Order Code RL32640
CRS Report for Congress
Received through the CRS Web
Medicare Payment Issues Affecting
Inpatient Rehabilitation Facilities (IRFs)
Updated December 23, 2004
Sibyl Tilson
Specialist in Social Legislation
Domestic Social Policy Division
Congressional Research Service ˜ The Library of Congress

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Medicare Payment Issues Affecting
Inpatient Rehabilitation Facilities (IRFs)
Summary
Medicare spending on post-acute care, either those services provided in a facility
after an acute hospitalization or home health services provided to eligible
beneficiaries in the community, has elicited increasing attention as program spending
on these services has grown. Beneficiaries can receive post-acute care in multiple
settings, which introduces concerns with respect to identifying the most appropriate,
cost-effective setting to provide necessary care. Recent implementation of
prospective payment systems for the different settings has amplified concerns that
post-acute providers are making decisions about beneficiaries’ rehabilitative care in
response to financial incentives rather than deciding on the basis of which setting is
the most appropriate for the care needs of the patient.
Inpatient rehabilitation facilities (IRFs) are one post-acute provider participating
in Medicare. IRFs are either freestanding hospitals or distinct part units of a hospital
that are exempt from Medicare’s payment system used to pay short-term general
hospitals. The majority of the IRFs that participate in Medicare are distinct parts of
other hospitals. In 2003, Medicare program payments to IRFs are estimated at $5
billion. Medicare is the largest single payer for inpatient rehabilitation services.
Starting in 2002, Medicare began implementing a prospective payment system
specifically for IRFs (IRF-PPS). Much of this report describes the new payment
system, its adjustments, and a FY2005 payment calculation.
Recent administrative actions by the Centers for Medicare and Medicaid
Services (CMS) to enforce the newly constituted “75% rule” have been causing
certain amount of consternation among the provider community. The “75% rule”
specifies criteria, including qualifying medical conditions and compliance thresholds
(the percentage of patients treated that have those conditions), that a facility must
meet in order to be paid as an IRF and not as a lower-paid general hospital. Local
coverage determinations (LCDs) are policies established by Medicare contractors that
clarify the existing national standards regarding IRF services that will be covered by
Medicare in their area. The magnitude of Medicare’s spending on post-acute care as
well as the variety of post-acute providers underscores the importance of developing
policies that ensure beneficiaries receive the appropriate level of care and service
intensity. Policymakers remain concerned that payment incentives in the Medicare
program may influence the type of post-acute care provided and unnecessarily
increase program spending.
Over objections from the Administration, both the House and the Senate
versions of the FY2005 Labor, Health and Human Services, and Education and
Related Agencies appropriations bills included different provisions that would delay
enforcement of the IRF compliance thresholds. The House version of the
enforcement delay was included in the Consolidated Omnibus Appropriations Act
for 2005 (P.L. 108-447) which was signed on December 8, 2004. Generally,
enforcement for most IRFs would be delayed until 60 days after an already mandated
study by the Government Accountability Office (GAO) is published. This CRS
report will be updated as events warrant.

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Contents
Recent Developments . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1
Enforcement of the Newly Constituted “75% Rule” . . . . . . . . . . . . . . . . . . . 1
Use of Local Coverage Determinations (LCDs) by Medicare Contractors . . 4
Proposed Delay in Enforcement of the New 75% Rule and
Implementation of LCDs
. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 6
Background on IRFs . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 8
Overview of Rehabilitation Services and Post-Acute Care . . . . . . . . . . . . . . 8
Medicare’s Conditions of Participation for IRFs . . . . . . . . . . . . . . . . . . . . . 12
Effect of Medicare’s Prior Payment System for IRFs . . . . . . . . . . . . . . . . . 13
IRF Prospective Payment System Issues . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 14
Legislative Overview
. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 14
Description of IRF PPS and Payment Adjustments . . . . . . . . . . . . . . . . . . . 15
FY2005 IRF Payment Calculation . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 17
Concluding Observations . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 20
List of Tables
Table 1. Example of IRF-PPS Payment Calculation for CMG 0112
(For Certain Stroke Patients Without Comorbidities) Including
Facility Level Adjustments, for FY2005 . . . . . . . . . . . . . . . . . . . . . . . . . . . 19

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Medicare Payment Issues Affecting
Inpatient Rehabilitation Facilities (IRFs)
Inpatient rehabilitation facilities (IRFs) are either freestanding hospitals or
distinct part units of another hospital that are exempt from Medicare’s payment
system used to pay short-term general hospitals (also called acute hospitals). The
majority of the IRFs that participate in Medicare are distinct parts of other hospitals;
in 2002, 936 of the 1,152 (or 81%) Medicare participating IRFs were distinct part
units. In 2003, Medicare program payments to IRFs are estimated at $5 billion;
Medicare is the largest single payer for inpatient rehabilitation services. Starting in
2002, Medicare began implementing a prospective payment system specifically for
IRFs (IRF-PPS). This report will discuss recent developments affecting the IRF-PPS
and then will turn to an examination of other issues affecting Medicare’s payment of
these providers.
Recent Developments
Recent administrative actions by the Centers for Medicare and Medicaid
Services (CMS) with respect to two longstanding policy issues have been causing a
certain amount of consternation among the provider community and have prompted
congressional action within the appropriations process for Health and Human
Services. Despite objections from the Bush Administration, both H.R. 5006 and S.
2810, the House-passed and Senate committee versions of the FY2005 Labor, Health
and Human Services, and Education and Related Agencies (Labor-HHS)
Appropriations bills, included different provisions that would delay enforcement of
the IRF compliance thresholds. The House version of the enforcement delay was
included in the appropriations bill that was signed into law.
Enforcement of the Newly Constituted “75% Rule”
The Medicare statute gives the Secretary of HHS discretion to establish the
criteria that facilities must meet in order to be exempt from the inpatient prospective
payment system (IPPS) used to pay acute hospitals. Accordingly, the Secretary
established in regulation that an IRF must demonstrate that at least 75% of its
inpatients (all inpatients, not just Medicare beneficiaries) were treated for one or
more specified conditions during its most recently completed 12-month cost
reporting period. By January 1984, the 10 qualifying conditions were established as:
(1) stroke; (2) spinal cord injury; (3) congenital deformity; (4) amputations; (5) major
multiple trauma; (6) fracture of the femur (hip fracture); (7) brain injury; (8)
polyarthritis (including rheumatoid arthritis); (9) neurological disorders (including
multiple sclerosis, motor neuron diseases, polyneuropathy, muscular dystrophy, and

