Medicare Contractors: Despite Its Efforts, HCFA Cannot Ensure Their
Effectiveness or Integrity (Chapter Report, 07/14/1999, GAO/HEHS-99-115).

Pursuant to a congressional request, GAO reviewed the Health Care
Financing Administration's (HCFA) oversight of its claims administration
contractors, focusing on whether: (1) there are weaknesses in HCFA's
contractor oversight activities that may make Medicare more vulnerable
to fraud, waste, or abuse; and (2) changes in HCFA's contracting
authority that may improve its ability to manage its contractors.

GAO noted that: (1) despite its efforts, HCFA's oversight of Medicare
claims administration contractors has significant weaknesses that leave
the agency without assurance that contractors are paying providers
appropriately; (2) since 1993, six contractors have settled civil and
criminal charges following allegations that they did not check claims to
ensure proper payment or allowed Medicare to pay claims that should have
been paid by other insurers; (3) even though inadequate management
controls and falsified data are a common theme in these cases, GAO found
that HCFA still does not regularly check contractors' internal
management controls, management and financial data, and key program
safeguards to prevent payment errors; (4) furthermore, HCFA's
headquarters office generally has not set oversight priorities, leaving
such decisions almost entirely to regional office reviewers; (5) this
has led to uneven contractor evaluations by regional reviewers, making
it more difficult for HCFA to determine which contractors are performing
effectively; (6) HCFA's organizational structure contributes to the
problem by dividing responsibilities for contractor oversight between
the regions and headquarters without assigning overall accountability to
one office; (7) HCFA officials believe that increased competition among
contractors could enhance contractor performance but that statute and
regulations limit its authority to contract; (8) the statutory
limitations were enacted for easier initial implementation of Medicare,
but the program now has over 30 years of operational experience; (9)
consequently, HCFA is seeking new or explicit authority from Congress
that would allow it to: (a) choose its intermediaries, rather than
having providers nominate them, and contract with non-health insurance
companies; (b) contract separately for specific functions; and (c) use
payment methods that would allow contractors to earn profits on their
Medicare business, rather than reimbursing contractors only for their
costs up to a present target; and (10) while these changes might broaden
the pool of contractors HCFA could choose from and would increase its
flexibility in contracting for specific functions, past experience with
other efforts to change the program has shown that HCFA will need
several years to carefully plan, properly implement, and conduct a
postimplementation review of any new contracting initiatives.

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

 REPORTNUM:  HEHS-99-115
     TITLE:  Medicare Contractors: Despite Its Efforts, HCFA Cannot
	     Ensure Their Effectiveness or Integrity
      DATE:  07/14/1999
   SUBJECT:  Contract oversight
	     Claims processing
	     Contractor violations
	     Program abuses
	     Fraud
	     Health insurance
	     Internal controls
	     Reporting requirements
	     Overpayments
	     Fines (penalties)
IDENTIFIER:  Medicare Contractor Performance Evaluation Program
	     Medicare Integrity Program
	     HCFA Performance Improvement Plan
	     Medicare Secondary Payer Program
	     Medicare Program
	     Medicare Fee-for-Service Program

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Cover
================================================================ COVER

Report to the Chairman, Permanent Subcommittee on Investigations,
Committee on Governmental Affairs, U.S.  Senate

July 1999

MEDICARE CONTRACTORS - DESPITE ITS
EFFORTS, HCFA CANNOT ENSURE THEIR
EFFECTIVENESS OR INTEGRITY

GAO/HEHS-99-115

Medicare Contractor Oversight

(101741)

Abbreviations
=============================================================== ABBREV

  CMG - Contractor Management Group
  CPE - Contractor Performance Evaluation
  HCFA - Health Care Financing Administration
  HHS - Department of Health and Human Services
  MIP - Medicare Integrity Program
  MSP - Medicare Secondary Payer
  OIG - Office of Inspector General
  PIP - Performance Improvement Plan
  RFP - request for proposal

Letter
=============================================================== LETTER

B-280248

July 14, 1999

The Honorable Susan M.  Collins
Chairman
Permanent Subcommittee on Investigations
Committee on Governmental Affairs
United States Senate

Dear Madam Chairman: 

At your request, this report examines the Health Care Financing
Administration's (HCFA) oversight of its claims administration
contractors.  Specifically, the report discusses whether (1) there
are weaknesses in HCFA's contractor oversight activities that may
make Medicare more vulnerable to fraud, waste, and abuse and (2) any
changes in HCFA's contracting authority may improve its ability to
manage its contractors. 

We will send copies of this report to the Honorable Nancy-Ann Min
DeParle, Administrator of HCFA.  We will also make copies available
to interested parties on request. 

If you or your staff have any questions about this report, please
call William J.  Scanlon at (202) 512-7114.  Other GAO contacts and
staff acknowledgments are in appendix II. 

Sincerely yours,

Richard L.  Hembra
Assistant Comptroller General

EXECUTIVE SUMMARY
============================================================ Chapter 0

   PURPOSE
---------------------------------------------------------- Chapter 0:1

Investigations by the Health Care Financing Administration (HCFA),
the Department of Health and Human Services' (HHS) Office of
Inspector General (OIG), and the Department of Justice have
highlighted Medicare's vulnerability to erroneous and fraudulent
billing practices by providers, such as hospitals and physicians. 
The first lines of defense against such abusive practices are the
intermediaries and carriers with whom HCFA contracts to administer
Medicare fee-for-service claims.  Intermediaries primarily review and
pay claims from hospitals and other institutional providers covered
under Medicare part A, while carriers review and pay part B claims,
which are submitted by physicians and other outpatient providers. 
These contractors processed claims worth an average of more than $700
million each business day in fiscal year 1998. 

How well these contractors safeguard the Medicare program from
payment errors and fraud and how well HCFA monitors their work are
important concerns because Medicare payment errors represent billions
of dollars lost to the program each year.  The OIG estimated that in
fiscal year 1998, contractors improperly paid over $12 billion for
fee-for-service claims, the overwhelming majority of which were
detected through medical record review, which determines whether
medical services are covered by Medicare and are reasonable,
necessary, and appropriate.  The contractors, who are responsible for
ensuring that providers do not defraud or abuse Medicare, have
themselves been accused of defrauding the program; Justice and the
OIG are now investigating several Medicare contractors regarding
allegations of fraud. 

Concerned about how HCFA is overseeing the Medicare contractors, the
Chairman, Permanent Subcommittee on Investigations, Senate Committee
on Governmental Affairs, asked GAO to determine whether there are
weaknesses in HCFA's contractor oversight activities that may make
Medicare more vulnerable to fraud, waste, or abuse.  During GAO's
review, HCFA indicated that new contracting authority could mitigate
many of the weaknesses GAO was identifying.  Accordingly, this report
also addresses whether any changes in HCFA's contracting authority
may improve its ability to manage its contractors. 

The Chairman also asked GAO's Office of Special Investigations to
prepare a separate investigative report on contractors that had
either been convicted of fraud or had settled civil fraud cases
involving their participation in the Medicare program.  GAO is
issuing a companion report, Medicare:  Improprieties by Contractors
Compromised Medicare Program Integrity (GAO/OSI-99-7, July 14, 1999),
which describes deceptive activities by six contractors and the
impact of these activities on the Medicare program. 

   RESULTS IN BRIEF
---------------------------------------------------------- Chapter 0:2

Despite its efforts, HCFA's oversight of Medicare claims
administration contractors has significant weaknesses that leave the
agency without assurance that contractors are paying providers
appropriately.  Since 1993, six contractors have settled civil and
criminal charges following allegations that they did not check claims
to ensure proper payment or allowed Medicare to pay claims that
should have been paid by other insurers.  Even though inadequate
management controls and falsified data are a common theme in these
cases, GAO found that HCFA still does not regularly check
contractors' internal management controls, management and financial
data, and key program safeguards to prevent payment errors. 
Furthermore, HCFA's headquarters office generally has not set
oversight priorities, leaving such decisions almost entirely to
regional office reviewers.  This has led to uneven contractor
evaluations by regional reviewers, making it more difficult for HCFA
to determine which contractors are performing effectively.  HCFA's
organizational structure contributes to the problem by dividing
responsibilities for contractor oversight between the regions and
headquarters without assigning overall accountability to one office. 
HCFA has begun to take steps to improve its oversight, but it is too
soon to tell whether it will succeed in addressing fundamental
problems. 

HCFA officials believe that increased competition among contractors
could enhance contractor performance but that statute and current
regulations limit its authority to contract.  The statutory
limitations were enacted for easier initial implementation of
Medicare, but the program now has over 30 years of operational
experience.  Consequently, HCFA is seeking new or explicit authority
from the Congress that would allow it to (1) choose its
intermediaries, rather than having providers nominate them, and
contract with non-health insurance companies; (2) contract separately
for specific functions--such as responding to beneficiary inquiries;
and (3) use payment methods that would allow contractors to earn
profits on their Medicare business, rather than reimbursing
contractors only for their costs up to a preset target.  While these
changes might broaden the pool of contractors HCFA could choose from
and would increase its flexibility in contracting for specific
functions, past experience with other efforts to change the program
has shown that HCFA will need several years to carefully plan,
properly implement, and conduct a postimplementation review of any
new contracting initiatives. 

   BACKGROUND
---------------------------------------------------------- Chapter 0:3

When Medicare was enacted in 1965, the Congress decided to administer
the program through contracts with organizations that already served
as payers of health care services.  The Congress also decided to pay
on the basis of contractors' allowable costs, so that these
contractors would neither be penalized for administering Medicare nor
unduly profit by doing so.  Because such exceptions are specifically
written into the Social Security Act, Medicare contracting has unique
features that differ from other federal contracting.  Medicare
contractors are responsible for all aspects of claims administration,
including safeguarding the program by conducting particular
activities designed to identify potential fraud and abuse and to
prevent or recover erroneous payments. 

HCFA is responsible for ensuring that contractors do their jobs
accurately and efficiently, which includes overseeing contractor
performance.  Both HCFA headquarters and its 10 regional offices have
roles in contractor oversight, although regional office staff
generally provide direct oversight.  Since 1995, to conduct routine
oversight, HCFA has relied on its Contractor Performance Evaluation
program, which allows regional staff to review any aspect of
contractually required duties, classified in five general
areas--claims processing, customer service, payment safeguards,
fiscal responsibility, and administrative activities.  When HCFA
reviewers identify problems, contractors may be required to take
specific corrective actions under a performance improvement plan.  In
addition to its routine oversight, HCFA sometimes conducts special
integrity reviews when it learns of possible integrity or fraud
problems at contractors. 

   PRINCIPAL FINDINGS
---------------------------------------------------------- Chapter 0:4

      WEAKNESSES IN CONTRACTOR
      OVERSIGHT LEAVE THE MEDICARE
      PROGRAM VULNERABLE
-------------------------------------------------------- Chapter 0:4.1

Medicare contractors are HCFA's front line of defense against
provider fraud, abuse, and erroneous Medicare payments; however,
several of them have committed fraud against the government.  Such
misconduct has led to the loss of Medicare program dollars when
contractors fail to check provider claims properly to prevent payment
errors.  Since 1990, nearly one in four claims administration
contractors has been alleged--generally by whistle-blowers within the
company--to have integrity problems; GAO identified at least 7 of
HCFA's 58 current contractors as being actively investigated by the
HHS OIG or Justice.  Since 1993, HCFA has received criminal and civil
settlement decrees totaling over $235 million from six contractors
after investigations of allegations that the contractor employees
deleted claims from the processing system, manufactured documentation
to allow processing of claims that otherwise would have been rejected
because the services were not medically necessary, and deactivated
automatic checks that would have halted the processing of
questionable claims. 

Despite recent efforts to improve, HCFA's oversight process has
weaknesses that impede effective review of contractor performance. 
These include (1) limited checking of internal management controls
and performance data; (2) few performance standards combined with
limited priority-setting, which allows essential program safeguards
to go unchecked; and (3) inconsistent treatment of contractors
resulting from variations in the intensity of regional monitoring. 

When contractors are accused of fraudulent practices, on
investigation, HCFA often finds a lack of management controls and
evidence of falsified data.  However, in its ongoing oversight, HCFA
generally does little checking of contractors' internal management
controls and performance data.  Instead, HCFA relies on the
contractors themselves to certify that their controls over the
accuracy and security of their payment and data systems are sound. 
Despite the OIG's finding in its recent audits of HCFA's financial
statements that contractor financial management controls were a
material weakness, GAO found that HCFA rarely validated the
contractors' certifications.  Furthermore, HCFA reviewed contractor
performance by asking contractors to generate workload and other
performance data--typically without validating the data's accuracy. 
HCFA staff indicated that validating contractor data is resource
intensive, which may help explain why it often is not done. 

Since 1995, when HCFA moved to the Contractor Performance Evaluation
program, its 10 regional offices that directly oversee contractors
were given wide discretion in how they conduct oversight--choosing
what and how to review, and how to monitor contractors' corrective
actions.  The program also set few standards against which to judge
performance--lacking particularly those with which to judge the
contractors' effectiveness in reducing inappropriate payments and
fraud.  As a result, key activities directed toward safeguarding
program dollars received limited scrutiny at some contractors.  For
example, GAO found that regional reviewers were not routinely
checking how effective contractors were at identifying primary
insurers other than Medicare. 

HCFA has also not taken the actions needed to ensure that all
regional offices provide consistent and adequate oversight.  For
example, while some regions imposed performance improvement plans on
contractors when problems were identified, other regions rarely, if
ever, required them.  HCFA has not formally evaluated its regional
offices' performance in the area of contractor oversight, nor has it
regularly shared one region's best practices with the others. 

HCFA has acknowledged that its oversight of contractors needs to be
strengthened and has recently initiated some actions to improve it. 
HCFA set oversight priorities when the regions performed fiscal year
1998 contractor evaluations, and this year it restructured
headquarters offices that are responsible for oversight activities. 
GAO believes that it is too early to tell whether these actions will
address many of the fundamental problems HCFA faces in ensuring
quality performance from its contractors. 

      NEW CONTRACTING AUTHORITY
      WOULD TAKE TIME AND
      EXPERIENCE TO PROPERLY
      IMPLEMENT
-------------------------------------------------------- Chapter 0:4.2

HCFA's current legislative authority, its interpretation of that
authority, and its regulations constrain its ability to allocate
workload among contractors and attract new companies to administer
claims.  The Medicare statute's provider nomination provision allows
the professional associations of hospitals and certain other
institutional providers to choose claims processing intermediaries on
behalf of their members, and the statute requires HCFA to choose
health insurance companies as carriers.  Further, because it has not
yet changed certain regulations, HCFA has generally not been able to
separate specific functions, such as conducting hearings or mailings,
that it believes can be done more efficiently by other kinds of
companies.  In addition, HCFA generally contracts only on a cost
basis because its authority to contract using other payment methods
is restricted.  Moreover, HCFA's leverage to manage its current
contractors has weakened as the pool of companies willing and
eligible to administer claims has shrunk. 

HCFA has proposed several legislative changes to increase its
contracting flexibility, such as giving HCFA new authority to
contract with non-health insurers and clarifying its authority to
choose its contractors.  In addition, HCFA is seeking specific
authority to contract with companies for individual program functions
and a new authority to pay contractors on a basis that allows profit. 

