish the payment amount for category 1 enteral formulas. Because we do
not know whether prices for oral supplements are similar to the tube-feeding
formulas generally used, in cans or prefilled bags, we do not know whether
the proposed reduction in Medicare's payment amount for this product group
is reasonable. To set an appropriate payment amount, the DMERCs or HCFA
needs to determine the products generally used by beneficiaries, and the
distribution channels for those products, and then collect additional price
information on those products.

Product Groups May Be Too High

Despite our concerns about the methods used to conduct the survey of retail
prices and the results for glucose test strips, albuterol sulfate, and
enteral formulas, Medicare fees may be excessive for these product groups.
Surveying retail prices is not the only method of reasonably establishing
what Medicare should pay. In fact, using retail prices may lead Medicare to
continue to overpay suppliers for some product groups that are not typically
or often purchased by beneficiaries in a retail setting.

Retail surveys may be appropriate for determining a reasonable reimbursement
rate for beneficiaries who typically purchase items off the shelf. Retail
prices reflect the costs of getting the items to the consumer--both the
costs for the store to acquire the items and the costs to deliver them in a
retail setting--plus a profit margin. According to HCFA, retail prices can
also include some service costs, such as credit card billing and pharmacy
services.29 Certain product groups, such as eyeglass frames, are usually
consumer goods for which retail prices represent the prices generally
charged to the public for these goods. Some product groups, such as glucose
test strips and lancets, have both a consumer and an institutional market.
For these product groups, beneficiaries and suppliers purchase the same
items and bill Medicare for reimbursement. Other product groups frequently
billed to Medicare, such as catheters and related products, are generally
purchased only by suppliers such as nursing home suppliers and home medical
equipment and supply companies. These entities provide medical equipment and
supplies to nursing home and home-bound beneficiaries and bill Medicare on
their behalf.

Suppliers generally pay wholesale prices that reflect volume discounts for
purchasing items in bulk and have different costs to deliver items to
beneficiaries than do retail outlets. Yet Medicare pays the same amount for
an item that beneficiaries purchase at retail and suppliers purchase at
volume discount.

A strategy other than using retail prices may be more appropriate for
estimating reasonable Medicare payments for products generally provided by
suppliers, such as enteral formulas. A better estimate may be based on
wholesale prices or suppliers' acquisition costs with a reasonable markup
for service costs. HCFA and the DMERCs may be able to get information on
suppliers' costs to acquire the item, such as a wholesale price. Medicare
payments should also cover any services necessary to furnish a product to
beneficiaries. These services can include beneficiary education and
training, delivery, and the cost of billing Medicare for the product. It may
be more difficult to determine a reasonable markup for the costs of
providing services associated with the product to the beneficiary.
Nonetheless, identifying these services, estimating their costs, and adding
this markup to the wholesale price may be one way to set new and reasonable
maximum payment amounts.

The prices that the Department of Veterans Affairs (VA) pays for medical
equipment and supplies provide a rough estimate of the wholesale prices that
large suppliers pay because VA is a large purchaser. As table 2 shows,
median VA prices for five of the six surveyed product groups were
considerably lower than current Medicare payment amounts. However, VA prices
do not include all the service costs associated with getting the product to
the beneficiary. How much markup would be necessary to account for these
costs is not certain. However, as table 2 also shows, sizable markups could
be added to VA prices and the results would still be less than Medicare's
maximum payment allowances. For example, adding a 100-percent markup to the
VA price for category 1 enteral formulas would result in Medicare paying
$.34 instead of $.61 per 100 calories.

                                  1998 Medicare   1998 VA    Percentage
 Product group   1998 Medicare    maximum payment median     markup added
                 expenditures
                                  allowancea      price      to VA price
 Glucose test
 strips (50 per  $291,906,224     $36.73          $21.29     72.5
 box)
 Albuterol
 sulfate (.83
 percent per 3   207,317,969      0.47            0.11       327.3
 ml. vial)
 Category 1
 enteral
 formulas (per   189,683,827      0.61            0.17b      258.8
 100 calories)
 Lancets (100
 per box)        32,989,146       12.15           4.03       201.5
 Eyeglass frames 22,599,790       62.69           32.95      90.3
 Coated latex
 Foley catheters 1,580,344        11.70           c          c

aThese allowances represent the upper payment limit of the fee schedule for
glucose test strips, lancets, eyeglass frames, and catheters. For these
product groups, the maximum payment allowances are also the median of state
fees. These allowances also represent the maximum reasonable charge for
category 1 enteral formulas and the payment amount for albuterol sulfate.
Medicare pays 80 percent of these allowances, and the beneficiary pays the
remaining 20 percent.

bThe median VA price represents the standard tube-feeding formula, which is
purchased in cans. VA uses other tube-feeding formulas in cans for a subset
of patients who have special dietary needs. VA prices for these products
range from $.12 to $.19 per 100 calories. VA does not have a contract for
prepackaged delivery systems.

cNot applicable.

Sources: 1998 Medicare expenditures are from the Statistical Analysis
Durable Medical Equipment Regional Carrier; 1998 Medicare maximum payment
allowances and the 1998 VA median prices are from HCFA; and the percentage
markup is a GAO calculation.