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Parkinson’s disease); and (10) burns.1 The regulations established that when a
facility does not meet the 75% rule (and certain other conditions of participation
discussed later), it is no longer paid as an IRF, but will be paid as an short-term,
general hospital under IPPS. As described later in the report, starting January 1,
2002, Medicare changed the payment system for IRFs, from cost-based to
prospective payments, but did not change the qualification criteria for IRFs. In June
2002, CMS instructed its Medicare contractors (in this case, fiscal intermediaries, or
FIs) to defer enforcement of the 75% rule due to concerns that the regulations had not
been consistently applied among the different contractors. The contractors were
directed to continue their verification activities for existing IRFs, but not change any
facility’s status until a systematic assessment of the different review procedures was
completed and further guidance was issued.2
In addition to this review of FI administrative procedures, CMS analyzed IRF
claims data from the first eight months of 2002 (submitted under the new payment
system) to estimate the overall compliance with the existing 75% rule.3 Subject to
certain caveats, CMS estimated that only 13.35% of the 1,170 IRFs would meet the
75% threshold; the percentage in compliance would increase to 25.17% if the
threshold was lowered to 65%.4 The percentage of IRFs in compliance varied
significantly by region and by certain facility characteristics.5 CMS indicated that
patients with lower extremity joint replacements, specifically knee and hip
1 Eight of these conditions were originally adopted in the Sept. 1, 1983 interim final rule.
The list was supplemented with two additional conditions in the Jan. 3, 1984 final
regulation; suggestions that chronic pain, pulmonary disorders, and cardiac disorders be
included were not accepted.
2 The temporary suspension did not appear to increase the number of nonqualifying patients
treated by IRFs. From 1996 to 2002, there has been a steady, substantial downward trend
in the percent of Medicare cases counted in one of the ten conditions. However, the decline
was steeper from 1996 to 1999 than from 1999 to 2002. In 1996, 59.4% of the cases were
in the qualifying conditions; this percentage fell to 53% in 1999 and 50.9% in 2002. Grace
Carter, Orla Hayden, Susan Paddock, and Barbara Wynn, Case Mix Certification Rule for
Inpatient Rehabilitation Facilities, Draft Report (DRU-2981-CMS), Rand Health, May
2003, pp. 13-15. (Hereafter cited as Carter et al., Case Mix Certification.)
3 68 Federal Register 26791, May 16, 2003.
4 Diagnosis data from administrative data sets were used to estimate compliance
percentages. In many case, the diagnosis indicated that rehabilitation procedures were used,
not the specific condition. CMS indicated that compliance estimates would have likely been
higher if more detailed information from the medical record had been available. Carter et
al., Case Mix Certification, p. 10.
5 For instance, almost half of the 121 IRFs in the Pacific region were estimated to be in
compliance with the 75% rule and only 1.5% of the 66 IRFs in the East South Central region
were judged to meet that standard. Interestingly, the compliance rate was three times higher
in the IRF units (15.4%) than in the freestanding hospitals (4.7%). The compliance rate in
the 135 government-run IRFs (18.5%) and the 700 nonprofit IRFs (15.3) was more than
three times that in the 259 proprietary IRFs (5%). 68 Federal Register 26792, May 16,
2003.

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replacements, are the largest group treated by IRFs that do not count toward
compliance with the 75% rule.6
CMS published proposed regulations to change the classification criteria for
IRFs in the September 9, 2003 Federal Register. Under this proposal, absent further
regulatory actions, the compliance threshold would be lowered to 65% until January
1, 2007 (when it would revert to its original 75% standard). Also, among other
changes, CMS proposed to replace the condition of polyarthritis with three other
arthritis-related conditions.7 CMS proposed two alternatives where patients whose
secondary medical conditions included the 12 conditions would also count toward
the compliance threshold until January 1, 2007.8 One alternative was limited to
counting these secondary conditions only for patients with joint replacements; the
other would count secondary conditions for any admission. CMS declined to add
cancer, cardiac, pulmonary, and pain conditions as qualifying criteria, in part because
of a lack of studies that demonstrate an improvement in patients’ outcomes when
cared for in IRFs as compared to other settings.
CMS issued the final rule on May 7, 2004; it became effective July 1, 2004. In
the final rule, CMS replaced polyarthritis with four arthritis-related conditions for a
total of 13 qualifying conditions. Specifically, a patient with severe or advanced
osteoarthritis involving two or more major joints (not including a joint that has been
replaced) will count toward a facility’s compliance threshold. Also, certain
beneficiaries with bilateral joint replacements who are extremely obese or 85 years
and older will count toward a facility’s compliance. CMS adopted its more
expansive proposal to consider secondary conditions for all patients (not just those
who have had joint replacements). This provision expires for cost-reporting periods
on or after July 1, 2007. CMS adopted a three-year transition period for the
compliance threshold as follows: at 50% from July 1, 2004 and before July 1, 2005;
at 60% from July 1, 2005 and before July 1, 2006; at 65 % from July 1, 2006 and
before July 1, 2007; and at 75% from July 1, 2007 and thereafter. During this three-
year period, CMS expects to convene a technical research panel with the assistance
of the National Institutes of Health to examine which are the most appropriate
clinical conditions for care in an IRF. In the impact analysis for the regulation, CMS
expected to save $400,000 in program payments in FY2004, $10 million in FY2005;
$90 million in FY2007 and $190 million in FY2008.9
6 According to the May 2003 proposed rule, nationally, less than 25% of Medicare
beneficiaries with joint replacements are admitted to IRFs after surgery.
7 The detailed description indicates that three or more major joints would need to be
significantly affected; these conditions should not have improved after an appropriate,
aggressive, sustained course of outpatient therapy preceding the admission. Also, a joint
replaced by a prosthesis is considered to no longer have arthritis even though that condition
was the reason for the joint replacement.
8 The secondary condition (or comorbidity) must cause a significant decline in the patient’s
functioning that, even in the absence of the admitting condition, the patient would require
intensive treatment unique to an IRF, rather than in another setting.
9 69 Federal Register 25769, May 7, 2004.

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On June 25, 2004, CMS issued instructions on verification procedures that
Medicare contractors should use to ensure that IRFs meet Medicare’s new
classification requirements.10 Generally, the contractor will use the IRF’s patient
assessment instrument (IRF-PAI) data from the most recent, consecutive, and
appropriate 12-month time period starting July 1, 2004 to verify compliance.11 The
manual instruction includes lists of diagnoses and impairment group codes that will
be used to determine compliance with the specified conditions. The contractor (and
the regional office) have the discretion to instruct the IRF to submit specific sections
of medical records of a random sample of inpatients (or any selection of inpatients).
Other procedures for verifying compliance with the established threshold may apply
to IRFs that have Medicare admissions that constitute less than 50% of its total
inpatient population or those whose Medicare admissions are not determined to be
representative of the patient population served by the IRF.12
The changes to the proposed regulation adopted by CMS in the final rule
including the three-year transition to the 75% threshold did not satisfy industry
advocates. Although pleased by the lowering of the compliance standards, the
temporary relief is not seen as addressing overriding concerns with the regulation,
particularly the need to modernize the compliance standards. In the long run, they
perceive that facilities will be compelled to revise admission policies which will
result in large scale denial of access to IRF care.13 Also, industry advocates have
raised concerns with respect to the implementing instructions issued to the Medicare
contractors by CMS. Among other issues, the standard for providing appropriate,
aggressive and sustained therapy in another less intensive setting prior to an IRF
admission is seen as burdensome for providers and costly to beneficiaries. Other
objections about the recordkeeping and documentation requirements have been
expressed as well.14
Use of Local Coverage Determinations (LCDs) by Medicare
Contractors
Medicare contractors are required to ensure that payment is made only for those
services that are reasonable and necessary. The medical review process is conducted
10 CMS Pub. 100-04, Medicare Claims Processing, Transmittal 221, Change Request 3332,
June 25, 2004, at [http://www.cms.hhs.gov/manuals/pm_trans/R221CP.pdf].
11 The contractor will use less than 12 months’ worth of data for certain compliance reviews
starting before July 1, 2005.
12 Generally, CMS presumes that if an IRF’s Medicare population meets the compliance
threshold, then the facility’s total population will satisfy this standard, particularly when the
IRF’s Medicare population represents at least a majority of its patients.
13 Statement of the American Medical Rehabilitation Providers Association, Apr. 30, 2004,
accessed on Oct. 7, 2004, at [http://www.amrpa.org/75statement.htm].
14 Letter from the American Medical Rehabilitation Providers Association (AMRPA) to
Mark McClellan, Administrator of CMS, on CMS Program Transmittal no. 221 for Inpatient
Rehabilitation, July 29, 2004.