In 1996, the Congress gave HCFA authority to separately contract for
program safeguard activities--activities to ensure that only
appropriate claims are paid and that providers participating in
Medicare comply with program rules.  HCFA has recently announced its
selection of companies to conduct specialized safeguard activities
for this new Medicare Integrity Program (MIP).  HCFA's experience
with these new MIP contracts may offer information that could help in
implementing any other functional contracts and will be a first test
of the wisdom of contracting for specific functions. 

HCFA's previous tests of two methods that could allow companies to
earn a profit raise concerns because these experiments had serious
problems.  This suggests that HCFA should proceed cautiously if it
significantly changes its current, cost-based contractor payment
method.  HCFA experimented with fixed-price contracts, in which
contractors that cut their costs could keep any savings, and
contracts in which specified levels of performance led to incentive
payments.  As GAO reported in 1986, in two past fixed-price
contracts, cost-cutting led to over $130 million in benefit payment
errors.  More recently, some contractors who had received incentive
payments were investigated for falsifying the performance data that
gained them the incentive payments. 

As HCFA gathers experience with its program safeguards contracts, it
may be better able to utilize other new authorities.  Clearly, these
new authorities would require a long-term effort and, in any event,
would not lessen the need for routine and adequate monitoring of
contractors. 

   MATTERS FOR CONGRESSIONAL
   CONSIDERATION
---------------------------------------------------------- Chapter 0:5

The Congress may wish to consider amending the Social Security Act to
allow the Secretary of Health and Human Services to (1) freely choose
the companies with which HCFA may contract as Medicare intermediaries
and (2) contract with non-health insurers for claims administration. 
The Congress may also wish to consider giving HCFA explicit authority
to award functional contracts for selected claims administration
activities to any appropriate kind of company and to offer
other-than-cost contracts, both at the discretion of the Secretary of
Health and Human Services.  If legislation is enacted, to ensure that
the new authorities improve the efficiency and effectiveness of
Medicare program operations, GAO believes HCFA should be required to
report to the Congress with an independent evaluation of its use of
these authorities and their impact on the Medicare program. 

   RECOMMENDATIONS
---------------------------------------------------------- Chapter 0:6

In this report, GAO makes a number of specific recommendations to the
HCFA Administrator to correct identified weaknesses and improve the
agency's oversight of its claims administration contractors. 
Implementing these recommendations should help ensure that

  -- contractor internal controls are working,

  -- contractor performance is evaluated against a comprehensive set
     of clearly defined and measurable performance standards,

  -- HCFA's oversight of contractor performance is more consistent,

  -- best practices are shared among regions, and

  -- HCFA has a strategic plan for implementing requested legislative
     modifications sought in contracting proposals. 

   AGENCY COMMENTS
---------------------------------------------------------- Chapter 0:7

In written comments on a draft of this report, HCFA agreed with each
of the recommendations and described how it plans to implement them. 
Overall, GAO believes that HCFA has outlined a series of activities
that--if properly designed and implemented--should help improve its
management and oversight of Medicare's claims administration
contractors. 

INTRODUCTION
============================================================ Chapter 1

With the help of claims administration contractors, the Health Care
Financing Administration (HCFA), within the Department of Health and
Human Services (HHS), administers the Medicare program.  Medicare is
the nation's largest health insurer, covering nearly 40 million
beneficiaries at a net cost of about $193 billion in fiscal year
1998.  Contractors processed about 900 million Medicare
fee-for-service claims in fiscal year 1998--about 3.5 million claims
and $700 million in payments each working day.  For processing these
claims and for performing other Medicare-related activities, HCFA
paid its contractors $1.6 billion in fiscal year 1998. 

The Medicare program, implemented in 1966, provides coverage under
the traditional pay-per-visit or service arrangement.  Part
A--hospital insurance--covers inpatient hospital, some home health,
skilled nursing, and hospice services.  Part B--supplementary
insurance--covers services provided by physicians, outpatient
laboratories, and an array of other providers and supplies. 
Beneficiaries now have the option to enroll in managed care, but
about 85 percent have chosen Medicare's traditional fee-for-service
program. 

   CONTRACTING ARRANGEMENTS FOR
   MANAGING MEDICARE
---------------------------------------------------------- Chapter 1:1

The size and complexity of the fee-for-service Medicare program make
its management a formidable task.  The original Medicare legislation
and the accompanying committee reports reflected the congressional
decision that the government contract with organizations already
serving as payers and managers of health care services to administer
Medicare payment functions.  HCFA has followed this direction and
today uses 58 contractors to handle day-to-day program administration
and to pay claims. 

The claims administration contractors, themselves health insurers,
are called intermediaries or carriers, depending on the types of
claims they process.  Intermediaries, which were chosen from among
those nominated by provider associations, process part A and part B
claims for institutions, such as hospitals and home health agencies. 
Carriers, which were chosen directly by the Secretary of Health and
Human Services, process part B claims submitted by others, such as
physicians and suppliers of durable medical equipment.\1

Medicare contracting for intermediaries and carriers differs from
contracting for most other federal programs.  Generally, in
accordance with the Federal Property and Administrative Services Act
of 1949 and the implementing regulations known as the Federal
Acquisition Regulations,\2 which govern standard federal contracts,
federal agencies can contract with any entity for any purpose, so
long as that entity is not debarred from government contracting and
the contract is not for what is an essentially governmental function. 
Federal agencies can contract using any payment method except
cost-plus-percentage-of-cost and are generally required to contract
competitively, unless there are specific exceptions in their
authorizing legislation, such as there are for Medicare claims
administration contracting.  Medicare contracts must comply with the
Federal Acquisition Regulations except when the Social Security Act,
which authorizes Medicare, provides otherwise.  For example, the act
calls for the use of cost-based reimbursement contracts under which
contractors are reimbursed for necessary and proper costs of carrying
out Medicare activities but are not permitted to earn a profit on
their Medicare claims administration activities, except in certain
limited situations.\3 Also, carriers may be chosen only from among
health-insuring organizations. 

The services performed by intermediaries and carriers have been
bundled together in part by the law and more completely by
HCFA-promulgated regulations in a way that makes it difficult to
contract for individual functions.  However, in 1996, the Congress
enacted legislation that authorized separate contracts for payment
safeguard activities (medical and utilization review, Medicare
Secondary Payer (MSP) activities, cost report audits, and the
preparation of fraud and abuse cases).  The program created by this
legislation, called the Medicare Integrity Program (MIP), has no
limitation on the type of companies that can be awarded contracts for
these activities or on the basis on which they must be paid.  HCFA
has identified 12 organizations that it plans to contract with to
operate the MIP and refers to them as program safeguard contractors. 

HCFA believes, however, that specific requirements limit its choice
of claims administration contractors.  For its intermediaries, HCFA
chooses from among entities that are first selected by associations
representing providers, a process called "provider nomination" as set
forth in the Social Security Act.  While the Congress intended, and
the practice has been, for the government to contract with
intermediaries and carriers for the administration of the Medicare
program, the Congress did not mandate that such contractors be used. 
Sections 1816 and 1842 of the Social Security Act authorize the
Secretary to enter into contracts with intermediaries and carriers,
respectively, but section 1874 grants the Secretary the authority to
perform any .  .  .  functions under this title directly, or by
contract .  .  .  as the Secretary may deem necessary.

The Social Security Act also does not require that claims
administration contractors be selected competitively.  Provider
nomination basically limits competition for intermediary contracts to
those chosen by health care provider associations in 1966 and since. 
HCFA has not usually awarded either intermediary or carrier contracts
on the basis of competition.  An effect of the absence of competitive
procurement is that HCFA has relatively little experience with
writing statements of work and estimating the cost of certain tasks. 
Statements of work and cost estimates are required when contracts are
written under the Federal Acquisition Regulations. 

--------------------
\1 Most intermediaries are local Blue Cross Blue Shield companies
that subcontract with the national Blue Cross Blue Shield
Association.  Most carriers are also Blue Cross Blue Shield plans but
have direct contracts with HCFA.  A local Blue Cross Blue Shield plan
may have both an intermediary subcontract and a carrier contract.  In
this report, the term contractor is applied to both prime
contractors and subcontractors and to both intermediaries and
carriers. 

\2 C.F.R.  title 48. 

\3 HCFA has some limited authority to build financial incentives into
intermediary and carrier contracts, as long as the intermediary or
carrier agrees to enter into the arrangement; performs all of the
services listed in sections 1816 or 1842 of the Social Security
Act--the sections authorizing contracts with intermediaries and
carriers, respectively; and is a health insuring organization.  This
authority can be found in the Deficit Reduction Act of 1984, section
2326(a), as amended by the Omnibus Budget Reconciliation Acts of
1986, section 9321(b), and 1989, section 6215; and the Social
Security Amendments of 1994, section 159. 

   CONTRACTORS' ROLE IN PROGRAM
   MANAGEMENT
---------------------------------------------------------- Chapter 1:2

Medicare contractors are responsible for claims processing and
administration, including (1) receiving claims; (2) judging their
appropriateness; (3) paying appropriate ones promptly; (4)
identifying potentially fraudulent claims or providers, and
withholding payment if necessary; and (5) recovering overpayments or
inappropriate payments.  They are expected to manage Medicare's funds
in a fiscally responsible manner and to address effectively provider
and beneficiary inquiries and problems.  Each contractor must also
develop a set of criteria to determine which claims it will pay. 
HCFA contractors use laws, regulations, the Medicare policy manuals,
and periodic agency directives to guide their actions. 

With its broad range of services and billions of dollars in payments
to about 1 million providers, Medicare is inherently vulnerable to
fraudulent and abusive billing and to payment errors.  HCFA relies on
contractors to safeguard the program by identifying inappropriate
claims and payments.  The contractors do this by focusing on four
primary areas that constitute HCFA's payment safeguard activities: 
(1) medical review, (2) MSP review, (3) audit and reimbursement
activities, and (4) fraud unit investigations. 

  -- Contractors conduct medical reviews of claims, including
     automated and manual prepayment and postpayment reviews, to
     identify inappropriate claims.  Claims may be inappropriate
     because they are incorrectly prepared, are for services that are
     medically unnecessary or not covered, or represent fraudulent or
     abusive billing practices. 

  -- Contractors' MSP activities identify other primary sources of
     payment, such as employer-sponsored insurance or third-party
     liability settlements for claims submitted to Medicare. 
     Contractors are required to collect from primary insurers if
     claims have been paid with Medicare funds that should have been
     paid by these sources. 

  -- Contractor audit and reimbursement activities include the review
     of overpayment collections and the audit of cost reports from
     institutions, such as hospitals, nursing homes, and home health
     agencies.  The cost reports these providers submit are used in
     determining the amount of their Medicare reimbursement. 

  -- Contractor fraud units develop potential cases of fraud or abuse
     identified by beneficiaries, other contractor safeguard units,
     or other sources; when appropriate, a case is referred to HHS'
     Office of Inspector General (OIG) for investigation and possible
     referral to the Department of Justice, which determines whether
     the case will be prosecuted. 

HCFA requires its contractors to submit complete and accurate
information on their performance.  In addition, the Federal Managers'
Financial Integrity Act of 1982 and the Chief Financial Officers Act
of 1990 required each executive branch agency to establish and
maintain a system of accounting and internal controls related to all
assets for which it is responsible.  In complying with this
requirement, HCFA requires Medicare contractors, which control many
of the funds for which HCFA is ultimately responsible, to submit
annual certifications regarding their internal accounting and
administrative controls.  These certifications must reasonably ensure
that the contractors are complying with applicable law and that their
operations are safeguarded against waste, loss, or misappropriation. 

In its audits of HCFA's financial statements for fiscal years 1997
and 1998, the HHS OIG estimated that contractors improperly paid more
than $20 billion and $12 billion, respectively.  Ninety percent of
the improper payments for 1998 were detected through the medical
review of records, which determines whether medical services are
covered by Medicare and are reasonable, necessary, and appropriate. 
In addition, for each of those years, the OIG noted material internal
control weaknesses for HCFA and its contractors. 

   HCFA'S ROLE IN PROGRAM
   MANAGEMENT
---------------------------------------------------------- Chapter 1:3

The Social Security Act requires that the Secretary of Health and
Human Services develop standards, criteria, and procedures to
evaluate intermediaries and carriers and determine whether contracts
should be executed, renewed, or terminated.  A few standards, such as
how quickly certain claims are paid, are included in the law, and a
few have resulted from lawsuit decisions. 

As the Medicare program steward, HCFA is responsible for ensuring
that contractors do their jobs accurately and efficiently.  This
responsibility is carried out through staff in headquarters and
regional offices.  At headquarters, the Medicare Carrier and
Intermediary Management group, under the newly established position
of Deputy Director for Medicare Contractor Management in HCFA's
Center for Beneficiary Services, has overall responsibility for
contractor operations.  Although a number of other HCFA headquarters
offices perform activities associated with contractors, this group
serves as the focal point for contractor operations, issuing guidance
and direction for contractor oversight.  HCFA's 10 regional offices
conduct most of the oversight and evaluation of contractors, although
regional office staffs report to their respective regional
administrators.  They are not organized under the direction of the
new Deputy Director for Medicare Contractor Management. 

Although regions are generally responsible for overseeing contract
operations in a specific geographic area, a regional office may
oversee a contract outside that area.  For example, the Atlanta
regional office oversees 16 carrier and intermediary contracts for
Alabama, Florida, Georgia, Kentucky, Louisiana, Mississippi,
Missouri, North Carolina, South Carolina, and Tennessee.  Although
Louisiana and Missouri are outside Atlanta's geographic boundaries,
the Atlanta region oversees the intermediary operations for those
states.  Conversely, the Dallas region oversees a contract held by a
South Carolina company to administer durable medical equipment
claims, even though that company is located within the boundaries of
the Atlanta region. 

While the Atlanta region oversees 16 contracts, these contracts are
held by a smaller number of companies, because some companies hold
multiple contracts.  The South Carolina company mentioned, for
example, holds intermediary and carrier contracts for several types
of claims.  In total, 44 companies hold the 58 intermediary and
carrier contracts. 

Since fiscal year 1995, the primary tool regions have used to conduct
contractor oversight is the Contractor Performance Evaluation (CPE)
program.  This restructured evaluation program, which places emphasis
on continuous improvement, gives HCFA the flexibility to review a
contractor's performance in any and all aspects of its contractually
required duties.  This approach was designed to give HCFA regional
office reviewers flexibility in determining the types and levels of
review for each contractor. 

CPEs are conducted in five general areas: 

  -- claims processing,

  -- customer service,

  -- payment safeguards,

  -- fiscal responsibility, and

  -- administrative activities. 

HCFA reviewers are expected to incorporate a review of internal
controls into their assessments of particular contractor functions. 
HCFA's Regional Office Manual for Medicare provides guidance for
performing such reviews and requires reviewers to perform a
walk-through of internal control procedures to understand any obvious
breakdown in controls or noncompliance with procedures. 