For items that are not generally purchased in a retail setting, such as
enteral formulas for tube feeding, setting new payment amounts by using the
median VA price plus an appropriate markup may represent a better way to set
the amount. HCFA is currently using VA prices with a markup for service
delivery in its inherent reasonableness review of six other items.30 On
August 13, 1999, HCFA issued a proposed notice to reduce Medicare payments
for five items of durable medical equipment and one prosthetic device using
VA contract prices as a base and adjusting those prices upward by 67 percent
to account for supplier costs. HCFA developed its 67-percent markup using
the median of the differences between wholesale and suggested retail prices
for over 200 types of medical equipment and devices submitted to HCFA for
product category coding by manufacturers between 1989 and 1998. These coding
requests generally involved new products and technology, and HCFA reasonably
assumed the markup would be higher on such items than on items that had been
on the market a number of years. This inherent reasonableness adjustment is
on hold pending issuance of this report and the final rule.

but Monitoring Needed

While it is impossible to forecast with certainty whether any access
problems may result from the proposed payment reductions, we believe that it
is likely that sufficient numbers of suppliers will still be willing to
provide these product groups to beneficiaries after payment reductions of up
to 15 percent for eyeglass frames, lancets, catheters, and catheter
insertion trays. As a result, beneficiaries are unlikely to experience
access problems. After such reductions, Medicare payments will still be
higher than the median retail prices for these items, and because the
payment reductions are based on retail prices, suppliers will likely
continue to have the financial incentive to provide these products to
beneficiaries. However, HCFA should monitor the situation to determine
whether significant problems with access to medical equipment and supplies
arise because payments have become too low. If so, HCFA could then use its
inherent reasonableness authority to adjust payments so that Medicare
continues to pay prudently while beneficiaries continue to have adequate
access to needed medical equipment and supplies.

Are Unlikely to Affect Patient Access

The effect of the proposed payment reductions on beneficiary access depends
on whether Medicare payment amounts fall below the point at which sufficient
numbers of suppliers are willing to provide the items. If the payment amount
drops so far that it no longer covers suppliers' legitimate costs--including
the cost of doing business with Medicare--then suppliers may be unwilling to
provide the item for the Medicare payment amount and beneficiaries may
experience access problems.

We believe it is unlikely that reducing Medicare payments by up to 15
percent for lancets, eyeglass frames, catheters, and catheter insertion
trays will affect patient access because the current Medicare payment
exceeds the median retail price by more than 15 percent. The DMERCs'
intention in using retail prices was to eliminate excessive payments while
ensuring that beneficiaries could continue to obtain these products
over-the-counter. As we observed earlier in this report, retail prices (1)
represent the prices generally available to individual beneficiaries, (2)
include a share of the costs of maintaining retail space as well as other
services, and (3) are generally higher than what a prudent large-volume
purchaser would pay. Under these circumstances, basing inherent
reasonableness reductions on retail prices is conservative and not likely to
affect the availability of these items.

To determine whether access is affected by payment reductions, HCFA could
monitor various indicators of potential access problems. These indicators
could include the percentage of suppliers willing to accept the
Medicare-allowed payment amounts for the surveyed items and the number of
beneficiary complaints. Monitoring access is particularly important in
higher cost geographic areas. Similarly, monitoring access may be more
critical for product groups for which the national median retail prices are
closer to the current Medicare maximum payment amounts. Should access
problems occur, HCFA could adjust payment amounts as necessary.

HCFA has reduced prices in the past for items it believed were overpriced
with no significant effect on patient access to the item in question. For
example, section 4552 of the BBA reduced Medicare's fees for home oxygen by
30 percent after we reported that Medicare's fees were excessive compared
with those paid by VA. Subsequently, we reported that, according to
preliminary indications, access to home oxygen equipment remained

substantially unchanged.31 We found that despite the reduction, the number
of Medicare beneficiaries using home oxygen equipment continued to increase,
as did the percentage of home oxygen suppliers willing to accept the
Medicare fee as full payment. In Polk County, Florida, a competitive bidding
demonstration allowed HCFA to achieve an additional 16-percent reduction in
price (beyond the 30-percent BBA reduction) for home oxygen. This
competitive bidding experiment is being closely monitored through an
independent evaluation, and a number of beneficiary protections are in
place, including a full-time ombudsman and the right for beneficiaries to
continue using their home oxygen provider as long as that provider accepts
the new payment amount.

HCFA acted properly when it issued the revised inherent reasonableness
regulations as an interim final rule and has the authority to delegate
responsibility to the DMERCs to make inherent reasonableness payment
adjustments in certain circumstances. As required by the Congress, HCFA must
finalize the inherent reasonableness regulations and respond to industry
concerns, particularly regarding the agency's policies and procedures in
applying the revised inherent reasonableness process. This will give HCFA
the opportunity to better explain its understanding of the term "grossly
excessive or deficient" so that the criteria for conducting inherent
reasonableness reviews are clear to all parties.

The DMERCs' use of retail surveys to determine an appropriate price for
items that have a wide retail market is sound. In general, there is
sufficient evidence to indicate that Medicare overpays for most of the
reviewed product groups. Consequently, we believe that the median prices
from the DMERCs' retail surveys can serve as an adequate basis for making up
to 15-percent payment reductions for eyeglass frames, lancets, catheters,
and catheter insertion trays--items with a considerable difference between
the median retail price and Medicare's maximum payment allowance. However,
problems with the survey lead us to question whether further payment
reductions for these products should be made in subsequent years without
some additional data-gathering and analysis. In addition, while relying on
retail surveys when pricing products generally purchased by beneficiaries in
retail settings is sound, using this method for other product groups may
complicate pricing efforts and lead to higher Medicare payment amounts than
are warranted.

Because the DMERCs did not follow a rigorous survey process, their estimates
of retail prices are less precise than they could be. This matters more when
the difference between the current Medicare payment amount and the estimated
median retail price is smaller. As a result, the DMERCs should supplement
their data with additional information and analysis before reducing Medicare
payments for glucose test strips and albuterol sulfate. In addition, because
the DMERCs did not collect information on specific enteral formulas that are
considered most appropriate by clinical experts and are most commonly used
for tube feeding, the DMERCs should also gather more data to assess whether
the proposed payment reduction for this product group may be too high or too
low.