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according to both national and local coverage policies.15 In the absence of national
policy, Medicare contractors can establish individual coverage policies, now known
as local coverage determinations, which clarify the existing national standards with
respect to Medicare covered services.16 Contractors develop local policies by
considering medical literature, the advice of local medical societies, and public
comments. The policy only applies to the geographic area served by the contractor.
CMS strongly encourages multi-state contractors to develop uniform policies across
all of their jurisdictions. Generally, Medicare’s IRF medical necessity standards for
inpatient hospital services are included in the Medicare Benefit Policy manual.17 The
standards are based on criteria finalized in 1980 by the American Academy of
Physical Medicine and Rehabilitation and the American Congress of Rehabilitation
Medicine.
In November 2002, the Office of the Inspector General reported that PPS-
exempt hospital inpatient services had not been routinely reviewed for medical
necessity since 1995. Although Quality Improvement Organizations (QIOs, formerly
peer review organizations, or PROs), FIs, and Medicare Integrity Program contractors
all had the authority to conduct medical review in hospitals, none were conducting
routine reviews prior to February 2002. At that point, CMS issued a program
memorandum to notify FIs that they may include PPS-exempt hospitals in their
reviews; no additional funding was provided for their expanded review responsibility,
however.18
Since then, various Medicare contractors have proposed draft local coverage
determinations. Of particular concern to the industry are draft proposals that would
use diagnosis-specific guidelines as initial screens to determine the appropriateness
of IRF admission and treatment. These screens are viewed as restricting the ability
of the referring and receiving rehabilitation physician to make case-by-case
determinations on the need for inpatient rehabilitation care for each patient.19
Instead, providers are encouraging contractors to use broader, more flexible criteria
to determine medical necessity. Industry advocates prefer policy proposals that do
not use diagnosis-specific parameters for care, but instead cite the need for 24-hour
specialized nursing care and physician availability, which are the screening standards
15 For more information, see CRS Report RL31711, Medicare: Coverage Policy, by Jennifer
O’Sullivan.
16 Effective Dec. 2003, Medicare contractors began issuing local coverage determinations
(LCD) instead of local medical review policies (LMRP). Generally, both policies support
decisions by contractors as to whether a particular service will be covered. A LCD consists
of only reasonable and necessary information while a LMRP may also contain statutory
exclusions. All existing LMRPs will be either retired or converted into LCDs no later than
Dec. 2005.
17 Chapter 1, Section 110 of the manual, covering inpatient rehabilitation services, can be
found at [http://www.cms.hhs.gov/manuals/102_policy/bp102c01.pdf].
18 Office of the Inspector General, Oversight of Medicare PPS-Exempt Hospital Services,
OEI-12-02-00170, Nov. 2002.
19 Comment letter from the American Hospital Association (AHA) to the Medical Director
of Palmetto GBA, May 3, 2004, p. 2.

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included in the Medicare Benefit Policy Manual. Industry advocates object that all
proposed LCDs inappropriately establish a new condition of coverage for IRF care
by including a requirement that the services could not be provided in a less intensive
setting.20 Skilled nursing facilities (SNFs) and their advocates, however, argue that
certain IRF cases could be appropriately treated in less intensive settings.
Proposed Delay in Enforcement of the New 75% Rule and
Implementation of LCDs
On July 14, 2004, the House Appropriations Committee approved an
amendment to the FY2005 Labor, HHS and Education appropriation bill that would
have prohibited any CMS funds from being used to implement the final rule
establishing the new IRF classification criteria. The amendment would also prevent
Medicare contractors from using any existing or new local medical review policies,
local coverage determinations, or national coverage determinations establishing
medical necessity standards for IRFs. The amendment directed the Secretary to
contract with the Institute of Medicine (IOM) to study and make recommendations
on the IRF classification requirements and appropriate medical necessity standards.
The required report would have been due to Congress no later than October 1, 2005.
Nine months after the report’s submission, the prohibition on spending to enforce
the final rule and medical necessity standards would lapse. The increased program
expenditures associated with this amendment were offset by a $9 million reduction
in CMS’s appropriation for program administration.
According to industry press, provider advocates were concerned that the
Chairman of the House Ways and Means Committee, Representative Thomas, would
try to block the amendment by asking the House Rules Committee (which
determines the procedures by which the House will consider specific legislation) to
exempt the amendment from point-of-order protection so it could be challenged
during the floor debate.21 Instead, the IRF provision in the bill (H.R. 5006) that was
approved in the House on September 8, 2004 was modified. It forbade HHS from
spending money to enforce the revised 75% rule for IRFs certified on or before June
30, 2004 (the day before the regulations became effective) until a Government
Accountability Office (GAO) report is published. GAO had been directed by the
managers’ statement accompanying the conference report for the Medicare
Prescription Drug, Improvement and Modernization Act of 2003 (MMA) to issue a
report, in consultation with experts in the field of physical medicine and
rehabilitation, that looks at whether the current list of conditions represents a
clinically appropriate standard for defining IRF services. MMA required the
Secretary either to determine that the new 75% rule is not inconsistent with GAO’s
20 Analysis of Medicare Fiscal Intermediaries’ Use of the “Less Intensive Setting” Concept
in Local Coverage Determinations for Inpatient Rehabilitation, to CMS from AMRPA Joint
Coalition written by Powers, Pyles, Sutter, and Verville PC, Attorneys at Law, Sept. 20,
2004.
21 The Rules Committee’s procedures permit any committee chairman the right to request
that certain provisions of a bill be removed if those provisions pertain to issues that are
within the jurisdiction of the chairman’s committee. “Rehab Industry Urges Thomas Not
to Block Moratorium on 75 Percent Rule,” Inside CMS, July 29, 2004.