After completing a review in a particular area, the reviewer is to
report to the contractor on the results of the review.  This report
should spell out which areas, if any, need corrective action as a
result of an identified deficiency.  If corrective action is needed,
the contractor must submit a Performance Improvement Plan specifying
how the contractor will correct the deficiency.  At the end of each
fiscal year, the responsible HCFA region is to prepare a Report of
Contractor Performance, which should summarize HCFA's overall
evaluation of the contractor's performance based on the CPEs that
were conducted during the year and any other monitoring activity. 

Recently, HCFA began to conduct what it calls contractor integrity
reviews when it receives information of possible contractor
wrongdoing.  Headquarters and regional office staff usually conduct
these ad hoc reviews with little advance notice to the contractor. 
An entrance conference is normally held, but few specifics about the
allegations are provided to the contractor.  In contrast to CPEs,
where very little is done through interviews, integrity reviews are
conducted first through interviews in which pointed questions such as
Have you ever altered or been asked to alter documents? are asked
and then through the review of contractor records, where available. 
Various actions could be taken as a result of an integrity review,
including requiring a Performance Improvement Plan; not renewing or
terminating the contract; referring the case to the HHS OIG; or, if
circumstances dictate, simply closing the review with no action. 

   SCOPE AND METHODOLOGY
---------------------------------------------------------- Chapter 1:4

To determine whether weaknesses exist in HCFA's contractor oversight
activities that may make Medicare more vulnerable to fraud, waste,
and abuse, we reviewed and analyzed documents related to HCFA's
oversight of its claims administration contractors, including related
GAO and HHS OIG reports, and other documentation concerning lawsuits
and integrity reviews of HCFA contractors.  We also reviewed and
analyzed 225 of the CPEs that HCFA regional reviewers had prepared
concerning contractor operations for seven contracts for fiscal years
1995 through 1998.  We discussed the oversight issue with responsible
HCFA staff at headquarters and in HCFA's Atlanta, Dallas, and San
Francisco regions.  Within each of these regions, we discussed HCFA
oversight activities with officials at selected claims administration
contractors representing intermediaries and carriers and local Blue
Cross Blue Shield plans and commercial plans.  We also discussed
oversight activities with representatives of the Blue Cross Blue
Shield Association, which represents local plans, and the Medicare
Administration Committee, which represents other Medicare
contractors. 

In addition, to determine whether any changes in HCFA's contracting
authority may improve HCFA's ability to manage its contractors, we
reviewed and analyzed Medicare's legislative history; legal
authorities; the contracting bill proposed by the administration;
relevant GAO reports; the Federal Acquisition Regulations, which
implement federal contracting law; and HCFA regulations governing
Medicare contractors. 

We obtained written comments on a draft of this report from HCFA. 
HCFA's comments, other than its technical comments, are in appendix
I.  We also obtained oral comments from the Blue Cross Blue Shield
Association and the Medicare Administration Committee.  We have
incorporated their comments where appropriate.  We did our work
between June 1998 and June 1999 in accordance with generally accepted
government auditing standards. 

To respond to a companion request that the Chairman made to GAO's
Office of Special Investigations, that office prepared a separate
report, Medicare:  Improprieties by Contractors Compromised Medicare
Program Integrity (GAO/OSI-99-7, July 14, 1999), that discusses
deceptive contractor activities in recently completed cases.  This
report describes how those activities were carried out without HCFA
detection and assesses the impact of the activities on the Medicare
program. 

WEAK OVERSIGHT OF CONTRACTORS
LEAVES MEDICARE VULNERABLE
============================================================ Chapter 2

HCFA's oversight of its claims administration contractors has not
been sufficient to ensure that contractors are adequately protecting
program dollars.  One sign of HCFA's lax oversight is that six
contractors since 1993 have settled civil and criminal charges after
they were accused of improper activities, such as failing to check
claims to ensure proper payment.  These and other contractor
integrity investigations have found common problems at some
contractors--including falsified data and inadequate managerial
controls.  Despite these incidents, HCFA continues to let contractors
self-certify their management controls, rarely checking to ensure
that controls are working as required and rarely validating
contractors' self-reported data.  HCFA's oversight process lacks
focus and accountability, setting few clear performance standards for
contractors to meet and using limited priority-setting for regional
reviewers.  As a result, essential payment safeguard activities have
gone unexamined for years at certain contractors.  In addition,
regional reviewers are inconsistent in requiring corrective actions
when contractor problems are identified.  HCFA's organizational
structure for contractor oversight does not ensure regional offices'
accountability for the oversight they perform.  HCFA has acknowledged
flaws in its oversight process and has begun to take steps to improve
by moving toward a more structured evaluation process and
reorganizing its contractor activities at headquarters.  It is too
soon to tell, however, whether these actions will resolve fundamental
problems. 

   CONTRACTOR INTEGRITY PROBLEMS
   HIGHLIGHT OVERSIGHT WEAKNESSES
---------------------------------------------------------- Chapter 2:1

Since 1990, nearly one in four claims administration contractors have
been alleged, most often by inside whistle-blowers, to have integrity
problems--that is, that some of their activities were improper and
potentially fraudulent.  We identified at least 17 contractors that
had either qui tam cases\4 filed against them or had integrity
reviews of their operations conducted by HCFA.  Of the 58 contractors
processing Medicare claims today, we identified at least seven that
the Department of Justice or the HHS OIG is actively investigating. 
Since 1993, HCFA has entered into settlement agreements totaling more
than $235 million\5 as a result of civil and criminal cases against
six contractors\6 --with allegations that company employees

  -- deleted backlogged claims from the processing system, thereby
     allowing the contractor to avoid paying interest on older
     claims;

  -- manufactured documentation to allow the processing of claims
     that otherwise would have been rejected because the services
     were not medically necessary;

  -- switched off the toll-free beneficiary inquiry lines when staff
     were unable to answer the calls within the prescribed amount of
     time; or

  -- disabled computer functions that would have otherwise halted the
     processing of questionable claims for further review. 

Contractors misrepresented their performance to HCFA either to appear
to meet standards they did not actually meet or to garner financial
gain for the company.  In a few cases, meeting performance standards
was linked directly to financial incentives built into contracts,
such as those in the 1991 through 1994 Health Care Service
Corporation carrier contracts.  In another case, a contractor's
employee admitted that when the company used Medicare resources to
conduct its private business, it no longer had enough Medicare
resources to hire adequate staff to perform Medicare work. 
Falsifying workload data allowed the company to appear to continue
meeting contractual obligations and avoid nonrenewal of its contract. 
Table 2.1 illustrates the nature of alleged contractor wrongdoing in
three cases. 

                         Table 2.1
          
             Allegations of Wrongdoing in Three
                 Contractor Integrity Cases

Contractor      Allegation
--------------  ------------------------------------------
Blue Cross and  In a 1991 case filed under the False
Blue Shield of  Claims Act and settled in 1993, the
Florida         contractor paid the Medicare program $10
                million to settle allegations that it had

                --deleted durable medical equipment
                claims,
                --added false certifications of medical
                necessity to durable medical equipment
                claims to facilitate their processing, and
                --overridden computerized claims edits to
                speed claims processing without
                determining whether payment of the claims
                was proper.

Blue Cross and  In 1995, the contractor agreed to pay the
Blue Shield of  Medicare program $27.6 million in
Michigan        settlement of a qui tam suit filed by an
                employee who had alleged that the
                contractor had

                --reported that provider cost report
                audits had been completed when, in fact,
                important steps had not been completed;
                --tampered with cost report audits chosen
                by HCFA for review;
                --provided false information to HCFA to
                avoid review of chosen audits in cases in
                which an audit had too many mistakes; and
                --falsified overpayment records to make it
                appear that overpayments had been
                collected within 30 days, avoiding payment
                of interest due the government.

Health Care     In 1998, the contractor settled a False
Service         Claims Act case against it for $140
Corporation     million and pled guilty to eight felony
(Blue Cross     counts, paying an additional $4 million in
and Blue        criminal fines, because the contractor was
Shield of       alleged to have
Illinois)
                --allowed Medicare payment of claims that
                should have been paid by private health
                insurance;
                --destroyed Medicare claims that should
                have been submitted to another
                contractor;
                --periodically disconnected the required
                toll-free telephone lines used for
                beneficiary inquiries;
                --paid claims under $50 even if the
                services were not covered or not medically
                necessary; and
                --deleted, instead of suspending for
                review, claims with incorrect Health
                Insurance Claim numbers.
----------------------------------------------------------
HCFA is rarely the first to spot fraudulent practices through its
routine oversight of Medicare contractors.  Since 1990, HCFA's
routine oversight reviews were the basis for referral to the HHS OIG
for only 3 of the 17 contractors we identified as having had
integrity problems cited.  In another case not included in those
three, HCFA received an anonymous complaint alleging that a
contractor had falsified documents to pass its annual review. 
Although HCFA investigated the complaint, it found nothing wrong
because the contractor forged a document indicating that the problem
was due to a computer error.  Two years later, a whistle-blower filed
a qui tam suit that eventually led to a guilty plea to criminal
charges as well as multimillion-dollar criminal fines and civil
penalties. 

Because it is often difficult to detect wrongdoing when collusion is
involved, fraudulent actions may go unnoticed for years.  One
integrity case involved contractors' actions over a 13-year period,
while another involved improper activity for more than 10 years. 
More than a dozen of these integrity cases were developed from qui
tam suits filed by company insiders; leads reported to the HHS OIG;
or senior company managers themselves, who called HCFA directly when
problems were brought to their attention.\7

However, information from whistle-blowers and HCFA officials familiar
with integrity investigations suggests that the way that HCFA
conducted on-site verification of contractor's work allowed problems
to remain undetected.  HCFA reviewers notified contractors in advance
concerning the dates of their on-site reviews and specific or
probable records to examine, which allowed contractors to manipulate
what HCFA reviewed.  For example, Blue Cross and Blue Shield of
Illinois allegedly used this prior notification to alter sample claim
files scheduled for review.  Similarly, Blue Shield of California
allegedly deleted references to motor vehicle accidents in some claim
files, because the medical claims paid might have been the
responsibility of a liability insurer rather than Medicare. 
Moreover, when HCFA had contractors pull the records to be reviewed,
it relied on copies of documents provided by the contractor, rather
than originals, which made alteration harder to detect.  Also, in
some cases, HCFA representatives developed close relationships with
contractor staff, which impeded HCFA's ability to objectively review
contractor performance, according to investigators, contractor staff,
and HCFA officials. 

--------------------
\4 Qui tam suits are filed under the False Claims Act, 31 U.S.C. 
sections 3729-3733.  The act's qui tam provisions permit filers to
share in financial recoveries resulting from their case. 

\5 In addition to the $235 million recovered from these companies as
civil settlements and criminal fines and penalties in civil and
criminal fraud cases, at least three of these companies have also
entered into settlements in civil liability cases brought by HCFA for
recovery of about an additional $30 million owed to Medicare under
the MSP program. 

\6 For more detail on these cases, see GAO/OSI-99-7, July 14, 1999. 

\7 HCFA is not always aware of qui tam suits, which are generally
filed under seal until judicial decisions have been published. 

   HCFA'S OVERSIGHT OF CONTRACTOR
   ACTIVITIES IS UNEVEN AND
   INCONSISTENT
---------------------------------------------------------- Chapter 2:2

HCFA's oversight process does not ensure that the contractors are
efficiently and effectively paying fee-for-service claims and
protecting the integrity of the program.  First, while HCFA requires
contractors to certify annually that they have sound internal
management controls over all of their Medicare operations, we found
that HCFA neither regularly validates the effectiveness of the
processes behind these self-certifications nor routinely tests
contractors' reported data to ensure that they are accurate.  Second,
HCFA has set few standards to measure contractor
performance--particularly in the area of safeguarding the
program--and has generally given regional offices wide discretion in
overseeing contractors without setting clear priorities and
direction.  This has predictably led to uneven results:  certain
essential payment safeguards at some contractors go unexamined for
years, and corrective actions at some contractors are monitored more
intensely than at others.  HCFA has started to move toward a more
structured evaluation process but has not yet addressed all of its
oversight weaknesses. 

      HCFA DOES NOT REGULARLY
      CHECK CONTRACTORS'
      SELF-CERTIFICATIONS OF
      INTERNAL CONTROLS, NOR DOES
      IT VALIDATE THEIR
      PERFORMANCE DATA
-------------------------------------------------------- Chapter 2:2.1

A fundamental activity in overseeing contractor performance is
obtaining reasonable assurance that the contractors' reporting data
are accurate.  As a first step in providing such assurance, HCFA
requires contractors to certify that they have developed effective
internal management controls over all aspects of their operations. 
However, we found that HCFA rarely looks behind the contractors'
self-certifications to ensure their validity, nor does it
independently validate contractors' performance data, instead relying
heavily on financial and workload data reported by the contractors
themselves.  HCFA therefore lacks assurance that contractors' reports
of financial and performance data--such as the amount of accounts
receivable or claims processing timeliness, volume, and accuracy--are
reliable. 

Medicare contractors are required to certify annually that they have
established a system of internal management controls that help ensure
that they meet program objectives, comply with laws and regulations,
and are able to provide HCFA with reliable financial and management
information concerning their operations.  This is an important
requirement because internal controls, effectively designed and
operated, provide the best assurance that Medicare's objectives will
be achieved. 

In April 1998, as part of its fiscal year 1997 audit of HCFA's
financial statements, the HHS OIG reported that regional offices were
not evaluating the accuracy and reliability of the documentation
supporting contractor internal controls.\8 In response, HCFA sent
guidance to its regional reviewers reminding them to validate
contractors' self-certifications during their 1998 evaluation review
cycle.  Nevertheless, our analysis of fiscal year 1998 reviews
performed at seven contractors found no case in which reviewers
documented that they had assessed and validated contractors'
self-certified controls.  We did find two cases that mentioned such
reviews, but the reviewers merely checked whether the contractors had
provided the required self-certifications--not whether the internal
controls were actually in place or effective. 

The superficiality of these reviews is difficult to understand in
light of the large number of contractors that have been found to
have, or that are currently being investigated for, integrity
problems.  When HCFA performs an integrity review that confirms
problems at a contractor, the report often concludes that there is a
serious lack of internal controls and recommends that any corrective
action plan include establishing such controls in vulnerable areas. 
With only minimal regular review of the contractors'
self-certifications of their management controls, HCFA has little
information to assess the integrity of contractors' operations or the
reliability of their management and financial performance.  Where
internal controls are weak or untested and the risk of error is high,
the need to validate self-reported data becomes increasingly
important. 

HCFA largely relies on contractor-submitted financial and workload
data when evaluating and monitoring performance and does little
independent validation of these data.  In our analysis of 170 reviews
completed for fiscal years 1995 through 1997 covering seven
contractors, only two reviews documented reviewers' efforts to
validate contractor workload data.  In one review, HCFA staff tested
the accuracy of contractor workload data related to the time the
contractor took to perform desk reviews and audits.  In the other,
HCFA reviewers tested the accuracy of the filing date for claims
subjected to medical review to determine whether the contractor
reported correct claims processing times.  For 1998, staff in one of
the three regions we visited validated workload data in five of its
reviews--checking, for example, the accuracy of workload data on
medical reviews and telephone inquiries that the contractors had
reported to HCFA.  Staffs in the other two regions did not validate
any workload data in fiscal year 1998. 