The results of the DMERCs' inherent reasonableness surveys for eyeglass
frames, lancets, catheters, and catheter insertion trays will not result in
payment allowances that are set artificially low. Therefore, we believe that
beneficiary access to these items is likely to be unaffected by the payment
reductions. The payment reductions should have the positive effect of
preventing overpayment by Medicare and saving taxpayers money without
harming beneficiaries. However, we believe it is important for HCFA to
monitor indications of problems with beneficiary access to medical equipment
and supplies, particularly in high-cost geographic areas or after multiple
payment reductions have been made, and be ready to respond if access appears
to become limited.

We recommend that

ï¿½ in promulgating the final rule on the inherent reasonableness process,
HCFA define with sufficient clarity the terms "grossly excessive" and
"grossly deficient;"

ï¿½ HCFA and the DMERCs collect and analyze additional information to more
precisely estimate any payment reductions for glucose test strips, albuterol
sulfate, and enteral formulas, as well as for additional payment reductions
in subsequent years for lancets, eyeglass frames, latex Foley catheters, and
catheter insertion trays without drainage bags;

ï¿½ for future inherent reasonableness reviews based on survey data, HCFA or
the DMERCs develop and implement a more structured survey design, including
sample selection, survey instrumentation, and data collection methods, and
ensure that the design is consistently used by all entities conducting the
survey; and

ï¿½ HCFA monitor indicators that could signal potential problems with patient
access to the product groups for which it is reducing maximum payments, and
act quickly to rectify any problems that arise.

HCFA commented on a draft of this report and generally agreed with its
findings and conclusions. (HCFA's letter is printed in app. V.) HCFA also
stated that it intended to incorporate all of our recommendations as it
moved forward with its promulgation of the final rule and use of the
inherent reasonableness process.

In its comments, HCFA emphasized the efforts it has made to be a more
prudent purchaser of health care services and items by using new authority
granted by the BBA to conduct competitive bidding demonstrations and to
exercise streamlined authority in using inherent reasonableness principles.
Following the issuance of this report, HCFA plans to publish as quickly as
possible a final regulation that incorporates our recommendations and to
proceed with the price adjustments we found appropriate--which will save an
estimated $8 million annually in grossly excessive payments.

HCFA expressed concerns that our report could have the unintended effect of
hindering HCFA's ability to effect needed adjustments using its inherent
reasonableness authority. It stated that the DMERCs' efforts to gather data
to support planned price reductions were far more extensive than any data
collection that had been done in the past, and met or surpassed earlier
recommendations that urged HCFA to use a streamlined inherent reasonableness
process. Nothing in this report is intended to hinder HCFA's efforts to use
the inherent reasonableness process to achieve appropriate payment amounts.

We will send copies of this report to the Honorable Donna E. Shalala,
Secretary of Health and Human Services; the Honorable Nancy-Ann Min DeParle,
Administrator of HCFA; appropriate congressional committees; and others who
are interested.

If you or your staff have any questions, please call me at (312) 220-7600 or
Sheila Avruch at (202) 512-7277. Other major contributors to this report
include Teruni Rosengren, Victoria Smith, Michelle St. Pierre, and Craig
Winslow.

Sincerely yours,

Leslie G. Aronovitz
Associate Director, Health Financing and
Public Health Issues

Scope and Methodology

We conducted our study between April 1999 and May 2000 in accordance with
generally accepted government auditing standards. To determine whether HCFA
(1) acted properly in issuing its inherent reasonableness regulations as an
interim final rule and (2) has the authority to delegate the inherent
reasonableness process to the DMERCs, we reviewed the laws and regulations,
relevant case law, and legislative history of the inherent reasonableness
process under the Medicare Act. We also reviewed the notice and comment
requirements of the Administrative Procedure Act and relevant case law.
Additionally, we reviewed industry comments and HCFA's pre-BBA legislative
initiative to improve the inherent reasonableness process.

We evaluated the DMERCs' surveys of retail prices used to develop the
payment proposals for the following eight product groups:

ï¿½ blood glucose test or reagent strips for home blood glucose monitor, per
50 strips (A4253);

ï¿½ lancets, per box of 100 (A4259);

ï¿½ insertion tray without drainage bag with indwelling catheter, Foley type,
two-way latex with coating (A4311);

ï¿½ insertion tray with drainage bag with indwelling catheter, Foley type,
two-way latex with coating (A4314);

ï¿½ indwelling catheter, Foley type, two-way latex with coating--Teflon,
silicone, silicone elastomer, or hydrophilic (A4338);

ï¿½ enteral formulas--category 1, semisynthetic intact protein/protein
isolates, 100 calories = 1 unit (B4150);

ï¿½ albuterol, inhalation solution administered through durable medical
equipment, unit dose form, per mg (K0505); and

ï¿½ frames, purchase (standard) (V2020).

We met with industry groups representing manufacturers, distributors,
medical equipment and supply companies, enteral formula providers, and
long-term care providers to discuss their concerns regarding the survey and
how HCFA implemented the inherent reasonableness process. We reviewed their
written comments on HCFA's interim final rule and the DMERCs' inherent
reasonableness notices and industry-sponsored studies. We also met with an
organization that lobbies for people who have had ostomy surgery. In
addition, we reviewed GAO and HHS Office of Inspector General reports on the
adequacy of Medicare payments for medical equipment and supplies.

We met with HCFA officials and contacted the pricing staff from the four
DMERCs to discuss the revised inherent reasonableness process and methods
for implementing it. The individual DMERCs provided us with data on the
retail surveys. They also gave us information on the survey process
including the survey questions they asked and the state sales tax they
applied to the purchase price of the items surveyed. The primary states from
which survey data were obtained were California, Florida, Idaho, Indiana,
Maine, Massachusetts, Michigan, Minnesota, Missouri, New York, North Dakota,
Pennsylvania, South Carolina, Tennessee, Texas, and West Virginia. (The
DMERCs surveyed other states to collect supplemental data.) We also
discussed Medicare payment policies for the surveyed items with HCFA
officials and obtained the final inherent reasonableness survey results from
them.