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recommendations or to promulgate a regulation providing for new criteria no later
than 60 days after receiving this GAO report.
The increased program expenditures associated with this amended
appropriations provision was offset by a $12.5 million reduction in CMS’s funding
for program administration. In adopting this provision, the House disregarded
guidance from the Administration, which indicated that a delay in enforcing the rule
would result in inappropriate payments to hospitals that are not based on current
clinical practices. The Administration’s statement attributed savings of $10 million
in 2005 and $1.8 billion over 2005 to 2014 to timely enforcement of the regulation.22
On September 15, 2004, the Senate Appropriations Committee included a
provision in its Labor-HHS bill (S. 2810) that would have prohibited funds from
being spent by HHS or any Medicare contractor to apply the IRF compliance criteria
(the 75% rule) established in the Federal Register on May 7, 2004. The Committee
directed HHS to contract with IOM to study and make recommendations based on
the clinical consensus on how to modernize these criteria; the report is due no later
than October 1, 2005. Under the HHS contract, IOM was expected to use a
multidisciplinary panel of expert researchers and clinicians in the field of medical
rehabilitation. According to industry press, nursing home advocates urged the Senate
not to approve this moratorium on the 75% rule, in part because the delay would
continue perceived overpayments to IRF’s for care that skilled nursing facilities
(SNFs) can provide at half the cost.23
The Labor-HHS bill was included in the Consolidated Omnibus Appropriations
Act, 2005 (Division F, H.R. 4818, H.Rept. 108-792), which was approved by the
House and the Senate on November 20, 2004. After subsequent congressional
actions to remove a provision related to congressional access to individuals’ tax
return information, the omnibus appropriations act was signed on December 8, 2004
as P.L. 108-447. The legislation contains language comparable to the House passed
enforcement delay of the 75% rule. Specifically, HHS cannot spend money to
enforce the revised 75% rule for IRFs certified on or before June 30, 2004 until a
previously mandated GAO report is published. No later than 60 days after receiving
this GAO report, the Secretary is required either to determine that the new 75% rule
is not inconsistent with GAO’s recommendations or to promulgate a regulation
providing for new criteria. The legislation does not include $12.5 million to offset
the increased program expenditures attributed to the delay.24
22 Statement of Administration Policy, H.R. 5006, Labor, Health and Human Services, and
Education, and Related Agencies Appropriations Bill, FY2005, Sept. 8, 2004, pp. 3-4.
23 “Senate Appropriators Call for One-Year Delay of 75 Percent Rule,” Inside CMS, Sept.
23, 2004.
24 Section 219 can be found on page H10325 of the Congressional Record, November 19,
2004. The discussion of the omission of the $12.5 million offset can be found on page
H10659

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Background on IRFs
The following section will provide a general overview of rehabilitation services
and post-acute care that may be provided by various Medicare entities. Medicare
beneficiaries can receive post-acute care from different types of providers in both
inpatient and outpatient settings. The availability of care from multiple sites
introduces concerns that Medicare may be paying different amounts for the different
types of post-acute care providers for patients with essentially similar needs for care.
After presenting that basic framework, the report will then discuss different Medicare
payment policies that are unique to IRFs. The remainder of this section will describe
Medicare conditions of participation for IRFs and discuss the effect of the former
cost-based reimbursement on IRFs. The last section of the report will discuss
legislative developments shaping the direction of the IRF-PPS. It will present
payment adjustments within the IRF-PPS and conclude with a example showing a
rate calculation for FY2005.
Overview of Rehabilitation Services and Post-Acute Care
Rehabilitation services consist of physical therapy, occupational therapy, and
speech and language services. These services are often furnished to patients
following a hospital stay or an ambulatory surgical procedure and can be provided
by a number of different Medicare-certified providers in either inpatient or outpatient
settings. The diversity in post-acute care providers that furnish rehabilitation services
provides for considerable variation and flexibility in the duration and intensity of
beneficiaries’ use of rehabilitation services and providers. Although the range of
possible service settings permits patients (and their physicians) some choice in where
beneficiaries receive the most appropriate care, it may also make rehabilitation
providers more sensitive to changes in Medicare’s payment policies and procedures.25
The term “post-acute care” is commonly used to refer to a continuum of service
settings where rehabilitation, nursing, and other services can be provided to persons
following treatment for an acute illness or injury. Depending upon the context,
however, post-acute care may encompass more than vigorous rehabilitative services
(often thought to be the primary focus of inpatient rehabilitation facilities or IRF) and
include convalescent and palliative services, even pain management for terminal
patients. Post-acute care also may be provided on an inpatient or outpatient basis.
IRFs are one of the inpatient settings where such services may be provided. Other
Medicare providers offering these services are long-term care hospitals (LTCH),
SNFs, or home health agencies (HHAs).
Medicare beneficiaries use post-acute care frequently. In 2001, almost one-third
of the beneficiaries discharged from acute hospitals used post-acute care with SNF
care being the most common single care setting. Until the implementation of
Medicare’s acute hospital inpatient prospective payment system (IPPS) in 1984,
however, follow-up care after hospital stays accounted for only a small part of
Medicare spending. Following implementation of IPPS and other policy changes
25 Medicare Payment Advisory Commission (MedPAC), Report to Congress: Context for
a Changing Medicare Program, June 1998, p. 79, 89.

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affecting SNFs and HHAs in the late 1980s, Medicare spending for post-acute care
began to grow rapidly. Total program spending for post-acute care increased 21%
per year from 1992 to 1997, from $14 billion to $35.7 billion; of this total, IRF
program spending increased from $2.8 billion in 1992 to $3.8 billion in 1997, an
increase of 6% per year.26 The change in Medicare’s spending trends for post-acute
care services was attributed to advances in technology combined with the incentives
provided by the fixed price payments under IPPS for short-term general hospitals to
discharge patients as quickly as possible to other settings for continuing care,
together with clarifications of coverage policies for certain post-acute care settings.
In response to the rapid expenditure growth, the Balanced Budget Act of 1997
(BBA 97, P.L. 105-33) and subsequent legislation mandated development and use
of prospective payment systems for all post-acute care settings; these new payment
systems have been implemented gradually over the time period since passage of BBA
97.27 Between 1997 and 2001, Medicare spending for post-acute care declined from
$35.7 billion to $28.0 billion, by more than 20%, due to a decline of more than 50%
for home health care services; Medicare spending in SNFs, IRFs, and long-term
facilities increased by 12%, almost 11%, and 58% respectively in that time period.
Implementation of the different payment systems has heightened concerns that
providers are shifting beneficiaries’ care in response to changing financial incentives
provided by the reimbursement methods rather than basing the decision for care on
the patient’s medical condition. Similarly, some view Medicare’s varying coverage
rules and eligibility criteria, as well as the different requirements that post-acute
providers must meet in order to participate in the program, as subject to
manipulation.28
For example, a three-day prior hospitalization is required to trigger coverage for
inpatient skilled nursing facility care, but is not required for other types of inpatient
post-acute care under Medicare. In addition, the beneficiary must require daily
skilled nursing or rehabilitation care. Beneficiaries who qualify for care in an IRF
must be medically capable of undergoing at least three hours of rehabilitation per day
that is expected to result in significant practical improvement within a reasonable
period of time. Medicare beneficiaries have no special eligibility requirements in
order to receive care in a LTCH; these facilities must only maintain an average
inpatient length of stay of at least 25 days. Medicare’s requirements for physician
involvement in the care provided in the different inpatient settings also varies.
26 These figures reflect program spending and do not include beneficiary copayments.
MedPAC, Data Book: Healthcare Spending and the Medicare Program, June 2004, p. 142.
Medicare payments to IRFs (including beneficiary copayments) grew 20% annually between
1985 and 1995, from $70 million to $430 million. MedPAC, Data Book: Health Care
Spending and the Medicare Program, July 1998, p. 104.
27 Medicare’s payment reforms included establishing a case-mix adjusted per diem PPS for
SNFs using resource utilization groups (RUG-III) as a patient classification system, starting
in 1998; a case-mix adjusted PPS for home health services, starting in 1999; a per discharge
PPS for IRFs using function-related groups, starting in 2002; and a per discharge PPS for
long-term hospitals using modified diagnosis-related groups (DRGs), starting in 2002.
28 Medicare Payment Advisory Commission, Report to Congress, Variation and Innovation
in Medicare, June 2003, p. 73.