Validating workload data has not been a consistent management
priority.  A HCFA headquarters official told us that although
headquarters staff used to validate this type of data--sometimes with
the assistance of regional office staff and in addition to any other
regional reviews--it has not done so on a routine basis since 1994,
when the headquarters group performing validation was dissolved. 
Regional officials told us that they believe the staff resources and
travel funds available to perform detailed testing and validation are
not adequate to ensure the accuracy of contractor-reported data. 
During our work at the regional offices, we found that the frequency
of on-site reviews varied greatly, and it was not unusual for staff
to spend as little as a few days once a year at a contractor's site. 
For 1998, however, HCFA directed the regions to validate claims
during their examination of contractor medical review activities, and
each of the three regions we reviewed did so for at least one
contractor.  Also, according to HCFA's Comprehensive Plan for Program
Integrity issued early in calendar year 1999, HCFA has contracted for
the verification and validation of medical review claims on a sample
basis at selected contractors.  On the basis of the results of this
effort, the verification and validation contractor will make
recommendations to HCFA for any necessary corrective action. 

In addition to workload data being vulnerable to error or
misrepresentation, critical financial information also gets limited
review and validation--either by the contractors or by HCFA staff. 
The HHS OIG report on HCFA's financial statements for fiscal year
1997 found that HCFA relies on its Monthly Contractor Financial
Report to ensure that all amounts reported to HCFA by Medicare
contractors are accurate, supported, complete, and properly
classified.  When OIG auditors reviewed these reports, their
supporting documentation, and the processes used to produce them at
11 contractors, they found that the contractors' accounting ledgers
were not maintained properly to support these reports, and some
contractors did not subject the reports to independent verification. 
According to the auditors, although they had noted similar weaknesses
in prior OIG reports issued to HCFA, the agency had not ensured that
contractors had corrected these problems. 

In response to the OIG's 1997 audit, HCFA headquarters officials
advised regional reviewers in fiscal year 1998 to check key financial
data for the largest intermediaries and for any carrier contracts
held by the same contractors.  As a result, the two regions in our
study to which this advice applied reviewed financial data for three
of their large contractors, checking items such as accounts payable
and accounts receivable.  Although the OIG's 1998 report noted some
improvement in this area, it was not sufficient to remove the
qualification on the OIG's opinion of HCFA's financial statements. 

--------------------
\8 HHS OIG, Report on the Financial Statement Audit of the Health
Care Financing Administration for Fiscal Year 1997, A-17-97-00097
(Washington, D.C.:  HHS, Apr.  1, 1998). 

      LACK OF PERFORMANCE
      STANDARDS AND WIDE
      DISCRETION GIVEN TO
      REVIEWERS LEADS TO
      INCONSISTENT OVERSIGHT
-------------------------------------------------------- Chapter 2:2.2

HCFA's efforts to evaluate contractor performance in the last decade
have suffered from extremes--a previous evaluation approach was
inflexible and not focused on outcomes, while the current approach,
in our opinion, is too discretionary and still fails to focus on
outcomes.  Under its current approach, HCFA has set few measurable
performance standards for contractors, has given regional oversight
staff wide discretion over what aspects of contractor performance to
review, and does not check on the quality of regional oversight.  Not
surprisingly, important program safeguards have received little
scrutiny at some contractors, and regions have been inconsistent in
their responses to contractor performance problems.  HCFA has begun
to give more oversight direction, but its actions to date have been
limited. 

         HCFA'S EVALUATION PROCESS
         EMPHASIZES FLEXIBILITY
------------------------------------------------------ Chapter 2:2.2.1

Under the evaluation process used from fiscal years 1980 to 1995,
HCFA examined a predetermined subset of contractors' activities each
year and assigned each contractor a numerical score.  Although
performance standards were explicit under this approach, we reported
that the standards focused more on process than outcome.  Therefore,
the evaluation process did not sufficiently emphasize efforts to
ensure that program benefits were paid appropriately, particularly by
measuring the effectiveness of program safeguards.\9

Furthermore, HCFA believed that this approach encouraged contractors
to manage their activities in a way that would maximize their score,
thus dissuading HCFA reviewers from targeting other potentially
troublesome areas. 

HCFA developed a new evaluation approach for fiscal year 1995, known
as the CPE process, designed to allow individual reviewers greater
flexibility in determining the appropriate types and levels of review
for each contractor.\10

Under this approach, HCFA's reviewers may examine any aspect of
contractor operations and, with a few exceptions, have no common
standards against which to assess the 58 contractors.  Until fiscal
year 1998, HCFA did not issue guidance for reviewers to evaluate even
a minimum set of essential operations.  But because of the OIG's and
our concern about HCFA's oversight of Medicare contractors, HCFA
issued guidance for its regions to review certain areas for fiscal
year 1998.  The guidance was issued late, however--not until the
eighth month of the fiscal year. 

HCFA's contractor performance evaluations do not follow a set report
format, although regional staffs were reminded by memo in 1998 that
evaluations should contain certain key items.  Such a flexible
evaluation process has produced a varying assortment of reports that
make analytic interpretations difficult and cross-contractor
comparisons impossible. 

--------------------
\9 Medicare:  HCFA's Contracting Authority for Processing Medicare
Claims (GAO/HEHS-94-171, Aug.  2, 1994) and Medicare:  Inadequate
Review of Claims Payments Limits Ability to Control Spending
(GAO/HEHS-94-42, Apr.  28, 1994). 

\10 HHS, HCFA, Regional Office Manual, Section 1100, Contractor
Performance Evaluation (Baltimore, Md.:  HCFA, May 1995). 

         HCFA HAS FEW MEASURABLE
         PERFORMANCE STANDARDS
------------------------------------------------------ Chapter 2:2.2.2

Except for standards mandated by legislation, regulation, or judicial
decision, HCFA's current CPE process eliminated the previous
evaluation system's process standards for contractors without
requiring sufficient outcome standards (see table 2.2 for the
mandated standards).  As a result, the current process contains few
measurable standards to ensure that contractors adequately perform
important program safeguards, such as medical review of claims.  The
lack of sufficient standards is worrisome because, in the case of
medical review, HCFA has made more effective medical review part of
its plan to strengthen program integrity.  In our opinion, the lack
of clear performance standards decreases the likelihood that HCFA
will get maximum performance from contractors. 

                               Table 2.2
                
                 Performance Standards Mandated by Law,
                  Regulation, or Judicial Decision, by
                            Evaluation Area

Evaluation area         Applies to              Performance standard
----------------------  ----------------------  ----------------------
Claims processing       Electronic part A and   95 percent paid within
                        part B claims properly  14-30 days of receipt
                        prepared and submitted

                        Paper part A and part   95 percent paid within
                        B claims properly       27-30 days of receipt
                        prepared and submitted

                        Part A Administrative   5 percent or less
                        Law Judge reversal
                        rate of claim
                        decisions

                        Part A reconsideration  75 percent processed
                        of claim decisions      within 60 days, 90
                                                percent within 90 days

                        Part B reviews of       95 percent completed
                        claim decisions         within 45 days

                        Part B hearings of      90 percent completed
                        claim decisions         within 120 days

Customer service        Part B notice to        98 percent properly
                        beneficiaries           generated
                        explaining the basis
                        for coverage and
                        reimbursement
                        decisions

                        Part B telephone        Calls answered within
                        inquiries from          120 seconds; callers
                        beneficiaries           are not to get busy
                                                signal more than 20
                                                percent of time

Payment safeguards      Part A skilled nursing  All processed
                        facility demand         accurately
                        bills\a

                        Part A Tax Equity and   Completed within 75
                        Fiscal Responsibility   days or returned as
                        Act of 1982 target      incomplete within 60
                        rate adjustments,       days
                        exceptions, and
                        exemptions\b
----------------------------------------------------------------------
\a Skilled nursing facilities are required to determine whether a
beneficiary's care will be covered by Medicare.  If a skilled nursing
facility determines that a beneficiary's care will not be covered, it
must still submit a demand bill to the contractor for review of the
coverage determination, if the beneficiary demands it. 

\b For hospitals not paid on a prospective basis, the 1982 act
provided for a ceiling on the allowable rate of increase in hospital
inpatient operating costs.  Adjustments, exceptions, and exemptions,
if properly documented, can be made under the act's provisions at the
request of the hospital. 

Even for the mandated standards listed in table 2.2, HCFA does not
require that regional reviewers check them routinely.  According to a
HCFA manual, reviewers are not required to evaluate whether
contractors meet the mandated standards unless the reviewers choose
to evaluate that specific area of contractor performance.\11 If
regional reviewers choose to look at a contractor's claims processing
activity, for example, they are required to check whether contractors
met the mandated claims processing timeliness standards. 

Our analysis of CPE reports for three regional offices found that
these regions often did not meet the requirement to review claims
processing standards when reviewing claims processing activities. 
For fiscal years 1995 through 1998, we found that, for seven
contractors, claims processing was reviewed at least once a year at
one contractor and less frequently at the others.  When HCFA
reviewers did assess claims processing activities, they checked about
half of the applicable mandated standards.  In addition, the three
regions varied considerably in the percentage of applicable mandated
standards their staff checked, as shown in figure 2.1. 

   Figure 2.1:  Three Regions'
   Rates of Compliance With
   Requirement to Check Whether
   Contractor Met Mandated Claims
   Processing Standards, FY
   1995-98

   (See figure in printed
   edition.)

--------------------
\11 HHS, HCFA, Regional Office Manual, Section 1100, p.  1-21.1. 

      HCFA DOES NOT EXAMINE
      ESSENTIAL CONTRACTOR PAYMENT
      SAFEGUARDS
-------------------------------------------------------- Chapter 2:2.3

The combination of wide discretion, few common measures, and limited
headquarters guidance leads to uneven review of contractor
performance in critical areas, including the effectiveness of payment
safeguards.  The following illustrates this effect for two types of
program safeguards--MSP and contractor fraud unit activities. 

Medicare Secondary Payer--MSP activities seek to (1) identify
insurers that should pay claims mistakenly billed to Medicare and (2)
recoup any payments Medicare made for claims not first identified as
the responsibility of other insurers.  (Table 2.3 shows some of these
key activities.)

                         Table 2.3
          
              Key MSP Activities Conducted by
                        Contractors

------------  --------------------------------------------
First claim   Research the first claim of a beneficiary to
development   identify the possibility that future claims
              may not be the primary responsibility of
              Medicare. One way that contractors determine
              whether they should pay such claims is to
              contact beneficiaries when their first
              claims are received. After first claim
              development, contractors should be able to
              catch MSP claims and forward them to the
              proper payer.

Data match    Match data contained in several federal
              information systemsincluding files from the
              Internal Revenue Service and the Social
              Security Administration--to identify
              beneficiaries that have the potential for
              being covered by employee health insurance.

Claims        Before paying a claim, check information in
processing    HCFA's regional databases, known as the
through the   common working file, to determine
common        beneficiary eligibility and reasons for not
working file  paying, such as when the beneficiary has
              other insurance.

Retroactive   Recovering erroneous Medicare claim payments
recovery or   after mistakes have been discovered, such as
waiver of     cases in which coverage, especially by
recovery      automobile liability and no-fault plans, is
              not immediately discernible. The recovery
              can be waived in certain situations, such as
              when the beneficiary is without fault or
              recovery would be more expensive than the
              amount in question.
----------------------------------------------------------
Saving about $3 billion annually from 1994 through 1998, MSP review
is a substantial Medicare payment safeguard.  Despite the opportunity
for large dollar savings, however, our review of three regions' CPE
reports--documenting which of the multiple MSP activities were
examined--shows that, over 4 years, reviewers did not check many of
the key activities most germane to spotting claims covered by MSP
provisions.  The check marks in figure 2.2 show that key MSP
activities were reviewed rarely, particularly by Region B. 

(See figure in printed edition.)Figure 2.2:  Key MSP Activities
Reviewed for Seven Contractors, FY 1995-98

The potential for contractor fraud regarding MSP activities is
significant because of an inherent conflict of interest:  the private
insurance business of the contractor can be the primary payer for
some claims subject to the MSP provisions.  HCFA has had to pursue
certain insurance companies--some with related corporations that are
Medicare contractors--in federal civil court for refusing to pay
before Medicare when the government contends that Medicare should
have been the secondary insurance payer.  Since 1995, settlements in
cases in which a related company was a Medicare carrier or
intermediary have totaled almost $66 million.\12 HCFA currently has
an additional $98 million in claims filed against current and former
contractors.  In our opinion, the considerable size of annual MSP
savings, coupled with HCFA's past experience with contractor
performance and the extra effort involved in identifying
beneficiaries' primary insurers, underscore the need for regular
scrutiny of these activities. 

Fraud Units--HCFA requires all intermediaries and carriers to operate
special units for detecting and deterring fraud.  The units are
expected to, among other activities, determine the factual basis of
fraud complaints made by beneficiaries and others, explore leads, and
develop and refer cases to the HHS OIG.  The OIG's 1998 report on
intermediaries' fraud units found significant disparities in the
fraud units' performances:  one unit handled over 600 fraud cases,
and others handled none; one referred over 100 cases to the HHS OIG,
and others referred none.\13

The HHS OIG also found weaknesses in HCFA's evaluations that allowed
contractor performance to go unchecked.  For example, HCFA's
reviewers did not routinely check and report on whether contractors
were identifying program vulnerabilities, such as loose program
guidelines that invited inappropriate billings.  Although
identification of program vulnerabilities heads the list of fraud
unit responsibilities, only 10 percent of HCFA's CPE reports on fraud
units stated whether the unit had carried out this responsibility. 
In its 1998 report, the OIG recommended that HCFA establish standards
for contractor performance; measure performance against those
standards; and require that CPE reports list HCFA's performance
standards and state contractors' compliance with the standards
explicitly. 

HCFA substantively concurred with all of the OIG's recommendations
and noted certain initial steps it had already taken in fiscal year
1998 and its intent to address the recommendations more
comprehensively in later years. 

--------------------
\12 These contractors include the national Blue Cross Blue Shield
Association, Blue Cross Blue Shield of Florida, Blue Cross Blue
Shield of Massachusetts, Blue Cross Blue Shield of Michigan,
Transamerica, and Travelers. 

\13 HHS OIG, Fiscal Intermediary Fraud Units, OEI-03-97-00350
(Washington, D.C.:  HHS OIG, Nov.  1998). 

      REVIEWERS INCONSISTENT IN
      PRESCRIBING CORRECTIVE
      ACTIONS
-------------------------------------------------------- Chapter 2:2.4

Without a set of clearly defined and measurable performance standards
or measures, contractors lack clear expectations.  This has resulted
in inconsistencies in HCFA reviewers' handling of contractor
performance problems.  Besides the inequity for contractors, such
uneven review leaves HCFA without the ability to discriminate between
contractors' performance when assigning new work. 