Because the DMERCs provided us with more detailed survey data, we validated
those data against the final inherent reasonableness survey results. We
compared each price as reported by the individual DMERCs with the prices
included by HCFA in the final results and reconciled any discrepancies
identified. In addition, we verified whether state sales tax was
appropriately applied for each surveyed item for each surveyed state. We
reviewed state sales tax statutes, regulations, administrative opinions, and
publicly available guidance. We also discussed these matters with state
Department of Revenue officials. In cases in which state sales tax appeared
to be inappropriately applied, we recalculated the median retail price using
our best estimate of the applicable state sales tax at the time the prices
were surveyed.

To assess the DMERC survey process and results, we reviewed the survey
design and methodology with our senior methodologists and statisticians. We
also conducted several analyses to determine whether any systematic biases
existed in the data collection. For example, for each surveyed item, we
estimated the percentage of the sample prices that were obtained from phone
calls versus site visits. To assess the representativeness of survey
results, we used 1996 census estimates and the metropolitan statistical area
(MSA) population classification of the locations of stores from which prices
were gathered to compare the distribution of surveyed prices with the
general distribution of the U.S. population. We conducted a similar analysis
to determine whether the sample prices were obtained from stores with an
urban/rural distribution similar to that of the U.S. population. For this
comparison, we excluded the populations of Alaska, Hawaii, and the U.S.
territories since the inherent reasonableness limits were not applied to
these locations. For each surveyed item, we also calculated median survey
prices for each MSA population classification to determine whether a
systematic downward bias existed in the overall median prices estimated by
the survey.

To determine whether the DMERCs surveyed appropriate products, we obtained
product utilization data on enteral formulas from two large Medicare
suppliers. We also discussed the types of enteral formulas used for tube
feeding and oral supplementation with clinicians and pharmacists at VA
hospitals and other hospitals, enteral formula providers, and manufacturers.
To identify VA prices for tube-feeding formulas, VA provided us with its
1998 national contract for enteral products. HCFA also provided us with its
survey results on prices that VA medical centers paid for certain items of
medical equipment and supplies.

Comparison of the Inherent Reasonableness Procedures for HCFA and the DMERCs

1998 Fee Payments and the Total Proposed Payment Reductions for the Surveyed
Product Groups, by State

 State 1998 state feea  Total percentage payment reduction
 AL    $36.73           3.4
 AR    36.73            3.4
 CA    36.73            3.4
 CT    36.73            3.4
 DC    36.73            3.4
 FL    36.73            3.4
 IA    36.73            3.4
 IL    36.73            3.4
 LA    36.73            3.4
 MA    36.73            3.4
 MD    36.73            3.4
 ME    36.73            3.4
 MI    36.73            3.4
 MS    36.73            3.4
 NH    36.73            3.4
 NJ    36.73            3.4
 NY    36.73            3.4
 OR    36.73            3.4
 PA    36.73            3.4
 SC    36.73            3.4
 TN    36.73            3.4
 UT    36.73            3.4
 VA    36.73            3.4
 VT    36.73            3.4
 WV    36.73            3.4
 OH    36.54            2.9
 WY    35.71            0.6
 KY    35.65            0.5
 AZ    34.50            0.0
 MN    34.35            0.0
 MT    34.21            0.0
 RI    34.21            0.0
 DE    34.20            0.0
 WI    33.92            0.0
 GA    33.86            0.0
 SD    33.76            0.0
 WA    33.19            0.0
 ID    33.10            0.0
 ND    33.09            0.0
 TX    32.95            0.0
 IN    32.48            0.0
 NV    32.20            0.0
 NC    31.69            0.0
 NM    31.61            0.0
 NE    31.53            0.0
 KS    31.37            0.0
 CO    31.22            0.0
 MO    31.22            0.0
 OK    31.22            0.0

Note: The table does not include Alaska and Hawaii because they are exempt
from the national fee schedule and therefore are not subject to the proposed
payment reductions.

aThe 1998 state fee represented the amount Medicare allowed in each state at
the time of the DMERCs' inherent reasonableness survey. Medicare pays 80
percent of the allowed state fee and the beneficiary pays the remaining 20
percent.

 State 1998 state feea  Total percentage payment reduction
 AR    $12.15           35.7
 AZ    12.15            35.7
 CO    12.15            35.7
 CT    12.15            35.7
 FL    12.15            35.7
 GA    12.15            35.7
 IA    12.15            35.7
 IL    12.15            35.7
 KY    12.15            35.7
 LA    12.15            35.7
 MI    12.15            35.7
 MN    12.15            35.7
 MO    12.15            35.7
 MO    12.15            35.7
 MT    12.15            35.7
 NC    12.15            35.7
 ND    12.15            35.7
 NJ    12.15            35.7
 NM    12.15            35.7
 NV    12.15            35.7
 NY    12.15            35.7
 OR    12.15            35.7
 TX    12.15            35.7
 UT    12.15            35.7
 WA    12.15            35.7
 WY    12.15            35.7
 CA    11.81            33.9
 NE    11.70            33.3
 SC    11.62            32.8
 VA    11.54            32.3
 KS    11.42            31.6
 TN    11.16            30.0
 SD    11.01            29.0
 WV    10.95            28.7
 IN    10.54            25.9
 OK    10.44            25.2
 WI    10.44            25.2
 ID    10.38            24.8
 AL    10.33            24.4
 DC    10.33            24.4
 DE    10.33            24.4
 MA    10.33            24.4
 MD    10.33            24.4
 ME    10.33            24.4
 MS    10.33            24.4
 NH    10.33            24.4
 OH    10.33            24.4
 PA    10.33            24.4
 RI    10.33            24.4
 VT    10.33            24.4

Note: Table does not include Alaska and Hawaii because they are exempt from
the national fee schedule and therefore are not subject to the proposed
payment reductions.

aThe 1998 state fee represented the amount Medicare allowed in each state at
the time of the DMERCs' inherent reasonableness survey. Medicare pays 80
percent of the allowed state fee and the beneficiary pays the remaining 20
percent.