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CRS-10
Specifically, physicians must be integrally involved in care provided in IRFs and
LTCHs, but are required to visit a SNF patient only once every 30 days for the first
90 days and every 60 days thereafter.
Between 1992 and 2004, the supply of all major types of Medicare inpatient
post-acute care providers (as well as Medicare spending for these providers)
experienced significant growth as well. The number of SNFs increased from 12,303
to 15,784; the number of IRFs increased from 907 to 1,206; the number of long-term
hospitals increased from 97 to 307. Ownership of post-acute care providers has also
been shifting, with for-profit status becoming more common. Within these overall
trends, the regional distribution of different types of post-acute care providers has
remained uneven. The pattern of post-acute care provider use is determined in large
part by the supply of particular provider types in a given area. Because of wide
geographic variation in supply of provider types, utilization patterns, even for
patients with similar needs, may vary widely by geography.
The difference in the use of post-acute care services also likely reflects
variations in practice standards as well as availability. In this case, practice standards
are thought to include the inclinations of individual practitioners as affected by
regulation and the policies of Medicare contractors, such as fiscal intermediaries,
who influence the use of post-acute care services under Medicare (see earlier
discussion of the use of LCDs).29 Moreover, admissions to post-acute care are guided
by a hospital discharge planner who, in turn, may be affected by the knowledge of
which patients providers are willing to accept.30
Also, as noted in a 1999 study sponsored by the Assistant Secretary of Planning
and Evaluation (ASPE), certain hospital characteristics appear to be associated with
the type of post-acute care to which patients are discharged. Larger or teaching
hospitals, for example, are more likely than other acute hospitals to discharge patients
to IRFs. Proprietary hospitals are more likely than non-profit hospitals to discharge
patients to home health care. The study found that there were some interactions
between types of post-acute care that were used by Medicare beneficiaries. For
example, IRF bed supply was positively associated with the rate of Medicare home
health care use, which indicated that these two types of care are used in sequence for
significant numbers of beneficiaries.31
Certain personal and health characteristics, in combination with some basic
differences between the types of post-acute care providers, have been found to
influence either the use of post-acute care or the propensity to use one type of
provider relative to others. The characteristics include the health or functional status
29 Robert Kane, Wen-Chieh Lin, and Lynn Blewett, “Geographic Variation in the Use of
Post-Acute Care,” Health Services Research, vol. 37, no. 3 (June 2002), pp. 679-680.
30 Melinda Butin, Anita Garten, Susan Paddock Debra Saliba, Mark Totten, and José
Escarce, How Much Is Post-Acute Care Use Affected by Its Availability? National Bureau
of Economic Research (NBER), Working Paper 10424, Apr. 2004, p. 4.
31 Korbin Liu, Barbara Gage, Jennie Harvell, David Stevenson, and Niall Brennan,
Medicare’s Post-Acute Care Benefit: Background, Trends, and Issues to Be Faced, Urban
Institute, Jan. 1999, p. 5.

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CRS-11
of the patient as well as the patient’s access to informal care (nonpaid care provided
by family or friends). For example, frail beneficiaries may not be able to withstand
the intensive therapy regimen (the minimum of three hours of daily therapy) required
in an IRF. Alternatively, severely disabled beneficiaries may be more easily cared
for in SNFs than in community settings with home health services. On the other
hand, availability of informal care increases the likelihood that post-acute care could
be provided in the community or in institutional settings where the goal is to return
to the community, rather than in institutional settings explicitly designed to provide
long-term care.32
The availability of multiple sites of post-acute care has led to concerns that the
care provided to beneficiaries is influenced by the different levels of payment offered
for similar services in the various settings. However, there is little definitive
information on the extent of patient overlap, differences in Medicare’s relative
payment levels in different settings for the same quality of care, and the appropriate
resource levels for the desired outcomes for patients with particular needs.33 These
shortcomings can be attributed, in part, to the fact that the existing administrative
data used for Medicare’s payment purposes (including patient assessment instruments
used to classify patients into the relevant payment groups in the different post-acute
care settings) do not contain information needed to measure the quality of care within
and across post-acute settings. Although the different data systems include
information on patients’ functional status (generally measured in terms of activities
of daily living, mobility, communication skills, and cognitive status), each of the
patient assessment instruments collect different measures recorded at different times
in the post-acute stay.34 These differences make it difficult to identify whether
similar patients are, in fact, treated in different settings and, if so, whether the
outcomes of care are comparable.35 Furthermore, patient assessment data are
collected only as long as a patient is treated in any particular post-acute care setting,
but the outcome of the care rendered may not be apparent until after the patient is
discharged.36
32 Korbin Liu, et al., Medicare’s Post-Acute Care Benefit: Background, Trends, and Issues
to be Faced, Urban Institute, Jan. 1999, pp. 24-25, 41-43.
33 Marie Johnson, Danielle Hothaus, Jennie Harvell, Eric Coleman, Theresa Eilertsen and
Andrew Kramer, Medicare Post-Acute Care: Quality Measurement Final Report, University
of Colorado Health Sciences Center, Mar. 2001 (revised Mar. 2002), p. 7. (Hereafter cited
as Johnson et al., Medicare Post-Acute Care.)
34 SNFs provide functional status information on all Medicare and Medicaid patients using
Minimum Data Set, version 2.0 (MDS 2.0) as the assessment tool; home health agencies
provide Outcome and Assessment Information Set (OASIS) as the assessment tool for their
Medicare patients, IRFs have incorporated the Functional Improvement Measure (FIMTM)
as part of its patient assessment instrument (IRF-PAI) to report patient status information.
35 Alan M. Jette, Stephen M. Haley, and Pengsheng Ni, “Comparison on Functional Status
Tools Used in Post-Acute Care,” Health Care Financing Review, Spring 2003, vol. 24, no.
3, p. 13; Lisa I. Iezzoni and Marjorie S. Greenberg, “Capturing and Classifying Functional
Status Information in Administrative Databases,” Health Care Financing Review, Spring
2003, vol. 24, no. 3, p. 61.
36 Johnson et al., Medicare Post-Acute Care, p. 3.