HCFA officials told us that some regions are known to be easier on
contractors than others.  We found instances in which regions handled
similar types of contractor activities differently.  For example, one
company held two contracts for two states--each overseen by a
different region.  As part of its program safeguard activities, the
company analyzed paid claims at one central location to identify
possible fraudulent or abusive provider billing trends.  While the
company conducted identical types of analyses for both contracts, one
region found that the contractor's data analysis activities did not
fulfill HCFA's expectations, while the other region found the
contractor in compliance with HCFA's analytic expectations.  Although
these regions had signed a memorandum of understanding to seek
consistency in how they directed the contractor, and to coordinate
oversight to avoid duplication of effort, they did not work together
to resolve their differences and guide the contractor with one voice. 

HCFA reviewers may not only disagree about whether a problem exists
but also take dissimilar actions once a performance problem is
identified.  HCFA's normal procedure after identifying a program
deficiency is to require the contractor to develop a Performance
Improvement Plan (PIP) to correct the problem, and then to monitor
the plan.  PIPs can be stringent corrective actions for contractors. 
Contractors operating under a PIP can be required to make complex
changes in operations and to submit performance data and reports
about their activities until HCFA decides that their performance has
improved. 

HCFA reviewers differ in whether they require PIPs, even in cases
that seem quite similar.  For example, in one region, a contractor
with a high error rate in one component of its medical review process
passed its periodic evaluation without any requirements to improve. 
In another region, a contractor with a similarly high error rate was
required to develop and follow a PIP. 

Similarly, one region required a contractor to develop and follow
PIPs for deficiencies in its performance in fraud and abuse
prevention and detection.  This contractor did not maintain and use a
fraud investigation database.  All cases were not entered into the
database, and there were quality problems with some of the cases that
were entered.  In contrast, another region, reviewing a different
contractor, found many more serious weaknesses with that contractor's
fraud and abuse prevention and detection activities.  The reviewer
concluded that the contractor did not meet HCFA's performance
expectations, yet did not require a PIP.  Included in the weaknesses
the reviewer identified were (1) spending little or no time actively
detecting fraud and abuse; (2) not using data to detect egregious
cases; (3) focusing on small, rather than large and more complex,
dollar cases; (4) referring only one case to the HHS OIG during the
year; (5) inadequately recovering overpayments; (6) failing to
suspend payments to questionable providers; (7) failing to prioritize
cases; and (8) preparing no fraud alerts. 

Regions varied widely in their use of PIPs in 1996 and 1997.  As
table 2.4 shows, some regions required few or no PIPs of the
contractors they oversee, while others used this mechanism
extensively.  We could not determine whether this variance was due to
better contractor performance in some regions, or regional practices
regarding the use of PIPs.  However, HCFA was concerned enough about
the variation that in 1998 it provided additional guidance to regions
clarifying the difference between a program deficiency, which
requires a PIP, and a program vulnerability, which does not. 

                               Table 2.4
                
                 Number of Contracts Overseen and PIPs
                Required for Contractors, by Region, FY
                             1996 and 1997

                                          FY 1996--       FY 1997--
                                          number of       number of
                                        --------------  --------------
                                        Contra          Contra
Region                                     cts    PIPs     cts    PIPs
--------------------------------------  ------  ------  ------  ------
Boston                                      10       7      11       3
New York                                     7       3       7       7
Philadelphia                                10       8       9      16
Atlanta                                     18      30      16      40
Chicago                                     14      16      13     100
Dallas                                       9       1       6       6
Kansas City                                  8      15       8      11
Denver                                       8       4       8       0
San Francisco                                8       9       5      21
Seattle                                      6       0       4      10
======================================================================
Total                                       98      93      87     214
----------------------------------------------------------------------
Source:  HCFA data. 

      HCFA HAS BEGUN TO MOVE TO A
      MORE STRUCTURED EVALUATION
      PROCESS
-------------------------------------------------------- Chapter 2:2.5

HCFA has recognized that its oversight of contractors has been less
than adequate and issued guidance in fiscal year 1998 to have
regional reviewers follow a somewhat more structured evaluation
process.  However, these actions are only a first step in addressing
problems with contractor oversight. 

In May 1998, citing concerns raised by the HHS OIG and us regarding
HCFA's level of contractor oversight, HCFA announced the need to
reengineer our current contractor monitoring and evaluation approach
and develop a strategy demonstrating stronger commitment to this
effort. Specifically, HCFA issued a contractor performance
evaluation plan specifying three evaluation priorities for fiscal
year 1998:  (1) year 2000 compliance activities, (2) activities
focusing on a subset of financial management operations--accounts
receivable and payable, and (3) activities focusing on a subset of
medical review activities.  Because of the regions' workload
concerns, HCFA later scaled down its requirements in the financial
management area. 

Also in 1998, HCFA emphasized the need for regions to follow its
structured CPE report format, including clearly stating whether the
contractor complied with HCFA's performance requirements. 
Nonetheless, we found that some of the 1998 reviews continued to lack
a structured format, making it difficult to compare contractor
performance.  For example, HCFA's contractor evaluation plan for
fiscal year 1998, issued 5 months before the close of the fiscal
year, called for examining contractors' activities with regard to
reviewing claims for medical necessity before they are paid (called
prepayment medical review).  Our review of the three regions' fiscal
year 1998 CPE reports shows that (1) two regions did not review
contractors' determinations of medical necessity at all contractors
included in our study before payment and (2) two regions did not
consistently follow the structured report format, making it difficult
for HCFA headquarters to evaluate or compare the results. 

Despite HCFA's intent to provide more direction to the regions on
contractor oversight activities, it continues to issue review
guidance late in the year.  Agency officials recently told us that
its plan for CPE reviews for fiscal year 1999 will include more
headquarters involvement in the assessment process, review teams from
headquarters and the regions, and multiregional reviews.  As of May
1999--7 months into the fiscal year--HCFA had not yet issued its
fiscal year 1999 guidance. 

   HCFA LACKS A STRUCTURE THAT
   ENSURES ACCOUNTABILITY
---------------------------------------------------------- Chapter 2:3

Two aspects of HCFA's current organizational structure create
problems for overseeing contractors.  First, HCFA reorganized its
headquarters operations in 1997, dispersing responsibility for
contractor activities from one headquarters component to seven. 
Second, although HCFA's 10 regional offices are the front line for
overseeing contractors, they do not report directly to headquarters
units responsible for contractor performance.  Instead, they report
to the HCFA Administrator, through their respective regional
administrators and consortia directors.  We found that the structural
relationship and the dispersal of responsibility for contractor
activities to multiple headquarters components contribute to
communications problems with contractors, exacerbate the weaknesses
of HCFA's oversight process, and blur accountability for (1) having
regions adopt best practices; (2) routinely evaluating the regional
offices' oversight; and (3) enforcing minimum standards for
conducting oversight activities, including taking action when a
particular region is not performing well in overseeing contractors. 
To establish more consistency and improve the quality of contractor
management and oversight, HCFA recently modified its organizational
structure again, but these changes may not be sufficient. 

      HCFA'S STRUCTURE CONTRIBUTES
      TO PROBLEMS IN
      COMMUNICATIONS AND OVERSIGHT
-------------------------------------------------------- Chapter 2:3.1

HCFA's 1997 agencywide reorganization dispersed contractor
responsibilities to seven headquarters offices.  To ensure that
contractors received clear program direction under the new structure,
HCFA formalized its process for issuing contractor guidance and
making system changes.  However, contractors report continued
problems in receiving all required information.  In addition, HCFA
does not share among regions best practices or lessons learned from
integrity reviews, nor does it evaluate the quality of regional
oversight.  Furthermore, since regional contractor oversight staffs
do not report to headquarters staff responsible for contractor
activities, HCFA's structure does not foster consistent
accountability and oversight. 

Before HCFA's 1997 reorganization, responsibility for managing
Medicare contractors fell to the Bureau of Program Operations in
headquarters and the 10 regional offices.  The Bureau provided
guidance to regional offices and was responsible for almost every
aspect of contractor management at headquarters, including selection,
budgeting, and ensuring proper monitoring of contractor performance. 
The regional offices carried out the day-to-day oversight at specific
contractors. 

Under the 1997 reorganization, regions retained their role as the
primary contract monitors, but responsibility at headquarters for
contractor functions was dispersed among seven headquarters
components.  This functional dispersion, in part, was in response to
concern that one office, such as the Bureau, should not oversee all
contractor activities, and instead offices with responsibility for
contractor functions should have more functional independence.  Table
2.5 shows the headquarters units involved in contractor management. 

                               Table 2.5
                
                      HCFA Headquarters Units With
                Responsibilities for Medicare Contractor
                                 Issues

HCFA organizational                             Component
component               Subcomponents           responsibilities
----------------------  ----------------------  ----------------------
Center for Beneficiary  Medicare Carrier and    Contractor management
Services                Intermediary            focal point.
                        Management Group:       Contractor performance
                        Division of Contractor  evaluations,
                        Operations, Division    transitions,
                        of Contractor           customer service,
                        Planning, Division of   beneficiary
                        Contractor Integrity    enrollment,
                        and Performance         coordination of
                        Evaluation              benefits, and
                                                appeals.
                        Customer and
                        Teleservice Operations
                        Group: Division of
                        Contractor Customer
                        Service Operations and
                        Division of Call
                        Center Operations

                        Beneficiary Membership
                        Administration Group:
                        Division of Membership
                        Operation and Division
                        of Member Rights and
                        Protections

Center for Health       Provider Purchasing     Claims processing and
Plans and Providers     and Administration      payment issues,
                        Group:                  provider/supplier
                        Division of             enrollment.
                        Institutional Claims
                        Processing, Division
                        of Practitioner Claims
                        Processing, Division
                        of Supplier Claims
                        Processing, and
                        Division of Provider/
                        Supplier Enrollment

Office of Financial     Financial Services      Accounting operations,
Management              Group: Division of      budget, cost
                        Accounting and          reporting, cash
                        Division of Financial   management/letter of
                        Integrity--MSP          credit, MIP, other
                        Operations Branch,      payment safeguards,
                        Debt Collection         and internal controls.
                        Branch, and Provider
                        Audit Operations
                        Branch

                        Program Integrity
                        Group: Division of
                        Program Integrity
                        Operations

Office of Information   Business Systems        Change management,
Services                Operations Group:       standard systems,
                        Division of Change      common working file,
                        Management and          paper and electronic
                        Division of Standard    data interchange,
                        Systems and Common      administrative
                        Working File Security   transactions, and
                        and Standards Group:    systems security.
                        Division of Health
                        Care Information
                        Systems Standards:
                        Division of HCFA
                        Enterprise Standards

Office of Internal      Acquisition and Grants  Contracting issues.
Customer Support        Group: Division of
                        Medicare Contractors

Office of Clinical                              Coverage issues.
Standards and Quality

Office of               Operations Support      Manual and program
Communications and      Group: Division of      guidance.
Operations Support      Regulations and
                        Issuances
----------------------------------------------------------------------
Source:  HCFA. 

Because the 1997 reorganization spread contractor-related
responsibilities among multiple headquarters units, the Medicare
Contractor Management Group (CMG), in the Center for Beneficiary
Services, was established as a focal point for providing guidance to
the contractors and the regional offices.  The CMG worked with other
headquarters components and the regional offices to coordinate the
issuance of guidance and activities related to contractor selection,
budgets, transitions, processing systems, and performance
evaluations. 

Recognizing that the dispersal of responsibilities could confuse
contractors, HCFA also established the Medicare Change Management
Process in October 1997 to ensure that the newly reorganized agency
provided clear program direction directly to its contractors.  This
process required that the CMG, after coordinating the development of
guidance or system programming instructions for the contractors,
formally certify the instructions before they were implemented.  It
also effectively removed the regional offices as conduits for
information from headquarters to the contractors. 

Despite these efforts, there have been problems.  Primary among them
are the uncertainties that contractors are, in fact, receiving and
implementing all instructions and that regions are not always aware
of the instructions being conveyed.  According to agency officials,
HCFA is developing a checking process to remedy these problems. 

To test the adequacy of HCFA's communications with its contractors,
the Blue Cross Blue Shield Association analyzed recent documents that
three contractors reporting to three different regions received from
headquarters or their respective regional offices.  According to the
Association's analysis, each of the three contractors did not receive
about half of what they classified as key directives.  In addition,
at the time, certain HCFA directives were still being funneled
through regions to contractors.  Regions also varied in how well they
transmitted information to their contractors, with one region being
noticeably slower at transmitting directives than the other two. 

In addition to having communications problems with contractors, HCFA
also has not communicated to regional reviewers lessons learned from
best oversight practices or from integrity investigations.  HCFA
acknowledges that some regions do a better job than others and would
like to capitalize on the successful approaches particular regions
employ.  In fact, in a memorandum to the regions dated August 4,
1998, from HCFA's Division of Contractor Integrity and Performance
Evaluation, the division director indicated that a sample of regional
CPE reports would be reviewed and periodic summaries developed to
share best practices with other regions.  However, HCFA has not yet
prepared any best practices summaries, in part because the CPE
reports were submitted late, according to the director.  The director
also was concerned that the untimely submission of CPE reports to
headquarters may indicate that the regions are not providing their
contractors with timely information on review results.  But because
this Division's relationship with the regions is advisory, the
director could not require regions to be more timely. 

Regions could also benefit from information obtained from contractor
integrity investigations, but HCFA has not incorporated such lessons
into its routine oversight practices.  These integrity investigations
follow allegations of wrongdoing and entail interviewing company
employees and combing through company records.  In some cases, the
employee interviews have given HCFA leads that may not have been
evident through HCFA's current CPE process, such as instructions to
alter Medicare performance data or to destroy company records. 
According to staff experienced in conducting integrity reviews,
HCFA's on-site presence also typically leads to the discovery of
performance problems not previously identified at the contractor
under review.  We found that integrity reviews are typically done in
reaction to allegations of wrongdoing and usually are conducted or
directed by headquarters personnel.  Because these reviews are seen
largely as one-time, unusual events rather than as a pattern of
practices at more than one contractor, HCFA has not developed a
formal mechanism to communicate information learned about root causes
and prevention of these problems.  Nor has it incorporated such
knowledge into HCFA's routine oversight. 

Finally, with few formal requirements for regions to report to
headquarters, HCFA does not collect, analyze, or evaluate information
on the quality of regional oversight across the country.  It does not
have information on the relative strengths and weaknesses in regional
performance or on whether all contractors are being treated
equitably; therefore, it cannot provide formal feedback to regions to
improve their performance. 

Even if it had good information on regional performance, the
structural relationship between headquarters units and the regions
would not lend itself to HCFA's scrutiny of its regions.  Regional
offices report directly to the HCFA Administrator through their
respective regional administrators and consortia directors.  Regional
staffs responsible for contractor oversight do not report to the
headquarters unit most involved with contractor oversight.  As a
result, this headquarters unit is not clearly directing contractor
oversight.  To illustrate, a HCFA memo to the regions concerning the
validation of contractor self-certifications as part of the 1998
review cycle stated that reviewers should perform this activity if
it would be convenient. A HCFA headquarters staff member told us
that the memo was intended to strongly encourage reviewers to do this
activity but did not directly order reviewers to do it because the
headquarters unit lacked the authority to do so. 