 State 1998 state feea  Total percentage payment reduction
 AL    $11.70           24.02
 AR    11.70            24.02
 AZ    11.70            24.02
 CA    11.70            24.02
 CO    11.70            24.02
 DC    11.70            24.02
 FL    11.70            24.02
 IA    11.70            24.02
 ID    11.70            24.02
 IL    11.70            24.02
 IN    11.70            24.02
 KS    11.70            24.02
 KY    11.70            24.02
 LA    11.70            24.02
 MA    11.70            24.02
 ME    11.70            24.02
 MI    11.70            24.02
 MN    11.70            24.02
 MO    11.70            24.02
 MS    11.70            24.02
 MT    11.70            24.02
 ND    11.70            24.02
 NE    11.70            24.02
 NH    11.70            24.02
 NV    11.70            24.02
 OH    11.70            24.02
 OR    11.70            24.02
 SC    11.70            24.02
 SD    11.70            24.02
 TX    11.70            24.02
 UT    11.70            24.02
 VA    11.70            24.02
 VT    11.70            24.02
 WA    11.70            24.02
 WI    11.70            24.02
 WV    11.70            24.02
 WY    11.70            24.02
 CT    11.26            21.05
 RI    11.10            19.91
 NC    10.37            14.27
 TN    10.31            13.77
 DE    10.08            11.81
 MD    10.08            11.81
 NJ    10.08            11.81
 PA    10.08            11.81
 GA    9.95             10.65
 NM    9.95             10.65
 NY    9.95             10.65
 OK    9.95             10.65

Note: Table does not include Alaska and Hawaii because they are exempt from
the national fee schedule and therefore are not subject to the proposed
payment reductions.

aThe 1998 state fee represented the amount Medicare allowed in each state at
the time of the DMERCs' inherent reasonableness survey. Medicare pays 80
percent of the allowed state fee and the beneficiary pays the remaining 20
percent.

 State 1998 state feea  Total percentage payment reduction
 DC    $12.04           23.34
 IA    12.04            23.34
 ID    12.04            23.34
 KS    12.04            23.34
 MO    12.04            23.34
 OR    12.04            23.34
 VA    12.04            23.34
 NE    12.26            22.92
 NH    12.69            22.14
 VT    13.18            21.32
 MA    13.33            21.08
 ME    13.33            21.08
 AZ    14.00            20.07
 CA    14.16            19.84
 IL    14.16            19.84
 IN    14.16            19.84
 MI    14.16            19.84
 MN    14.16            19.84
 MT    14.16            19.84
 ND    14.16            19.84
 NV    14.16            19.84
 OH    14.16            19.84
 SD    14.16            19.84
 UT    14.16            19.84
 WA    14.16            19.84
 WI    14.16            19.84
 WV    14.16            19.84
 WY    14.16            19.84
 RI    12.04            18.36
 CT    13.26            17.87
 FL    12.04            14.58
 TX    12.29            14.28
 CO    12.52            14.02
 AL    14.16            12.39
 AR    14.16            12.39
 KY    14.16            12.39
 LA    14.16            12.39
 MS    14.16            12.39
 SC    14.16            12.39
 NC    14.16            10.45
 TN    13.61            10.43
 DE    12.04            9.88
 MD    12.04            9.88
 NJ    12.04            9.88
 PA    12.04            9.88
 NY    12.90            8.22
 GA    14.16            7.49
 NM    14.16            7.49
 OK    14.16            7.49

Note: Table does not include Alaska and Hawaii because they are exempt from
the national fee schedule and therefore are not subject to the proposed
payment reductions.

aThe 1998 state fee represented the amount Medicare allowed in each state at
the time of the DMERCs' inherent reasonableness survey. Medicare pays 80
percent of the allowed state fee and the beneficiary pays the remaining 20
percent.

 State 1998 state feea  Total percentage payment reduction
 AZ    $20.50           13.71
 ID    20.50            13.71
 MA    20.50            13.71
 ME    20.50            13.71
 NH    20.50            13.71
 NV    20.50            13.71
 OR    20.50            13.71
 VA    20.50            13.71
 VT    20.50            13.71
 MT    21.96            12.80
 DC    22.90            12.27
 CA    24.12            11.65
 IA    24.12            11.65
 IL    24.12            11.65
 IN    24.12            11.65
 KS    24.12            11.65
 MI    24.12            11.65
 MN    24.12            11.65
 MO    24.12            11.65
 ND    24.12            11.65
 NE    24.12            11.65
 OH    24.12            11.65
 SD    24.12            11.65
 UT    24.12            11.65
 WA    24.12            11.65
 WI    24.12            11.65
 WV    24.12            11.65
 WY    24.12            11.65
 RI    20.50            10.78
 CT    24.12            9.83
 FL    20.50            8.56
 MS    20.50            8.56
 AL    20.78            8.45
 AR    24.12            7.28
 CO    24.12            7.28
 KY    24.12            7.28
 LA    24.12            7.28
 SC    24.12            7.28
 TX    24.12            7.28
 NC    24.12            6.14
 TN    23.18            6.13
 MD    20.50            5.80
 DE    22.90            5.20
 NJ    22.90            5.20
 PA    22.90            5.20
 GA    22.26            4.76
 NM    22.42            4.73
 NY    23.27            4.56
 OK    23.37            4.54

Note: Table does not include Alaska and Hawaii because they are exempt from
the national fee schedule and therefore are not subject to the proposed
payment reductions.

aThe 1998 state fee represented the amount Medicare allowed in each state at
the time of the DMERCs' inherent reasonableness survey. Medicare pays 80
percent of the allowed state fee and the beneficiary pays the remaining 20
percent.