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CRS-12
Medicare’s Conditions of Participation for IRFs
IRFs and other specialty hospitals were excluded from IPPS when it was
implemented for short-term, general hospitals in 1984 because the patient
classification system for acute hospitals, diagnosis related groups or DRGs, was
thought not to adequately account for the costs associated with treating their patients.
As with other post-acute care services, functional and cognitive measures have been
judged to be better predictors of resource use in rehabilitation hospitals than
diagnoses. An IRF must perform basic hospital functions and also meet certain
requirements to be excluded from IPPS and paid as an IRF. As discussed earlier,
until recently, the exclusion required that at least 75% of a facility’s inpatient
discharges needed intensive rehabilitation services for one of 10 conditions. As of
July 2004, IRF qualification criteria have been modified and the qualifying
percentage has been lowered on a transition basis until January 1, 2007. In addition,
patients in IRFs are expected to improve as a result of therapy. Medicare patients
treated in an IRF must also be capable of receiving approximately three hours of
daily therapy (generally five days a week). Also, patients must require frequent
physician involvement, 24-hour rehabilitation nursing, and coordinated care by a
multidisciplinary group of professionals.
Medicare has established requirements (or conditions of participation) for IRFs
to receive payment from Medicare.37 Specifically, the facility must review each
prospective patient’s condition and medical history prior to admission to determine
whether the patient will benefit significantly from an intensive inpatient rehabilitation
program. IRFs must have a plan of treatment for each inpatient that is established,
reviewed and revised by a physician in consultation with other professional personnel
who provide services to the patient. As mentioned earlier, facilities must use a
coordinated multidisciplinary team approach documented by periodic clinical entries
in the medical record that discuss the patient’s progress toward a specified goal.38
Team conferences must be held at least every two weeks to determine the
appropriateness of treatment. IRFs must ensure that patients receive close medical
supervision by a physician with specialized training or experience in rehabilitation.
IRFs must assure 24-hour availability of such a physician as well as 24-hour
availability of a registered nurse with specialized training or rehabilitation
experience.39 Each facility must also have a physician who acts as the full-time
director of rehabilitation.40
37 See 42 Code of Federal Regulations (C.F.R.) § 412.23(b)(3)(7).
38 A multidisciplinary team usually includes a physician, rehabilitation nurse, social worker
and/or psychologist as well as those therapists involved in the patient’s care. At a minimum,
a team must include a physician and, rehabilitation nurse, and one therapist. Medicare
Benefit Policy Manual, CMS Pub. 100-02, Section 110.4.4.
39 The need is documented with frequent entries in the patient’s medical record of the direct,
medically necessary care by the physician at least every two or three days during the
patient’s stay. Medicare Benefit Policy Manual, CMS Pub. 100-02, Section 110.4.1.
40 The doctor must have at least two years of training or experience in medical management of
inpatients requiring rehabilitation services which is preceded by a one-year hospital internship.

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CRS-13
IRFs that are distinct-part units of hospitals must meet additional conditions of
participation. Among other requirements, these units must have beds that are
physically separate from the hospital’s other beds, separately identified admission
and discharge records from those of the hospital, and policies that specify that
necessary clinical information is sent to the unit upon transfer of a hospital’s patient
to the unit.41
Effect of Medicare’s Prior Payment System for IRFs
Prior to implementation of the IRF-PPS, these facilities had been paid on a cost
related basis subject to per discharge limits as originally established by the Tax
Equity and Fiscal Responsibility Act of 1982 (TEFRA). Generally speaking, under
TEFRA, those facilities with operating costs below its payment ceiling received costs
plus an incentive payment; those with costs above their target were paid the ceiling
plus a relief payment. Each facility had a separate payment limit or target amount
established using its cost per discharge in its base year, subject to a cap; the target
amounts were subject to annual increases or updates. Capital costs were paid on a
pass-through basis, subject to certain limitations. New providers were exempt from
payment ceilings for the first three years of operation.
This payment system encouraged new exempt facilities to maximize their costs
in their base year to establish high, facility specific cost limits. Once subject to the
TEFRA constraints, a recent entrant could fairly readily reduce its costs below its
limit and receive Medicare payment for full costs. Older rehabilitation facilities
could not inflate their target amounts in this fashion, were more likely to incur costs
above their limits, and receive payments less than their costs.
Because of payment disparities between new and old IRFs, BBA 97 mandated
changes to Medicare’s existing IRF payment system and imposed national cost limits
(or national target amounts) on payments to specific IRFs. Accordingly, an IRF
would receive payments based on its costs per discharge, subject to the lower of
facility specific TEFRA limits or the national target amounts established by BBA 97.
The national target amount was set at the 75th percentile of the 1996 facility-specific
target amounts updated for inflation. Prior to BBA 97, payments to new IRFs were
based on their full Medicare allowable costs while their facility specific amount was
determined. With BBA 97, Medicare’s payments to new providers were limited to
the lesser of the provider’s costs or 110% of the wage adjusted, national median
target amount of established IRFs. Also, BBA 97 permitted long-established IRFs
(those with base years beginning before October 1990) to rebase (or update) their
facility-specific target amount using averaged costs from certain of their three most
recent cost reporting periods. Among other payment changes (including a reduction
in capital payments), the legislation established a provider-specific update formula
in order to reduce existing payment disparities; facilities with costs above their target
amount received a larger update than those below their target amounts (which could
41 See 42 C.F.R. § 412.25(a).

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CRS-14
be no update). The amount and type of bonus and relief payments to IRFs were
modified as well.42
The TEFRA system was intended to be a temporary measure to control
Medicare hospital spending until prospective payment systems for the nonacute
hospitals could be implemented. It remained in effect longer than expected, in part
because of the difficulties in accounting for the variation in resource use across
patients in exempt facilities.43 Arguably, part of this unexplained cost variation may
have stemmed from providers’ responses to payment incentives within the TEFRA
system.
IRF Prospective Payment System Issues
The following section will provide background on the legislative provisions
shaping the implementation of the IRF-PPS, then present information on the IRF-
PPS payment adjustments, and conclude with an example of a FY2005 payment
calculation.
Legislative Overview
As well as the other provisions modifying the TEFRA payment system
discussed earlier, BBA 97 provided for the establishment of a PPS for IRFs
beginning by October 2000 and before October 2002. The IRF-PPS was to be
implemented over a two-year transition period.44 In that legislation, Congress did not
specify the unit of payment or the patient classification system to be used with the
IRF-PPS. Instead, the Secretary was given discretion to establish classes of IRF
patients (called “case mix groups”) based on appropriate factors such as impairment,
age, related prior hospitalization, comorbidities, and functional capacity of the
patient. The Secretary was required to establish weighting factors for each case-mix
group that would be adjusted from time to time. These PPS amounts would be
budget neutral, set at a rate that would equal 98% of the total payments that would
have resulted without such changes, for FY2001 and FY2002. IRF payments would
be subject to an area wage adjustment which would vary depending upon where the
facility was located. BBA 97 directed that these relative wage values be updated
every year in a fashion that does not increase payments as a result of those changes.
42 BBA 97 also expanded Medicare’s transfer policy beyond discharges from one acute
hospital to another to include certain transfers from acute hospitals to post-acute providers.
This change reduced payments to acute hospitals for certain types of patients discharged to
post-acute settings.
43 Medicare Payment Advisory Commission, Report to Congress: Medicare Payment Policy,
Mar. 1999, pp. 72-75.
44 As mandated, the payments would be based on two-thirds of the TEFRA payment and
one-third of the PPS payment from Oct. 1, 2000 and before Oct. 1, 2001; in the following
year, payments would be based on one-third of the TEFRA payment and two-thirds of the
PPS payment. Starting by Oct. 1, 2002, the IRF-PPS would be fully phased in.