      HCFA IS AGAIN REORGANIZING
      HEADQUARTERS FUNCTIONS TO
      ADDRESS MANAGEMENT
      WEAKNESSES
-------------------------------------------------------- Chapter 2:3.2

HCFA officials have come to recognize that the agency does not have
an adequate contractor strategy.  During the latter part of our
review, HCFA officials told us that they were reorganizing the
agency's contractor management activities.  This may be a good start,
but it is too soon to tell how well this will address the fundamental
problems HCFA has had ensuring adequate and consistent contractor
oversight. 

In late 1998, HCFA established the Medicare Contractor Oversight
Board, a subgroup of the Executive Council,\14 to provide high-level
oversight of contractor activity and to better represent contractor
issues at HCFA.  In addition, the HCFA Administrator has created a
new deputy position for contractor operations in HCFA's Center for
Beneficiary Services.  According to HCFA officials, as a senior HCFA
official responsible for contractor operations, this deputy will
bring contractor issues to the Executive Council more effectively and
will serve as the Executive Director of the Oversight Board, which
reports to the HCFA Administrator.  HCFA has also established a group
of headquarters and regional officials to work with an outside expert
to develop a strategic plan for managing Medicare contractors.  The
plan is expected to be complete in the summer of 1999.  Finally, HCFA
is adding 21 new contractor management staff at headquarters--11 of
which will be involved in coordinating activities with other
organizational components. 

These changes have the potential to elevate contractor issues to more
senior decisionmakers and improve communications among the units that
share responsibility for contractor management and oversight. 
However, it is too soon to tell whether this new organization will
lead to improved contractor oversight. 

--------------------
\14 The Executive Council is a group of senior HCFA executives
chaired by the Administrator.  Responsible for the operation of HCFA
programs, the council establishes performance standards for all HCFA
programs and monitors the agency's operations to ensure that the
standards are being met. 

HCFA WOULD NEED TIME AND CAREFUL
IMPLEMENTATION TO BENEFIT FROM NEW
CONTRACTING AUTHORITY
============================================================ Chapter 3

HCFA's current legislative authority, its interpretation of that
authority, and its regulations constrain its ability to choose
contractors and attract new companies as contractors.  To remedy
this, HCFA has proposed legislation that addresses perceived barriers
to effective contracting for Medicare claims administration services. 
The proposed changes include obtaining (1) authority to contract with
other than health insuring organizations, coupled with repeal of the
provider nomination provision for selecting intermediaries, (2)
authority to contract for specific activities other than payment
safeguards, and (3) unrestricted authority to award other than
cost-based contracts.  In 1996, HCFA was given new authority to
contract separately just for payment safeguard activities, such as
medical review of claims, to ensure the services were medically
necessary.  HCFA's experience in implementing its new payment
safeguard contract authority attests to the need for significant time
to explore and resolve several feasibility issues.  In addition,
HCFA's previous experience with the use of fixed price and
cost-plus-incentive payments suggests that any change from cost-based
contracting will need to be carefully designed and thoughtfully
monitored to prevent loss to the Medicare program.  Testing different
methods of contracting could help HCFA ensure that implementation
would improve, rather than weaken, program administration. 

   CONSTRAINTS ON CONTRACTING
   AUTHORITY LIMIT HCFA'S ABILITY
   TO ATTRACT NEW COMPANIES
---------------------------------------------------------- Chapter 3:1

When Medicare was implemented in 1966, the government used existing
health insurers, as the Congress intended, to process and pay claims,
and their expertise helped launch the new program.  Subsequent
regulations and decades of the agency's own practices have further
limited how HCFA contracts for claims administration services.  In
this regard, HCFA has

  -- not contracted with companies other than health insurers to
     handle any aspects of administering Medicare claims, and only
     health insurers have met the statutory definition of carriers;

  -- not awarded separate contracts for discrete claims
     administration functions because its law and regulations impede
     it from doing so, except for payment safeguard contracts, which
     have recently been awarded under its 1996 authority to contract
     separately for these activities only; and

  -- infrequently used financial inducements, such as incentive
     payments, that would allow a company to earn a profit for
     superior performance, and its authority to do so has specific
     limits. 

The Congress intended the government to contract with intermediaries
and carriers for the administration of the Medicare program, but it
did not mandate that such contractors be used.  Sections 1816 and
1842 of the Social Security Act authorize the Secretary of Health
and Human Services to enter into such contracts.  Section 1874 grants
the Secretary authority to perform any of [the] functions under
[Medicare] directly, or by contract.  .  .  . Based largely on what
it understands to have been congressional intent, HCFA believes that
it is required to contract with intermediaries and carriers for all
claims administration.  HCFA is pursuing legislation that will
provide explicit authority for it to do otherwise. 

The initial rationale for some of HCFA's practices under current
authority and regulations has faded against the backdrop of today's
health care business environment.  In the three decades since
Medicare's creation, the explosion in information management
technology, coupled with the diversification of the health insurance
industry into activities such as provision of health services, has
generated the potential and need for Medicare to use new types of
business entities to administer its claims processing and related
functions.  However, the combination of the health insurer-only
limitation, constraints on disaggregating administrative functions,
and limits on contractor financial incentives severely hamper efforts
to modernize Medicare's contracting processes and encourage new
companies to become contractors. 

The need to broaden the pool of eligible Medicare contractors has
become acute in light of contractor attrition.  Since 1980, the
number of contractors has dropped by about half.  In some cases in
the 1980s, contractors were consolidated to achieve administrative
efficiencies.  However, continued erosion in the number of
contractors has left HCFA with fewer choices when one contractor
withdraws from the program and another must be chosen to process the
claims.\15 In the last 10 years, the number of Medicare contractors
dropped about a third--from 85 to 58.  (See fig.  3.1.)

   Figure 3.1:  Number of Medicare
   Claims Administration
   Contractors, 1980-99

   (See figure in printed
   edition.)

The pool of contractors eligible and able to assume reassigned work
is, in effect, smaller than the 58 intermediaries and carriers
currently serving Medicare.  First, some existing contractors are too
small to easily absorb a substantially increased workload.  When a
Blue Shield carrier announced that it was leaving the program in
1996, for example, another one wanted to assume the workload, which
would have increased the second contractor's workload about tenfold. 
According to HCFA officials, however, the agency avoids adding so
much work to smaller contractors to mitigate the risk of a breakdown
in service--most notably, timely and accurate payments to providers. 
Second, some contractors may not be interested in expanding their
workload.  Third, it is not desirable for HCFA to choose a contractor
that it knows is being investigated or prosecuted.  HCFA has allowed
at least one contractor that had been the subject of an investigation
to expand its workload.\16

The threat of financial penalties can influence a company's decision
to drop out of the program.  About a third of the nonrenewing
contractors since 1990 had allegations of wrongdoing made against
them.  Of the 58 contractors remaining today,\17 at least 7 are
subject to ongoing investigations.  These seven contractors
administered over 30 percent of Medicare's fee-for-service claims in
fiscal year 1998. 

--------------------
\15 The desired attrition that began in the 1980s occurred after our
1979 report calling for consolidating carrier and intermediary
workloads to achieve greater efficiency.  See More Can Be Done to
Achieve Greater Efficiency in Contracting for Medicare Claims
Processing (GAO/HRD-79-76, June 29, 1979). 

\16 Several reasons accounted for HCFA's unusual decision in this
case, including (1) the contractor's self-disclosure of the problem;
(2) its willingness to cooperate with HCFA when the agency stepped in
to investigate; and (3) the steps the contractor took to ensure that
the problem did not recur, including firing employees involved in
wrongdoing. 

\17 These 58 contractors are actually part of only 44 different
companies.  In addition, two companies with five contracts are
planning a merger, and another with three contracts has agreed to buy
a smaller company with only a single contract.  Also, four
intermediaries have announced their intention to withdraw from
Medicare service before the end of fiscal year 1999. 

   HCFA PROPOSALS SEEK TO REMOVE
   CONSTRAINTS ON CONTRACT
   AUTHORITY
---------------------------------------------------------- Chapter 3:2

In recent years, HCFA has sought legislation that would loosen its
constraints and allow it to contract in new ways.  HCFA has once
again made legislative proposals that would make explicit its
authority to award contracts

  -- to any type of competent business or public entity to perform
     functions now done by the intermediaries and carriers;

  -- for just one or a subset of the functions now performed by the
     Medicare fee-for-service contractors; and

  -- using any method of payment appropriate for the contract,
     without the current restrictions. 

      AUTHORITY TO CONTRACT WITH
      OTHER THAN HEALTH INSURERS
      WOULD EXPAND HCFA'S OPTIONS
-------------------------------------------------------- Chapter 3:2.1

Historical circumstances explain why Medicare law differentiates
between intermediaries and carriers and why, from the outset, the
government has contracted with only health insurers to process
program claims.  Before Medicare's enactment in 1965, providers
feared that the program would give the government too much control
over health care.  To achieve Medicare's acceptance, the program was
designed to (1) only include hospital insurance (Medicare part A) for
senior citizens and (2) be administered using insurance plans, like
Blue Cross, that were already processing private claims submitted by
hospitals.  For example, the national Blue Cross Association,\18 to
which many of these plans belonged, was chosen to act as an
intermediary between the government payer and many hospitals. 

The decision to cover physician services (Medicare part B) was a late
development, thus leading to a claims administration arrangement
separate from the intermediary version.  The commercial insurance
industry and certain Blue Shield plans were chosen by geographic
locale to process physician claims as carriers. Unlike
intermediaries, all carriers contract directly with HCFA. 

The Congress did not mandate that either intermediaries or carriers
be used for the administration of the Medicare program.  It did,
however, authorize the Secretary of Health and Human Services to
contract with such entities and clearly expected that this would
happen.  Nonetheless, HCFA believes that it needs a legislative
change in order to contract with other than health insuring
organizations for functions currently performed by carriers and
intermediaries and to choose intermediaries without using the current
provider nomination process.  Because of this belief--bolstered by
the clear intent of the Congress, HCFA practice, and HCFA's
interpretation of the Social Security Act--intermediaries and
carriers have been limited almost entirely to established health
insurance companies. 

To encourage hospitals to participate in the new Medicare program by
giving them some choice in their claims processor and to protect
current relationships between hospitals and health insurers, the
Medicare statute contained a provision called provider nomination.
This provision authorized, but did not mandate, a system that allowed
the professional associations of hospitals and certain other
institutional providers to choose claims processing contractors on
behalf of their members.  When the program began, the American
Hospital Association nominated the national Blue Cross Association to
serve as its intermediary.\19 In 1966, the Association entered into a
prime contract and subcontracted with 74 local member Blue plans. 
Currently, the Association is one of Medicare's five intermediaries
and serves as prime contractor for 32 local member plan
subcontractors that together process over 85 percent of all benefits
paid by intermediaries.  All intermediaries are also health insurance
companies. 

Under the prime contract, when one of the local Blue plans declines
to renew its Medicare contract, the Association--rather than
HCFA--chooses the replacement contractor.  For example, the local
Blue plan for Minnesota recently announced that it would soon be
giving up its Medicare part A business.  Because the hospitals
serviced by the Minnesota plan had nominated the Association to serve
as their intermediary, the Association conducted a competition among
any interested member plans and named Noridian Government Services,
formerly known as Blue Cross and Blue Shield of North Dakota, as
Minnesota's successor.  This process effectively limited HCFA's
flexibility to choose a commercial plan or even a different local
Blue plan to replace a local Blue plan that was withdrawing from the
program. 

Similarly, the government was authorized, but not mandated, to
contract directly with individual carriers that were existing payers
of health care services for the processing of physician claims.\20
The pool of eligible contracting companies has been limited almost
entirely to established commercial health insurers and Blue Shield
plans.  Currently, HCFA contracts with about 22 carriers, of which
about two-thirds are local Blue Shield plans that process about 60
percent of all part B claims. 

Using health insurers entailed certain conflicts of interest.  As
Medicare contractors, these companies had control over sensitive
health status information and payment decisions that could be used to
improperly benefit their private lines of business.  These inherent
conflicts were acknowledged in the companies' Medicare contracts,
which included provisions prohibiting the improper use of privileged
information.  In addition, the companies responsible for paying
Medicare claims were the same companies responsible for later
checking that these payments had been made appropriately.  More
recently, additional conflicts were introduced when insurance
companies serving as Medicare contractors began establishing health
maintenance organizations and provider networks.  The fundamental
conflict under such circumstances occurs when a company responsible
for reviewing the appropriateness of Medicare claims is also a
corporate partner with hospitals, physician networks, and other
providers billing the program. 

Under HCFA's proposal to repeal the provider nomination authority and
the requirement that all carriers be health insurers, HCFA would be
free to select its own contractors.  The repeal of the nomination
authority would allow HCFA to eliminate the prime contract
arrangement with the Blue Cross Blue Shield Association.  Under the
proposed change, whenever a Medicare subcontract is not renewed for a
local Blue plan serving as an intermediary, HCFA would be able to
award that contractor's workload to any company or combination of
companies--including those outside the existing contractor pool--and
would no longer be limited to using a plan selected by the
Association.  In fact, the merit of this nomination authority has
been questioned for nearly three decades.  In 1970, a Senate Finance
Committee report concluded that the original purpose of the provision
for provider nomination of the intermediary has largely been served
and that with the maturation of Medicare, the Congress should
consider modifying the provision.\21 Similarly, the proposal to
expand carrier eligibility criteria beyond the health-insurer-only
restriction could also be used to increase the pool of eligible
contractors. 

--------------------
\18 At that time, the Blue Cross Blue Shield Association was two
separate entities:  the Blue Cross Association and the Blue Shield
Association. 

\19 The nominated intermediaries initially chosen were the Blue Cross
Association, nine commercial insurance companies, two independent
plans, and one state agency.  The Association paid claims at that
time for most of the nonprofit community hospitals and 87 percent of
all hospitals.  The Association was also selected by more than half
of the extended care facilities in the country.  As a result, the
Association was responsible for many more providers than the other 12
intermediaries first chosen.  No new intermediaries have been named
since December 1969, when one of the initial intermediaries was
replaced. 

\20 Under section 1842(f) of the Social Security Act, a carrier is
(1) a voluntary association, corporation, partnership, or other
nongovernmental organization which is lawfully engaged in providing,
paying for, or reimbursing the cost of, health services under group
insurance policies or contracts, medical or hospital service
agreements, membership or subscription contracts, or similar group
arrangements, in consideration of premiums or other periodic charges
payable to the carrier, including a health benefits plan duly
sponsored or underwritten by an employee organization or (2) a
Medicare intermediary. 

\21 Medicare and Medicaid:  Problems, Issues, and Alternatives,
Report of the Staff to the Committee on Finance, U.S.  Senate, Feb. 
9, 1970, p.  114. 

      CLARIFIED AUTHORITY TO AWARD
      FUNCTIONAL CONTRACTS COULD
      RESTRUCTURE CLAIMS
      ADMINISTRATION
-------------------------------------------------------- Chapter 3:2.2

Health insurers are not the only companies with experience and skills
in some of the activities now performed by carriers and
intermediaries, but until recently, HCFA has not tried to separately
contract for specific claims administration functions.  HCFA
interprets its Medicare regulations, as well as the Social Security
Act, as constraining it from awarding separate contracts for
individual claims administration activities.  HCFA believes it must
obtain clarifying authority from the Congress to do otherwise, as it
did recently for payment safeguards, or must publish a superseding
regulation.\22 Though HCFA is interested in trying to contract by
function, Medicare intermediaries and carriers have expressed concern
that contracting by function would be disruptive to their operations
and the program.  While HCFA could revise its regulations and remove
some of the constraints on functional contracting, it has chosen for
several years to approach the Congress for clarifying legislation so
that all of the constraints can be addressed at once.  In 1996, HCFA
received new authority to contract separately for program safeguard
functions.  Implementing these functional contracts will give HCFA
useful experience in the advantages and possible pitfalls to such
contracts. 