 State 1998 feea  Total percentage payment reduction
 AZ    $62.06     21.04
 CA    62.06      21.04
 NV    62.06      21.04
 AL    59.85      18.13
 FL    59.85      18.13
 GA    59.85      18.13
 KY    59.85      18.13
 MS    59.85      18.13
 NC    59.85      18.13
 SC    59.85      18.13
 TN    59.85      18.13
 IL    55.85      12.27
 IN    55.85      12.27
 MI    55.85      12.27
 MN    55.85      12.27
 OH    55.85      12.27
 WI    55.85      12.27
 CO    54.54      10.16
 MT    54.54      10.16
 ND    54.54      10.16
 SD    54.54      10.16
 UT    54.54      10.16
 WY    54.54      10.16
 ID    52.63      6.90
 OR    52.63      6.90
 WA    52.63      6.90
 CT    52.61      6.86
 MA    52.61      6.86
 ME    52.61      6.86
 NH    52.61      6.86
 RI    52.61      6.86
 VT    52.61      6.86
 AR    49.98      1.96
 LA    49.98      1.96
 NM    49.98      1.96
 OK    49.98      1.96
 TX    49.98      1.96
 IA    49.03      0.06
 KS    49.03      0.06
 MO    49.03      0.06
 NE    49.03      0.06
 DC    46.55      0.0
 DE    46.55      0.0
 MD    46.55      0.0
 NJ    46.55      0.0
 NY    46.55      0.0
 PA    46.55      0.0
 VA    46.55      0.0
 WV    46.55      0.0

Note: Table does not include Alaska and Hawaii because they are exempt from
the national fee schedule and therefore are not subject to the proposed
payment reductions.

aThe 1998 fee represented the amount Medicare allowed at the time of the
DMERCs' inherent reasonableness survey. Medicare pays 80 percent of the
allowed fee and the beneficiary pays the remaining 20 percent.

GAO Analysis of DMERC Sampling Methods

We compared the distribution of population areas where the DMERCs conducted
their retail price surveys with the distribution of population areas for the
United States to assess whether the median surveyed price represented a
national median price. For each product group surveyed, we categorized each
price sample according to the population level of the area from which the
price was surveyed. The population areas ranged from metropolitan
statistical areas (MSA) with 1 million or more people to non-MSAs.32 Table 9
shows the percentage of prices the DMERCs collected by population compared
with the distribution of population areas for the United States. The DMERCs
collected more prices in MSAs with 1 million or more people than they
collected in MSAs of fewer than 100,000 people; however, the survey results
were not fully representative of the general distribution of the U.S.
population.

                 Glucose
 Population level  test  Lancets Catheters  Enteral Albuterol Eyeglass     U.S.
                 strips                    formulas  sulfate   frames  populationa
 MSA of 1 million
 or more         49.5    45.9    46.8      34.8     41.0      47.4     52.2
 MSA of 250,000-
 999,999         22.2    24.5    18.4      32.1     29.8      24.3     19.5
 MSA of
 100,000-249,999 13.5    14.1    9.0       15.8     13.1      14.2     7.6
 MSA of fewer
 than100,000     5.2     4.0     5.5       3.9      3.9       2.3      0.6
 Non-MSA         9.6     11.5    20.4      13.5     12.1      11.9     20.1
 Total           100     100     100       100      100       100      100

Note: Numbers in bold indicate areas with highest median surveyed price for
that product group.

aBased on 1996 Bureau of the Census estimates. Excludes Alaska and Hawaii.

Our review of the survey results showed that areas with the largest
populations did not necessarily have higher prices. For each product group
surveyed, we analyzed the median surveyed price for each population level
and found no consistent relationship between median price and area
population level. As shown in table 10, the highest median surveyed price
that the DMERCs surveyed for each product group is associated with different
population levels. For four of the six product groups surveyed, the highest
median price the DMERCs surveyed was associated with population levels that
were overrepresented, compared with the U.S. population. For example, the
highest median price for lancets was found in MSAs with fewer than 100,000
people. As shown in table 9, less than 1 percent of the U.S. population
lives in MSAs of this size, while 4 percent of the DMERCs' surveyed prices
for lancets came from MSAs of this size. This means that there are more
samples of this highest price than one would expect in the overall
population. These results do not provide evidence that the samples chosen by
the DMERCs resulted in a systematic downward bias in the median price. The
data, in fact, suggest more of an upward bias than a downward bias.

                   Glucose                   Category 1
 Population level   test   Lancets Catheters   enteral  Albuterol  Eyeglass
                   strips                     formulas   sulfate   frames
 MSA of 1 million
 or more          $35.99   $7.87   $10.00    $.51       $.41      $40.65
 MSA of
 250,000-999,999  34.87    7.23    7.25      .51        .45       51.70
 MSA of
 100,000-249,999  35.39    8.22    8.66      .52        .36       51.07
 MSA of less
 than100,000      35.98    8.56    3.45      .56        .36       54.48
 Non-MSA          34.99    7.42    7.98      .50        .39       52.00

Note: Numbers in bold indicate areas with highest median price for the
product group.

