Finalized Rule: Tough Love for Medicaid MCOs?

Kaitlin Lavin
Executive Editor
Loyola University Chicago School of Law, JD 2017


Last May, the Centers for Medicare and Medicaid Services (CMS) issued a final rule for Medicaid managed care, which told states to stop making pass-through payments to healthcare providers. Pass-through payments have played a critical role in funding safety net hospitals which serve a significant number of Medicaid beneficiaries.

Increasing Financial & Competitive Pressures for Safety Net Hospitals

In the early 90s, states began contracting with private managed care organizations (MCO) to provide comprehensive services to Medicaid beneficiaries.  State Medicaid programs reimburse managed care plans with capitated payments, which are fixed, prospective monthly payments for each beneficiary. To avoid disrupting financial support for healthcare providers during the transition from a fee-for-service payment model to value-based care, CMS permitted states to issue pass-through payments, or supplemental payments to help safety net hospital gradually implement changes to adjust to the new type of reimbursement.  Safety net hospitals provide care to many low-income and uninsured populations that are more vulnerable. As a result, they have historically relied on Medicaid revenue and Medicaid Disproportionate Share Hospital (DSH) payments for hospitals that served a disproportionate share of Medicaid beneficiaries. Safety net hospitals began struggling financially after the economic recession which left many people without jobs and coverage. There has also been concern over how the Affordable Care Act (ACA) would affect safety net hospitals. Safety net hospitals knew that the Medicaid expansion under the ACA might present an opportunity to gain more patients. However, safety net hospitals are often perceived as providers of last resort, and patients with better healthcare coverage may choose to leave safety net hospitals and search for better providers. Further, the ACA began reducing DSH payments in 2014, based on the assumption that more people would be insured under the ACA and there would be less of a need for DSH payments. Safety net hospitals used to rely on DSH payments to help pay for charity care. The Medicaid managed care rule that confirmed reductions, and eventually elimination of pass-through payments, is likely to impose even greater financial pressure on safety net hospitals.

After the rule was proposed, the American Hospitals Association and providers urged CMS to withdraw the regulation. States have been using pass-through payments to assist safety net hospitals and needy providers to achieve state goals. CMS told states to stop making pass-through payments, but that the payments could be phased out over ten years for hospitals and five years for physicians or nursing facilities. In response to outcry from providers and questions about whether new state contracts could include pass-through agreements, CMS finalized a new rule which limits increased or additional pass-through payment programs after the regulations took effect on July 5, 2016. Moreover, under the new rule, states will only be allowed to continue pass-through payments during the specified transition period if they submitted managed care contracts to CMS by July 5th.

Pass-Through Payment Definition & Underlying Principles for New Prohibition

Pass-through payments are added on to the base capitation rate for Medicaid managed care organizations and the managed care plans are required to pass through the supplemental payments to designated contracted providers. CMS has defined them as any add-on payments between managed care plans and providers that is not for one of the following purposes:

  • A specific service or benefit provided to a specific enrollee covered under the contract;
  • Permissible provider payment methodologies outlined in 42 C.F.R. § 438.46(c)(1);
  • A sub-capitated payment arrangement for a specific set of services and enrollees covered under the contract;
  • Graduate medical education (GME) payments; or
  • Federally qualified health center (FQHC) or rural health center (RHC) wraparound payments.

CMS further defined pass-through payments as any amount required by the state to be added to the base capitation rate and considered in calculating the “actuarially sound” capitation rate. CMS has said that, “[t]he underlying concept of managed care and actuarial soundness is that the state is transferring the risk of providing services to the MCO and is paying the MCO an amount that is reasonable, appropriate, and attainable comparable to the costs associated with providing the services in a free market.” Despite receiving several comments suggesting that the new rule would disincentivize managed care and lead to financial hardship for safety net hospitals, CMS still does not believe that § 1903(m)(2)(A)(ii) of the Social Security Act permits pass-through payments because “they are not directly related to the delivery of services under the contract, because it requires actuarially sound payments for the provision of services and associated administrative obligations under the managed care contract.” Additionally, CMS expressed concern that MCOs have not been providing rationales for pass-through payments in developing capitation rates. The U.S. Government Accountability Office (GAO) has repeatedly recommended increased oversight of supplemental payments because they are not linked to specific services so it is difficult to know how the money is being distributed or used. There has not been a standard process to determine if supplemental payments are being spent appropriately.

The new rules regarding pass-through payments suggest that CMS wants states and MCOs to take more responsibility for spending and allocating resources appropriately. CMS also expressed concern that pass-through payments might limit a plan’s ability to effectively use value-based purchasing strategies and implement quality initiatives. It would be easier to negotiate with better quality providers for contracts focused on patient outcomes by calculating capitation rates based just on payment for performance.

Compliance & Monitoring Pass-Through Payments

The GAO warned CMS that the lack of transparency around pass-through payments can result in Medicaid fraud because CMS did not know how safety net hospitals and physicians have been using these additional payments. In July of 2016, CMS submitted an Informational Bulletin which gave notice to states that CMS will start closely monitoring pass-through payments during the contract and rate certification approval process. CMS informed states that it would begin requesting more detailed information including:

  • A description of the pass-through payment;
  • The amount of the pass-through payments, both in total and on a per member per month basis;
  • The network providers receiving the pass-through payments;
  • The financing mechanism for the pass-through payment; and
  • The amount of pass-through payments made to providers in previous years.

States will need to keep the rules regarding pass-through payments in mind when contracting with Medicaid MCOs.  Additionally, healthcare providers may want to work with their compliance programs to modify billing practices. Compliance officers should help make sure that employees have up-to-date training on proper billing, and they may want to consider auditing claims that may have been submitted for pass-through payments to ensure that those payments were used appropriately.