--------------------
\22 HCFA has published proposed regulations that included language
that would change these constraining provisions, but the provisions
have never been included in a final regulation.  Such language has
been included most recently as part of the MIP proposed rule (63 Fed. 
Reg.  13,590, Mar.  20, 1998), which has not yet been finalized. 

         REGULATIONS LIMIT HCFA'S
         ABILITY TO CONTRACT BY
         FUNCTION
------------------------------------------------------ Chapter 3:2.2.1

HCFA's regulations stipulate that, to qualify as a carrier or
intermediary, the contracting organization must perform all of the
Medicare claims administration functions.\23 These functions include,
among others, claims processing, adjudicating appeals of payment
decisions, collecting debt and recovering overpayments, and
responding to customer inquiries. 

Under this all-or-nothing interpretation, HCFA requires each Medicare
claims processing contractor to perform functions that could
otherwise be consolidated into a single contract or a few regional
contracts to achieve economies of scale.  For example, in the
fee-for-service Medicare program, each contractor conducts hearings
on provider and beneficiary appeals of its own claims decisions. 
Despite the possible conflict of interest in reviewing its own
corporate decisions and the possible inefficiency of operating an
individual appeals function at each contractor, HCFA contends that
Medicare regulations do not permit awarding a separate consolidated
contract for a function such as appeals.  In contrast, under
different contracting authority used for the Medicare managed care
program, which is composed of more than 300 health plans, HCFA
consolidated the appeals function into one contract.  Similarly,
there are companies that could perform some of the functions
currently performed by Medicare contractors.  With the prospect of
separate contractors for medical review activities included as part
of the new program safeguard contracts, the argument that contractors
for intermediary and carrier functions must be medically oriented is
less persuasive.  Functions such as printing and mailing or answering
beneficiary inquiries might be more economically and efficiently
handled under one or a few contracts. 

The proposal to permit functional contracting could significantly
restructure Medicare's contracting process.  Coupled with the
proposals that would broaden the choice of contracting entities,
functional contracting could enable HCFA to make better business
decisions in selecting and retaining contractors.  HCFA could select
companies on the basis of their particular areas of expertise,
consolidate operations to achieve economies of scale, and, in some
cases, mitigate the conflicts of interest that currently exist for
most Medicare contractors. 

On the other hand, functional contracting could introduce new
problems into the Medicare program.  After 30 years of integration,
contractors' functions are not necessarily easy to separate. 
Contractor representatives told us that their claims processing
systems are structured for end-to-end claims administration
activities.  Having multiple companies doing different tasks in
claims administration with the current claims systems could create
coordination difficulties for the contractors, providers, and HCFA
staff.  As the functions best suited for separate functional
contracts have not yet been determined, feasibility tests might be
necessary for the success of such an initiative. 

--------------------
\23 Since 1965, the Medicare statute has required that intermediaries
perform payment and payment determination functions as well as some
or all of a number of listed functions.  Carriers are required to
perform some or all of a number of listed functions, which include
payment and payment determination functions.  Since 1980, regulations
governing the functions of intermediaries and carriers have
elaborated on their specific responsibilities and what they must do
to meet them.  42 C.F.R.  part 421. 

         MIP WILL TEST FUNCTIONAL
         CONSTRAINTS
------------------------------------------------------ Chapter 3:2.2.2

HCFA's new efforts to contract for program safeguards will test the
efficacy of functional contracting.  The program safeguard authority
is significant in that it is explicit and, potentially, enables HCFA
to mitigate the conflict inherent when an entity processing Medicare
claims is the same entity reviewing the claims for error.  In
addition, the new contracting authority provided under this program
affords HCFA greater flexibility in selecting from among competing
eligible entities, creating other-than-cost-based contracts, and
awarding contracts to conduct specific sets of program safeguard
functions rather than the full set of carrier and intermediary
activities.  This will also provide HCFA with experience in managing
a competitive procurement. 

HCFA's goal for program integrity is to make correct and prompt
payments to legitimate providers for appropriate services rendered to
eligible beneficiaries.  Accordingly, payment safeguard functions to
be performed under the MIP contract include reviewing providers'
claims (medical, utilization, and fraud reviews); auditing providers'
and managed care plans' cost reports; performing MSP reviews and
recovering erroneous program payments; educating providers and
beneficiaries about program integrity issues; and maintaining lists
of durable medical equipment items requiring prior approval. 

However, HCFA's efforts to implement new contracting authority under
MIP have moved more slowly than anticipated, suggesting that
contracting changes--and any resulting benefits from them--will take
time to be fully realized.  Over 2 years elapsed before HCFA had a
contract and was ready to seek contract bids; the request for
proposals was not released until September 1998.  In its proposed
rule, which includes provisions on the MIP payment safeguard
contract, HCFA outlined its strategy to "implement the MIP
incrementally in a manner that will provide a way to test
alternatives and to transition integrity activities to MIP
contractors." HCFA announced its award of 12 contracts in May 1999. 
Time will be needed to award task orders, transition workload, and
allow contractors to perform the task order functions before an
assessment of the program can be made.  Also, HCFA does not plan to
transfer any workload from the existing contractors until it is
determined that they have successfully implemented year 2000 computer
changes. 

In preparing to issue a request for proposals (RFP) for the payment
safeguard contracts, HCFA had to grapple with several problems
similar to those it would face if given the opportunity to implement
similar, but more broadly based, contracting changes.  For example,
HCFA had to define the payment safeguard functions in enough detail
in the statement of work so that bidders could understand the
functions well enough to allow them to prepare competitive bids. 
Implementation decisions on task orders in addition to those already
released must still be made.  The RFP called for the award of one or
more contracts with

  -- uncertain delivery dates;

  -- no delineation of which functions within the program integrity
     statement of work are to be performed;

  -- the possibility of cost-based reimbursement, firm fixed-price,
     or time and materials pricing arrangements;\24 and

  -- no identification of which geographic areas will be served. 

The 12 companies that HCFA competitively awarded MIP contracts will
be eligible to bid on MIP task orders for specific work to be
performed within specified time periods under a stated reimbursement
method in a specified area.  Contractors may refuse any particular
task order.  HCFA has no obligation to issue any particular task
order and will merely be bound by its commitment to offer each
contractor a task order worth at least $50,000 during the contract
term.  While a bidder had to bid for the whole range of possible MIP
work and could not bid just for a portion of it in which it might
have special expertise, HCFA reserves the right to award any or all
of the possible MIP work for a geographic or substantive area to one
contractor. 

Even after full implementation of the MIP contracts, including the
transfer of program safeguard activities to the new MIP contractors,
HCFA must continue to manage its intermediaries and carriers.  To
control attrition among them, we believe HCFA must determine what
incentives can be offered to those whose program integrity functions
are transferred to MIP contractors.  Achieving a successful balance
between the effective implementation of the new MIP authority and
preservation of the current system of intermediaries and carriers,
which will continue to process fee-for-service Medicare claims,
answer inquiries, and conduct hearings, will be a formidable
challenge.  The MIP implementation will also give HCFA needed
experience that could be used to help implement the additional
contractor management changes it is seeking. 

--------------------
\24 Firm fixed-price contracts require a contractor to perform all
specified tasks and activities for an agreed-upon price, no matter
what the actual cost is to the contractor.  (48 C.F.R.  16.202-1.)
Time and materials pricing contracts provide for acquiring goods or
services on the basis of labor hours at a fixed hourly rate and
materials at cost.  (48 C.F.R.  16.601.)

      PAST EXPERIENCE SUGGESTS
      CAUTION WHEN ADDING
      FINANCIAL INDUCEMENTS FOR
      MEDICARE'S CLAIMS PROCESSING
      CONTRACTORS
-------------------------------------------------------- Chapter 3:2.3

Medicare law generally requires intermediary and carrier contracts to
be based on costs.  Contractors are paid for the necessary and proper
costs of carrying out Medicare activities but are not permitted to
make a profit.  HCFA pays contractors on a unit-cost basis\25 up to a
targeted amount.  If a contractor's costs exceed the target during
the contract year, the contractor can request supplemental funding. 
While not able to earn profits, contractors can benefit when Medicare
pays a share of corporate overhead.  In addition, Medicare has paid
for innovations in the program, particularly in electronic claims
technology, knowledge, and experience, which some Medicare
contractors have been able to transfer to their private businesses. 
Nevertheless, the adequacy of current contractor funding to fully
cover costs is in dispute and may be contributing to contractors
withdrawing from the program.  HCFA has offered other-than-cost-based
contracts in the past, using first its demonstration authority and
later its limited authority to use such contracts, as an inducement
to contractors, but some of these experiments have had problems. 

HCFA's contracts differ from standard government contracts in ways
that affect contractor reimbursement for specific work done.  Unlike
other federal contracts, HCFA's claims administration contracts do
not contain conventional statements of work detailing the tasks and
activities to be performed and relating those particular tasks to the
price or budget to perform them, but rather incorporate by reference
all regulations and general instructions issued by the Secretary of
Health and Human Services.\26 Such an arrangement gives HCFA
flexibility to ask contractors to add specific tasks without going
through a formal contract amendment coupled with either additional
payment or abatement of other contractually required activities. 
However, such an arrangement makes less clear the specific tasks and
activities that HCFA expects contractors to accomplish.  It has also
left HCFA with a lack of experience in pricing those claims
administration tasks and activities that may make moving beyond
cost-based reimbursement difficult. 

Contractor budgets for claims administration have been falling
relative to the volume of claims they process.  Before fiscal year
1996, contractor budgets were based on an amount per claim--up to a
target--for all claims administration activities, including program
safeguard activities.  After fiscal year 1996, program safeguards
were funded separately, but other claims administration activities
are still budgeted on a per-claim basis, up to the preset target.  In
the past two decades, the cost per claim has dropped significantly. 
Between 1975 and 1997, the amount per claim was reduced by two-thirds
without consideration of inflation over the period.  Reducing this
amount reflected HCFA's strategy to achieve program savings from
increased use of electronic claims processing.  However, our past
studies showed that program safeguards funding did not keep up with
claims volume, which left Medicare vulnerable to unnecessary program
outlays and erroneous payments.  Although separate funding for
program safeguards is now guaranteed through the MIP, contractors
continue to express concern that the payments they receive do not
fully cover their claims administration costs. 

One contractor representative summed up the dilemma of contractor
reimbursement by stating that: 

     "Some contractors have found that Medicare reimbursement of
     their operating costs is so inadequate that .  .  .  they are
     subsidizing Medicare operations.  Once a thorough analysis of
     corporate finances reveals this imbalance, a corporation must
     decide whether it can balance the books by achieving economies
     of scale or whether there is some benefit to being a Medicare
     contractor that makes it worth paying the government for the
     privilege."

The constraints on earning a profit make participation in the
Medicare program less attractive to some current contractors. 
Initially, the prestige of serving as a Medicare contractor and the
advantages of having the government pay a share of overhead costs and
being introduced to new automation technology were sufficient to
encourage companies to participate in Medicare.  Today, however, some
of these companies are refocusing their business interests on more
lucrative enterprises, such as managed care plans and physician
networks, according to the Blue Cross Blue Shield Association and
commercial insurer representatives.  When these companies consider
whether to renew their Medicare contracts, HCFA is not in a position
to offer financial incentives for their continued participation. 

Under the proposal to repeal the cost-based contract restrictions,
HCFA would be free to award contracts that would permit contractors
to earn profits.  HCFA's past experiments with financial incentives,
however, generally have not been successful and raise concerns about
the success of any immediate implementation of such authority without
further testing. 

HCFA's experiments with both competitive
fixed-price-plus-incentive-fee contracting and adding financial
incentives to cost-based contracts have had significant problems. 
Between 1977 and 1986, eight competitive fixed-price contracts,
designed to consolidate the workload of two or more small
contractors, were established on an experimental basis.  Under these
fixed-price-plus-incentive-fee contracts, contractors knew the gain
or loss to them from specific ranges of performance of certain
activities and concentrated on maximizing reimbursement, to the
detriment of other activities. 

Our 1986 report noted that three of the contracts generated
administrative savings.\27

Two of the contracts resulted in over $130 million in benefit payment
errors (both overpayments and underpayments), so that much of the
estimated $48 million to $50 million in administrative savings
attributed to the more successful experiments may have been offset by
payment error losses.  One of the contractors that appeared
successful in 1986, having the potential to achieve some
administrative savings--the Health Care Service Corporation (Blue
Cross Blue Shield of Illinois)--has since agreed to pay a $4 million
criminal fine and a $140 million civil settlement for fraudulent and
improper activities conducted between 1984 and 1997.  This contractor
pleaded guilty to eight felony counts in response to allegations that
it had failed to safeguard program dollars by paying claims with
Medicare funds that should have been paid by other insurers, paying
claims for durable medical equipment without checking for medical
necessity, and paying claims under $50 without properly screening
them. 

Beginning in 1989, HCFA provided financial incentives in several
cost-based contracts when it was given some limited authority to
award other-than-cost contracts.  Incentives were offered to a few
contractors to lower claims unit costs and to improve performance in
some safeguard activities.  HCFA found that some of the self-reported
data contractors used to claim incentive payments were inaccurate. 
In one case, the financial incentives would not have been paid had a
contractor with integrity problems not cheated by correcting errors
in about a quarter of the 60 claims that were going to be reviewed by
HCFA. 

HCFA's contracting proposals, besides giving HCFA new authorities,
would require a move to competitive contracting in some situations
and will thus likely require more initial managerial time and effort
than maintaining the current contracting arrangements.  In our 1986
report, we questioned HCFA's ability to manage a large number of
competitive contracts.  Such contracts require more resources in the
beginning of the contracting process for activities not needed for
traditional cost-based contracts, such as preparing requests for
proposals, evaluating proposals, and awarding contracts.  In
addition, competitive contracting would increase the need to
transition-in new contractors, and HCFA has found that such
transitions require additional staff time and travel funds to
accomplish successfully.  However, HCFA believes that competitive
contracting will reduce costs and increase efficiency in the long
run. 

--------------------
\25 These unit costs are based on updated historical cost data,
adjusted for the contractors' mix of claims. 

\26 Intermediary and carrier contracts list types of functions to be
performed, but these short lists of a page or two do not compare with
the complete descriptions, as found, for example, in the MIP
solicitation, which exceeds 100 pages. 

\27 Medicare:  Existing Contract Authority Can Provide for Effective
Program Administration (GAO/HRD-86-48, Apr.  22, 1986). 