Comments From the Health Care Financing Administration

(101819)

Table 1: 1998 Medicare Maximum Payment Allowance, Median
Retail Price, and Percentage Reduction for Six Product
Groups Under Inherent Reasonableness Review 18

Table 2: 1998 Medicare Expenditures, Medicare Maximum Payment Allowance, VA
Median Price, and Percentage Markup, by
Product Group 28

Table 3: 1998 State Fees and the Total Proposed Percentage
Reductions for Glucose Testing Strips 40

Table 4: 1998 State Fees and Total Proposed Percentage
Reductions for Lancets 42

Table 5: 1998 State Fees and Total Proposed Percentage
Reductions for Latex Foley Catheters 44

Table 6: 1998 State Fees and Total Proposed Percentage
Reductions for Catheter Insertion Trays Without Drainage
Bags 46

Table 7: 1998 State Fees and Total Percentage Payment Reductions
for Catheter Insertion Trays With Drainage Bags 48

Table 8: 1998 Fees and Total Proposed Percentage Reductions for
Eyeglass Frames, by State 50

Table 9: Percentage of Surveyed Prices, by Population Level,
Compared With U.S. Population 52

Table 10: Median Surveyed Price by Product Group and Population
Level 53
  

1. This amount represents payments made by the Medicare program and its
beneficiaries, who pay a copayment of 20 percent for durable medical
equipment and other types of medical products, such as medical supplies,
prosthetic and orthotic devices, enteral nutrition products, and certain
outpatient drugs (hereafter collectively referred to as "medical equipment
and supplies").

2. See Medicare: Excessive Payments for Medical Supplies Continue Despite
Improvements (GAO/HEHS-95-171 , Aug. 8, 1995); Medicare: Need to Overhaul
Costly Payment System for Medical Equipment and Supplies (GAO/HEHS-98-102 ,
May 12, 1998); Department of Health and Human Services (HHS) Office of
Inspector General, Are Medicare Allowances for Albuterol Sulfate Reasonable?
OEI-03-97-00292 (Washington, D.C.: HHS, Aug. 1998); HHS Office of Inspector
General, Payments for Enteral Nutrition: Medicare and Other Payers,
OEI-03-94-00021 (Washington, D.C.: HHS, May 1996).

3. P.L. 105-33, 4316, 111 Stat. 251, 390-392.

4. 63 Fed. Reg. 687 (hereafter referred to as the "interim final rule").
HCFA officials indicated to us that they were unable to issue these
regulations as soon as they would have liked because the BBA included many
other Medicare changes requiring regulatory action that had to be given
priority over the inherent reasonableness regulations.

5. Hereafter, the HCPCS codes are referred to as "product groups."

6. Omnibus Budget Reconciliation Act of 1990, P.L. 101-508, 5152(b), 104
Stat. 1388, 1388--74 and 1388-75 (Supp. II 1990).

7. 42 U.S.C. 1395u(o)(1) (Supp. III 1997). Under certain circumstances,
Medicare covers medically necessary outpatient drugs that must be
administered in a physician's office or used with durable medical equipment,
such as albuterol sulfate, which is used with a nebulizer. Certain other
specific types of drugs are also covered, including antirejection drugs used
after organ transplants and oral cancer drugs.

8. In 1975, language was added to the regulations governing the
determination by carriers of reasonable charges, specifically providing for
the use of "[o]ther factors that may be found necessary and appropriate with
respect to a specific item or service to use in judging whether the charge
is inherently reasonable." 20 C.F.R. 405.502(a)(4) (1976). This provision,
as amended, is now at 42 C.F.R. 405.502(a)(7) (1999).

9. The Consolidated Omnibus Budget Reconciliation Act of 1985, P.L. 99-272,
9304(a), 100 Stat. 82, 190 (1986), required regulations describing the
factors to be used in determining cases in which charges are unreasonable
and the factors to be considered in establishing charges that are realistic
and equitable. HCFA promptly promulgated these regulations. 51 Fed. Reg.
28,710 (Aug. 11, 1986). The Omnibus Budget Reconciliation Act of 1986, P.L.
99-509, 9333, 100 Stat. 1874, 2025, added detailed procedures to be followed
for any inherent reasonableness review with respect to physician services,
including publication of the proposed adjustment in the Federal Register. 42
U.S.C. 1395u(b)(8)(B) − (C) and (9) (Supp. IV 1986).

10. In addition, the legislation, which was effective Jan. 1, 1989, imposed
a moratorium on inherent reasonableness review for medical equipment and
supplies until Jan. 1, 1991. Omnibus Budget Reconciliation Act of 1987, P.L.
100-203, 4062(b) and (e), 101 Stat. 1330, 1330-100--1330-107 and 1330-109.
42 U.S.C. 1395m (Supp. V 1987).

11. Medicare Catastrophic Coverage Act of 1988, P.L. 100-360,
411(g)(1)(B)(xiii), 102 Stat. 683, 782. These procedures were previously
applicable only to any inherent reasonableness review with respect to
physician services. 42 U.S.C. 1395m(a)(10)(B) (1988).

12. 42 U.S.C. 1395u(b)(8)(A)(i) (Supp. III 1997). This is essentially the
same requirement in effect since 1986.

13. However, if HCFA uses the inherent reasonableness process for
adjustments of 15 percent a year or less, it can bypass some statutorily
imposed procedural requirements, including the specific requirement for
consultation with suppliers and supplier representatives.

14. 63 Fed. Reg. 687. In general, an agency will publish a final rule on an
"interim" basis to give it the force of law either immediately or soon after
publication.

15. 5 U.S.C. 603(a).