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CRS-15
The legislation included provisions establishing outlier payments that would be equal
to no more than 5% of total IRF payments.
In an attempt to move toward more uniform payment policies across different
post-acute care settings, the Health Care Financing Administration (HCFA, now
called CMS) began to consider modifications to the patient assessment instrument
(the Minimum Data Set or MDS) and the RUG-III classification system designed for
use with per diem payment in SNFs for use in IRFs.45 This effort was redirected by
specific provisions in the Balanced Budget Refinement Act of 1999 (BBRA, P.L.
106-33) that mandated certain characteristics of the IRF-PPS.46 Specifically, the
Secretary was directed to use discharges as the unit of payment. The legislation also
mandated use of a specific (and different) patient assessment and classification
system than being considered by HCFA. The legislation directed the IRF-PPS to use
case-mix groups based on impairment, age, comorbidities, and functional capability
of the patient and such other appropriate factors deemed to improve the explanatory
power of the functional independence measure-function related groups (FIM-FRG).47
The law also stated that the Secretary was not precluded from establishing an
adjustment in the IRF-PPS to account for early transfers of patients from IRFs to
other settings. Finally, the Secretary was directed to study the effect of the new IRF-
PPS on utilization and beneficiary access to services, which study is due to Congress
no later than January 2005. Subsequent changes in the Benefits Improvement and
Protection Act of 2000 (BIPA, P.L. 106-554) increased total payments in the IRF-
PPS system by 2% in FY2002 and permitted facilities to make a one-time election
before the start of PPS to be paid based on a fully phased-in PPS rate (and skip the
two-year transition period). The IRF-PPS system began implementation as of
January 1, 2002.
Description of IRF PPS and Payment Adjustments
Generally speaking, under PPS, Medicare pays an IRF a predetermined, fixed
amount per discharge, depending upon a patient’s impairment level, functional status,
comorbid conditions and age. Certain adjustments are made for facility level
characteristics to account for area wage variations, rural location, and the percentage
of low-income patients (LIPs) served. IRF-PPS also includes case level adjustments.
Specifically, reduced or additional amounts are paid for early transfers, short-stay
outliers, patients who die before transfer and patients who are extraordinarily costly
(outliers). These payments encompass inpatient operating and capital costs of
furnishing covered rehabilitation services, but not the costs of approved educational
activities, Medicare bad debts, and other services that are paid outside of the IRF-PPS
for which the providers receive additional payments.
45 Medicare Payment Advisory Commission, Report to Congress, Medicare Payment Policy,
Mar. 1998, vol. I, p. 96.
46 This legislation was incorporated by reference into the conference agreement on H.R.
3194, the District of Columbia Appropriations Act.
47 The Functional-Related Groups (FRGs) system was developed by Dr. Margaret Stineman
and colleagues at the University of Pennsylvania and SUNY-Buffalo. This system is based
on a rehabilitation coding system, the Functional Independence Measure (FIM), developed
and owned by the Uniform Data System for Medical Rehabilitation (USDmr).

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CRS-16
Medicare’s IRF-PPS payment for any beneficiary will depend upon a clinician’s
comprehensive assessment of that patient upon admission and again at discharge.
These documented assessments must be based on the direct observation of and
communication with the patient; information may be supplemented with information
from other sources, including family members or other clinicians. The prescribed
patient assessment instrument (PAI) form, the Uniform Data Set for Medical
Rehabilitation (UDSmr), encompasses about 55 questions used to ascertain a
patient’s functional independence including motor skills and cognitive capacities and
to establish a patient’s comorbidities. A patient’s assessments (from both admission
and discharge) are transmitted to CMS electronically once and at the same time.
Failure to meet the IRF PAI transmission deadlines results in a 25% reduction in
Medicare’s payment in all but extraordinary circumstances.
Using data from the patient’s initial assessment, each Medicare patient is
classified into one of 100 mutually exclusive case-mix groups (CMGs). First, a
patient is placed into one of 21 rehabilitation impairment categories (RICs) that
encompass clinically similar conditions, such as stroke or traumatic brain injury, as
the primary cause of admission. Next, a patient is placed into a CMG within the
RIC; the CMG assignment depends upon the patient’s functional status and, in some
instances, age. Within a CMG, a patient is assigned to one of four categories or
comorbidity tiers using clinical information from the patient’s discharge assessment.
The presence of comorbidities was found to substantially increase the average cost
of a specific CMG. Patients with the most serious conditions are assigned to tier 1;
patients with the least serious conditions are assigned to tier 3; those without any
relevant comorbidities (or secondary conditions) are assigned to the “none” tier. The
21 RICs encompass the 95 CMGs; five other CMGs have been established for
patients with special circumstances; one of the five CMGs is for patients with very
short stays and the four remaining are for patients who die before treatment is
completed. Each of these five special CMGs have only one payment rate and no
comorbidity tiers.
CMS established relative or cost weights using cost report data from FY1996,
FY1997, and FY1998 and charge data from calendar year (CY) 1999. The relative
weights account for a patient’s resource needs for each of the CMGs and payment
tiers; 385 relative weights are used to determine Medicare payment rates. Unlike
those used in IPPS, these relative weights are not updated annually. Within any
given CMG, the cost weight for a patient with a high comorbidity is greater than the
cost weights for those patients with low or no comorbidities.
This cost weight is multiplied by a standard payment conversion factor
(formerly known as the budget neutral conversion factor) to calculate the payment
for a given patient.48 The standard payment amount was originally constructed using
the facility-specific information from 508 facilities, including cost reports from
FY1995, FY1996, and FY1997; applicable target amounts, as well as Medicare
48 As mentioned earlier, BBA 97 specified that budget neutral payments were to be
established at 98% of what would have been spent under the prior system during FY2001
and FY2002. BIPA increased the amount of the IRF-PPS budget neutral payments to 100%
in FY2002. The overall IRF-PPS budget neutrality provision is no longer in effect.