   FEASIBILITY TESTING NEEDED TO
   FACILITATE TRANSITION TO NEW
   CONTRACTING ENVIRONMENT
---------------------------------------------------------- Chapter 3:3

The combination of contracting proposals sought by HCFA might enable
it to broaden its pool of eligible bidders, improve the
administration of Medicare claims, and increase options for
attracting and retaining contractors.  However, HCFA's experience in
designing the payment safeguard specialty contract suggests that
sufficient time should be allowed to test the feasibility of certain
concepts before implementing them.  Furthermore, HCFA's past
experience with other-than-cost contracting suggests that its new
approaches must be carefully thought through so that the incentives
that are built into the contracting arrangements improve, rather than
weaken, program administration. 

HCFA would need to test the practicality of separating functions that
single contractors have performed for over 30 years.  Insurance
industry representatives commenting on this issue contended that HCFA
would need to ensure coordination among the multiple companies
performing different Medicare functions, each using different
automated systems to administer a set of claims.  They noted that
some functions, like hearings and appeals, might be more conducive to
performance in isolation.  Likewise, building on past experience,
HCFA would need to test ways to offer financial incentives that would
not foster incentives to submit false data or neglect critical
functions. 

Unlike the other proposals, the repeal of provider nomination raises
few initial implementation concerns.  Allowing HCFA to award
intermediary contracts as it determines necessary for the
administration of the Medicare program might contribute to the
efficiency and effectiveness of the program.  With this change in
authority, if HCFA is faced with additional Blue contractors
unwilling to continue service to the program or unfit because of
performance or integrity problems, it could assign intermediary
workloads in whatever way makes the most sense. 

HCFA does not yet have a strategy for use of the proposed
authorities, but it has become increasingly concerned that the
diminishing pool of current contractors will not have the capacity to
meet the future needs of the Medicare program.  The experience gained
under the MIP program in functional contracting will be valuable in
devising a strategy.  If the contracts are awarded to entities
outside the current contracting pool, and a payment method other than
cost reimbursement is used, additional lessons can be learned. 
However, the delay in implementing MIP, as well as the time necessary
to conduct meaningful evaluations of this contracting approach, means
that few immediate benefits can be expected from the strategic use of
any new authority granted to HCFA. 

CONCLUSIONS, RECOMMENDATIONS, AND
AGENCY COMMENTS
============================================================ Chapter 4

   CONCLUSIONS
---------------------------------------------------------- Chapter 4:1

Medicare's fee-for-service program pays out the lion's share of
program dollars expended by HCFA.  With billions of dollars at risk,
it is a business that must be carefully monitored.  During the last 9
years, HCFA, the HHS OIG, and the Department of Justice have found
instances of contractors cooking the books to appear to meet HCFA's
requirements.  Yet HCFA conducts limited review of contractor
activities to ensure that contractors are accurately processing
claims and safeguarding Medicare dollars.  In its monitoring and
oversight of contractors, HCFA has generally accepted financial and
workload information as presented, without verifying contractors'
self-certifications that internal controls are working effectively
and without systematically validating that financial and workload
information is accurately reported.  Until HCFA starts regularly
assessing that contractor internal controls are working effectively
and that contractor performance and financial information is
accurate, it cannot be assured of contractors' integrity, that their
payments to providers are accurate, and that they are fiscally
responsible in their handling of Medicare funds. 

HCFA's current contractor evaluation process has the virtue of
allowing regions to focus on contractor weaknesses they may have
identified.  However, in our opinion, HCFA has not regularly guided
its regions in using their limited oversight resources most
effectively.  Contractor oversight could be strengthened if HCFA
balanced an appropriate level of regional discretion with sufficient
effort to (1) establish measurable contractor performance
standards--particularly in the program safeguard area, (2) set
programwide priorities for the assessment of all contractors on core
performance standards, and (3) develop a standardized report format
that will facilitate comparisons of contractor performance and the
use of trend data that will allow for longitudinal assessments of
individual contractor performance.  Setting clear standards and
priorities and measuring contractors on how well they meet the
priorities would give HCFA a clearer picture of how well contractors
are performing.  This also would help HCFA determine which
contractors should be given increased work.  In addition, giving
contractors clear and consistent direction would help meet HCFA's
priorities. 

Relatedly, HCFA has not established a mechanism for reviewing
regions' oversight for consistency and uniformity and for sharing
effective regional oversight strategies.  To do so, HCFA needs an
organizational structure for contractor oversight that will ensure
that regions are evaluated on, and held accountable for, the quality
of the oversight they provide to contractors.  HCFA headquarters
offices must also be accountable to regions for providing adequate
policy guidance and direction so that regional oversight can be
effective.  HCFA has begun to address its headquarters structure as
far as communications is concerned, but it still needs to address the
issue of regional accountability.  Headquarters should be able to
enforce minimum standards for contractor oversight and provide formal
feedback to the regions to improve their performance.  HCFA also
needs a mechanism to regularly share best practices and to ensure
that regional oversight staff adopt best practices as they review
contractors.  Finally, despite its numerous integrity reviews, HCFA
has not incorporated the information gained through them to improve
routine contractor oversight. 

Doing more consistent and thorough oversight may require HCFA to
allocate more of its resources to these activities.  But given the
HHS OIG's estimate of over $12 billion in improperly paid
fee-for-service claims and current concerns about fraud, such an
investment seems prudent. 

Because of statutory requirements and established practices, HCFA
contracts out claims administration to a shrinking pool of companies
whose private interests are increasingly competing with their
Medicare responsibilities.  HCFA is seeking legislative
remedies--including explicit authority to contract in different ways. 
But even if the Congress grants these authorities, HCFA would need
time, additional information, and experience to properly implement
them.  Eliminating provider nomination, removing the requirement to
contract only with health insurers, as well as allowing HCFA to more
freely use other-than-cost contracts would give HCFA more control
over which companies to use as contractors.  In addition, doing so
might broaden the pool of prospective contractors.  Allowing HCFA to
conduct more functional contracting might make Medicare more
efficient.  Yet HCFA's experience with the MIP and with previous
other-than-cost contracts suggests that many carefully considered
intermediate steps need to be taken before HCFA can realize the
benefits of such legislative changes.  HCFA would need to proceed
cautiously, evaluating its implementation of such changes, to be sure
that the changes would ultimately benefit the Medicare program.  For
that reason, over the long term, HCFA could benefit from a strategic
plan for routinely conducting competitive procurements and managing
claims administration contractors.  This plan could be used as a
guide on the path from HCFA's current contracting mode to a new one. 
HCFA could design this plan to help it determine (1) which contractor
activities are most conducive to functional contracting, (2) which
activities could be performed by other than health payers, (3) better
cost information to facilitate the move to competitive contracting,
(4) the functional contracts that might be conducive to
other-than-cost payments, and (5) the feasibility of building
financial incentives into the contracts. 

Legislative change will not solve HCFA's oversight problems.  Even if
the Congress grants HCFA the contracting changes it is seeking, the
agency will still have to make sure that it addresses the weaknesses
associated with its management and oversight of the contractors. 
Also, if it is authorized to contract in new ways, it will have to
customize its oversight to each new type of contract it awards. 

   MATTERS FOR CONSIDERATION BY
   THE CONGRESS
---------------------------------------------------------- Chapter 4:2

The Congress may want to consider giving HCFA explicit authority to
award functional contracts for selected claims administration
activities to any appropriate type of company and to offer
other-than-cost contracts, both at the discretion of the Secretary of
Health and Human Services.  Also, in view of the possible advantages
for managing the Medicare program, the Congress may wish to consider
amending the Social Security Act to repeal provider nomination and to
allow the Secretary to choose the companies with which HCFA will
contract. 

If the Congress decides to grant HCFA any of the additional
contracting authorities it is seeking, the Congress should consider
requiring HCFA to report on its implementation of this new authority
with an independent evaluation to ensure that these administrative
changes improve the efficiency and effectiveness of Medicare program
operations. 

   RECOMMENDATIONS TO THE
   ADMINISTRATOR, HEALTH CARE
   FINANCING ADMINISTRATION
---------------------------------------------------------- Chapter 4:3

To improve oversight of Medicare's claims administration contractors,
we recommend that the HCFA Administrator take the following actions: 

1.  Establish a contractor management policy that requires

  -- verification that each contractor has the internal controls
     necessary to ensure the adequacy of its operations, starting
     with the controls most critical for ensuring the financial
     integrity of the Medicare program; and where controls are weak
     or lacking, require contractors to strengthen or establish them;
     and

  -- systematic validation of statistically significant samples of
     essential contractor-reported data. 

2.  Improve annual assessments of contractors by

  -- developing a comprehensive set of clearly defined and measurable
     performance standards, including measures to test how
     effectively contractors are safeguarding program dollars; these
     standards should include collecting comparable baseline data on
     each contractor's claims administration and related activities;

  -- assessing all contractors regularly on core performance
     standards and reviewing any other activities identified through
     the risk assessment at individual contractors; and

  -- developing a performance report annually for each contractor
     that includes contractor performance on the core standards and
     other HCFA-assessed standards, using a uniform format that
     permits comparisons across contractors as well as longitudinal
     assessments of individual contractors. 

3.  Designate a HCFA unit to be responsible for

  -- evaluating the effectiveness of contractor oversight policy and
     procedural direction provided by headquarters staff to regional
     offices' staff,

  -- evaluating regional office performance in conducting contractor
     oversight activities based on those policies and procedures, and

  -- enforcing minimum standards for the conduct of oversight
     activities. 

4.  Ensure that all HCFA staff responsible for contractor oversight
learn about contractor problems and best practices and that
contractor review staff adopt best oversight practices. 

5.  Develop a strategic plan for managing Medicare's claims
administration contractors that would include how HCFA intends to use
the new authorities it is seeking, the information it will gain by
evaluating its current efforts to contract for program safeguard
activities, and the results of previous fixed-price and incentive
contracting experiments.  To do this, HCFA should

  -- assess the feasibility of contracting for specific
     functions--that is, contracting separately for activities such
     as hearings and appeals, inquiries and complaints, and printing
     and mailing;

  -- determine which functional contracts could be performed by
     entities other than health care payers;

  -- determine the cost of each of the various contractor functions
     now performed by intermediaries and carriers;

  -- determine which functional contracts would be conducive to the
     use of other-than-cost contracts; and

  -- assess the feasibility of building in financial incentives for
     exceeding performance standards or for developing innovative
     practices that improve claims administration and can be
     replicated by other contractors. 

   AGENCY COMMENTS AND OUR
   EVALUATION
---------------------------------------------------------- Chapter 4:4

In written comments on a draft of this report, HCFA agreed with each
of our recommendations.  Appendix I contains HCFA's general as well
as specific comments on each recommendation and its plan for
implementing each one.  HCFA also provided technical comments, which
we incorporated in the report as appropriate.  In addition, HCFA
listed several other activities that it believes will help to improve
and strengthen its contractor management and oversight.  Overall, we
believe that HCFA has outlined a series of activities to respond to
our recommendations that--if properly designed and carried
out--should go a long way toward improving its management and
oversight of the contractors that engage in claims administration
activities for the Medicare program. 

With regard to verification of internal controls and
contractor-reported data, HCFA said that it is hiring an independent
public accounting firm to develop standard review procedures and
methodologies for the evaluation of documentation supporting the
annual certification of internal controls.  This firm will prepare
individual contractor review reports and recommend improvements in
the internal control certification and evaluation processes.  On the
basis of the result of the firm's internal control reviews, HCFA said
it will also consider using accounting firms to conduct even more
in-depth internal control audits.  HCFA said it will develop a
protocol for validating contractor-reported performance data in
fiscal year 2000, which will serve as the basis for data validation
reviews beginning in fiscal year 2001. 

For our recommendation to improve annual contractor assessments, HCFA
lists a number of steps it will take during its fiscal year 1999
assessment cycle.  These include establishing core evaluation areas,
promoting greater consistency through the use of standardized
protocols and national review teams for on-site reviews, and using
accounting firms to evaluate the quality of the contractors' provider
audits.  Concerning performance standards, HCFA said that it will
emphasize the development of outcome measures, including development
of a contractor-specific claims error rate, assessing the
effectiveness of contractor education and outreach activities to
reduce provider billing errors, and developing a contractor-specific
"fraud rate." To assist in these measurement efforts, HCFA is
developing a new management reporting system that will use data
derived directly from contractor claims processing systems rather
than relying on contractor-reported data. 

HCFA said that it will assign responsibility for evaluating the
effectiveness of regional office oversight to its newly reorganized
contractor management group in headquarters, will take steps to share
best practices, and will develop a business strategy for contractor
management that will include plans for implementation of any new
contracting authority. 

(See figure in printed edition.)Appendix I
COMMENTS FROM THE HEALTH CARE
FINANCING ADMINISTRATION
============================================================ Chapter 4

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GAO CONTACTS AND STAFF
ACKNOWLEDGMENTS
========================================================== Appendix II

GAO CONTACTS

Leslie G.  Aronovitz, (312) 220-7600
Sheila K.  Avruch, (202) 512-7277

STAFF ACKNOWLEDGMENTS

In addition to those named above, Barrett Bader, Lisanne Bradley,
Hannah Fein, Don Kittler, Bob Lappi, and Don Walthall made key
contributions to this report. 

RELATED GAO PRODUCTS
=========================================================== Appendix 1

Medicare:  Improprieties by Contractors Compromised Medicare Program
Integrity (GAO/OSI-99-7, July 14, 1999). 

HCFA Management:  Agency Faces Multiple Challenges in Managing Its
Transition to the 21st Century (GAO/T-HEHS-99-58, Feb.  11, 1999). 

Medicare Computer Systems:  Year 2000 Challenges Put Benefits and
Services in Jeopardy (GAO/AIMD-98-284, Sept.  28, 1998). 

Medicare:  HCFA's Use of Anti-Fraud-and-Abuse Funding and Authorities
(GAO/HEHS-98-160, June 1, 1998). 

Medicare:  Control Over Fraud and Abuse Remains Elusive
(GAO/T-HEHS-97-165, June 26, 1997). 

High-Risk Series:  Medicare (GAO/HR-97-10, Feb.  1997). 

Medicare:  HCFA's Contracting Authority for Processing Medicare
Claims (GAO/HEHS-94-171, Aug.  2, 1994). 

Medicare:  Inadequate Review of Claims Payments Limits Ability to
Control Spending (GAO/HEHS-94-42, Apr.  28, 1994). 

Blue Cross and Blue Shield:  Experiences of Weak Plans Underscore the
Role of Effective State Oversight (GAO/HEHS-94-71, Apr.  13, 1994). 

Medicare Secondary Payer Program:  Identifying Beneficiaries With
Other Insurance Coverage Is Difficult (GAO/T-HRD-93-13, Apr.  2,
1993). 

Medicare:  Contractor Oversight and Funding Need Improvement
(GAO/T-HRD-92-32, May 21, 1992). 

Medicare:  Existing Contract Authority Can Provide for Effective
Program Administration (GAO/HRD-86-48, Apr.  22, 1986). 

Experiments Have Not Demonstrated Success of Competitive Fixed-Price
Contracting in Medicare (GAO/HRD-82-17, Dec.  1, 1981). 

More Can Be Done to Achieve Greater Efficiency in Contracting for
Medicare Claims Processing (GAO/HRD-79-76, June 29, 1979). 

*** End of document. ***