16. This is the "good cause" exception to the Administrative Procedure Act
(APA) requirement for a notice of proposed rulemaking. 5 U.S.C. 553(b)(B).
The APA was enacted, in part, so that federally regulated parties would
receive the due process protections guaranteed by the Constitution. The
Constitution guarantees due process whenever the government seeks to deprive
a person of life, liberty, or property. The process that is due depends in
large measure on the life, liberty, or property interest at stake, but the
most basic element of due process is notice and an opportunity to be heard.
When establishing or changing substantive legal standards, HCFA generally
must follow APA rulemaking procedures. 42 U.S.C. 1395hh(a)(2) and (b)
(1994). However, establishing Medicare payment rates generally does not
raise due process issues because no protected life, liberty, or property
interests are at stake. Participation in Medicare does not give rise to a
constitutional right to a certain level of payment. Provider participation
in Medicare was discussed by the 6th Circuit Court of Appeals in a case
involving the application of the inherent reasonableness process to a
durable medical equipment provider prior to the 1987 amendments:

"Before analyzing the determination of the 1987 I[nherently] R[easonable]
A[llowance] amount, we pause to note that participation in the Medicare
program is voluntary. If a supplier is not satisfied with the IRA a carrier
has chosen to apply, that supplier may choose not to act as a Medicare
supplier. ... [T]his court has held ... `[that p]roviders of health care who
choose to participate in the federally sponsored program for the aged and
disabled do so with no guarantee of solvency. Just as those who choose to
serve individuals not covered by Medicare assume the risks of the private
market, those who opt to participate in Medicare are not assured of
revenues.'"

Queen City Home Health Care Co. v. Sullivan, 978 F.2d 236, 247 (6th Cir.
1992), quoting Livingston Care Center, Inc. v. U.S., 934 F.2d 719, 720-21
(6th Cir. 1991), cert. denied, 502 U.S. 1003 (1991).

17. 42 C.F.R. 405.502(g)(1)(vii)(E) (1999). Compare with 42 C.F.R. sec.
405.502(g)(1)(vi) (1997).

18. 42 C.F.R. 405.502(g)(2)(iii) (1999). Compare with 42 C.F.R. sec.
405.502(g)(2)(iii) (1997).

19. HCFA solicited and obtained public comments on the inherent
reasonableness methodology when the agency published a notice of proposed
rulemaking, that is, a proposed rule, on Feb. 18, 1986, 51 Fed. Reg. 5,726,
and again when a final rule with comment period was published on Aug. 11,
1986, 51 Fed. Reg. 28,710. Public comments on the proposed rule were
discussed in the Aug. 1986 rulemaking. Further comments were discussed when
the rules were finalized on July 11, 1988, 53 Fed. Reg. 26,067.

20. S. Doc. No. 248, 79th Cong., 2d Sess. at 200, 258 (1946). See also Ellen
R. Jordan, The Administrative Procedure Act's "Good Cause" Exemption, 36
Admin. L. Rev. 113, 129 (1984) and Juan J. Lavilla, The Good Cause Exemption
to Notice and Comment Rulemaking Requirements Under the Administrative
Procedure Act, 3 Admin. L. J. 317, 334 (1989).

21. 569 F.2d 1137, 1146 (Temp.Emer.Ct.App. 1977).

22. See GAO/HEHS-98-102 , May 12, 1998; and HHS Office of Inspector General,
Are Medicare Allowances for Albuterol Sulfate Reasonable? and Payments for
Enteral Nutrition: Medicare and Other Payers.

23. See, for example, 42 U.S.C. 1395m(a)(2) (1994).

24. The industry contended that these state fees that fell below the median
surveyed retail price should be increased. According to HCFA, none of the
state fees were adjusted upward, including those that were lower than the
proposed amounts, because there are no apparent access problems under the
current payment levels, which agency officials said is the criterion that is
generally used in determining whether payment amounts should be raised.

25. 42 U.S.C. 1395u(b)(8)(A)(ii) (Supp. III 1997). HCFA may make a
determination that "would result" in an increase or decrease of more than 15
percent over the previous year's payment amount only if the agency follows
certain additional procedures, which include supplier consultation and a
beneficiary liability impact analysis. 42 U.S.C. 1395u(b)(8)(B) − (D)
and 1395u(b)(9). Because Medicare contractors cannot carry out all of these
procedures, their authority to impose inherent reasonableness payment
adjustments of more than 15 percent per year is thereby precluded.

26. As of November 1999, there have been two notices of proposed inherent
reasonableness adjustments under the revised process. The September 1998
notice by the DMERCs is the subject of this report. See, for example,
http://www.medicare-link.com/DMERC/news/ dme40.pdf, p. 6, as of Feb. 11,
2000. HCFA also issued a proposed notice in 64 Fed. Reg. 44,227 (Aug. 13,
1999). HCFA must still abide by the clearance process for its proposed
inherent reasonableness reductions, but since it invoked its option to
incrementally reduce the payment amounts by no more than 15 percent a year,
it did not have to comply with certain provisions of the statute, such as
supplier consultation and a beneficiary liability impact analysis.

27. We did not review the state sales taxes applicable to enteral formulas
because we had other concerns about the survey of that product group.

28. See GAO/HEHS-98-102 , May 12,1998.

29. Industry groups commented that retail prices do not take into account
the suppliers' administrative costs of submitting Medicare claims for
medical equipment and supplies. HCFA asserts that retail prices more than
adequately reimburse suppliers for their administrative costs of doing
business with Medicare.

30. See 64 Fed. Reg. 44,227. These six items are folding pickup walker,
folding wheeled walker without seat, stationary fixed-arm commode chair, two
types of transcutaneous electrical nerve stimulators, and vacuum erection
system.

31. Medicare: Access to Home Oxygen Largely Unchanged; Closer HCFA
Monitoring Needed (GAO/HEHS-99-56, Apr. 5, 1999).

32. According to the Bureau of the Census, the general concept of an MSA is
that of a core area containing a large population nucleus, together with
adjacent communities having a high degree of economic and social integration
with that core.
*** End of document. ***