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CRS-17
claims (including corresponding UDSmr data) from CY1996 and CY1997. Each
year the IRF-PPS standard payment amount is increased based on the modified
market basket (MB) for excluded hospitals (those not paid under IPPS). This MB is
based on cost report data from Medicare participating inpatient rehabilitation and
psychiatric facilities as well as long-term, children’s, and cancer hospitals which
were subject to TEFRA payment limitations. The TEFRA MB only includes
operating costs, so the IRF-PPS update is based on a modified TEFRA MB that
reflects capital costs. CMS revised and rebased the MB with capital for excluded
hospitals to incorporate 1997 cost report data starting in FY2004. The new MB
includes an explicit cost category for blood and blood products. Also, the calculation
of this modified MB with capital is based on a ratio of operating to capital costs
where operating costs account for 91.032% of the total costs and capital costs
account for the remaining 8.968% of the total costs.
Medicare pays a reduced amount for a patient who is an early transfer. The
patient has a length of stay that is greater than three days but less than the average for
the assigned CMG and is transferred to another rehabilitation facility (which has been
defined as a rehabilitation facility, a long-term hospital, a short-term hospital, or a
nursing home.) No payment reduction applies for patients who are discharged to a
home health agency or other outpatient therapy setting. Also, the IRF will receive
the full amount if the transfer occurs after the patient has been treated for the average
length of stay associated with the CMG. The payment rate for early transfers is based
on the per diem payment for the applicable CMG (to which the patient has been
assigned). The IRF will receive an additional one half day payment to recognize the
higher costs generally associated with the patient’s first day of care. The early
transfer payment would include any facility level payment adjustments.
Medicare pays for short-stay outliers using one of the five special CMGs. These
are patients who are not transfers, but are discharged from the facility after being
hospitalized no more than three days. These short-stay outliers may occur because
the patient could not tolerate a full course of intensive inpatient rehabilitation
treatment, left against medical advice, or died within three days of admission. Also,
patients who are discharged from and return to the same IRF by midnight of the third
consecutive calendar day are considered interrupted stays. Medicare makes only one
IRF-PPS payment for these cases. As mentioned earlier, in addition to PPS
payments, Medicare will pay IRFs for certain items such as Medicare beneficiaries’
bad debts, the costs of approved educational programs and for blood clotting factors
provided to Medicare inpatients who have hemophilia outside of the PPS.
FY2005 IRF Payment Calculation
To establish the FY2005 payment rates, CMS increased the FY2004 IRF
standard payment conversion factor by the update amount and applied the budget
neutral wage adjustment (to account for updating the wage data from the previous
year). In FY2005, the update amount equaled the market basket increase of 3.1%.
The FY2005 budget neutral adjustment factor is 1.0035. Unlike the prior year, no

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CRS-18
behavior offset to account for coding improvements was applied. In FY2005, the
standard payment amount is $12,958.49
For FY2005 IRF-PPS payments, CMS uses FY2000 acute hospital wage data
(used in the FY2003 IPPS) to compute the IRF wage index values. Unlike IPPS, the
IRF-PPS does not permit geographic reassignments for facilities. The labor-related
portion (72.359%) of the federal payment rate is multiplied by the IPPS wage index
value for the IRF’s area. An IRF is either in a metropolitan statistical area (MSA) or
the rural area of the state (which is considered to be counties that have not been
assigned to MSAs).50 This wage-adjusted amount is added to the non-labor related
portion of the rate to determine the wage-adjusted federal payment rate. IRFs in rural
areas receive an additional 19.14% increase to the federal payment rate. An
additional payment is made to IRFs that serve low-income patients (LIPs). The same
measure, the percentage of poor Medicare and Medicaid days in a given facility, that
is used to establish Disproportionate Share Hospital (DSH) payments for most IPPS
hospitals is used as the measure for LIPs served in an IRF. However, in the IRF-PPS,
the additional DSH payments are calculated using a different formula. Unlike
Medicare’s DSH payment adjustment for acute hospitals, an IRF will receive
additional payments if it serves at least one low-income patient.
Table 1 shows the IRF-PPS adjusted payment calculation for CMG 0112
(without comorbidities) in two different facilities. CMG 0112 is used to establish
Medicare payments for stroke patients from 82 to 88 years old who have motor
scores that range from 12 and 26. The relative weight used for these patients who
have no comorbidities is 2.0015; Medicare’s federal prospective payment rate for this
CMG is $25,935.44 ($12,958 * 2.0015 = $25,935.44). This represents the federal
rate before the relevant facility level adjustments are applied. IRF-PPS payments will
be adjusted to account for a facility’s relative area wage, rural location, and low-
income percentage. In FY2005 a facility in rural Louisiana has a wage index value
of 0.7451 and one in the Oakland CA MSA has a wage index value of 1.4921. Both
facilities have a 26% DSH percentage, which qualifies them for a LIP adjustment of
11.82%.
49 69 Federal Register 45766, July 30, 2004.
50 Unlike IPPS for acute hospitals, CMS has not yet incorporated the new MSA definitions
based on the revised standards published by the Office of Management and Budget and
using the 2000 census data into IRF-PPS.

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CRS-19
Table 1. Example of IRF-PPS Payment Calculation for CMG
0112 (For Certain Stroke Patients Without Comorbidities)
Including Facility Level Adjustments, for FY2005
IRF in rural
IRF in Oakland CA
Component
Louisiana
MSA
Federal prospective payment rate
for CMG 0112
$25,935.44
$25,935.44
Labor portion of federal payment
($25,935.44 x 0.72359)
18,766.63
18,766.63
Wage index for IRF
0.7451
1.4921
Wage-adjusted amount
$13,983.01
$28,001.69
Nonlabor-related amount
($25,935.44 x 0.27641)
$7,168.81
$7,168.81
Wage-adjusted federal payment
$21,151.82
$35,170.50
Rural adjustment
1.1914
1.0
$25,200.28
Subtotal
($21,151.82 x 1.1914)
$35,170.50
LIP adjustment
1.1182
1.1182
Total FY2005 adjusted federal
prospective payment for CMG
$28,178.95
$39,327.65
0112
($25,200.28 x 1.1182)
($35,170.50 x 1.1182)
Source: CRS calculation based on information in FY2005 IRF-PPS regulation published in the
Federal Register on July 30, 2004.
In addition to facility level adjustments, an IRF may receive additional or
reduced Medicare payment for any given case, depending upon the Medicare
patient’s circumstances. Additional payments are made for cases that are high cost
outliers. A patient will be considered to be an outlier if the estimated cost of the case
exceeds an adjusted threshold amount. This cost is calculated by multiplying the
charge by the facility’s overall cost-to-charge ratio obtained from the latest settled or
tentatively settled cost report.51 An IRF will receive 80% of the difference between
the estimated cost of the case and the outlier threshold (modified by facility level
adjustments). For FY2005, the unadjusted threshold amount is $11,211, which CMS
estimates will result in total estimated outlier payments of approximately 3% of total
IRF-PPS payments.
51 If a facility’s cost to charge ratio is three standard deviations above the applicable national
average cost to charge ratio, then a ceiling on this ratio is imposed. Separate national cost
to charge ratios apply for urban and rural IRFs. The upper threshold for all IRFs in FY2005
is 1.461.

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CRS-20
Concluding Observations
The magnitude of Medicare’s spending on post-acute care, as well as the
variety of post-acute providers, underscores the importance of developing policies
that ensure beneficiaries receive the appropriate level of care and service intensity.
Policymakers remain concerned that payment incentives in the Medicare program
may influence the type of post-acute care provided and unnecessarily increase
program spending. However, there is little definitive information on Medicare’s
relative payment levels in different settings for the same quality of care and desired
outcomes for patients with particular needs. With respect to IRFs, the Medicare
statute gives the Secretary of HHS discretion to establish the criteria that these
facilities must meet in order to be exempt from the IPPS used to pay acute hospitals.
Recent administrative actions by CMS and its contractors to develop and enforce
these criteria have prompted House action and Senate committee action within the
HHS appropriation process to delay enforcement of the criteria until mandated
studies are completed. However, final action on this matter has yet to take place.

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