Louisiana Dep’t of Health and Hosps. v. Center for Medicare and Medicaid Servs.

IN THE UNITED STATES COURT OF APPEALS
FOR THE FIFTH CIRCUIT

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No. 02-60834
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United States Court of Appeals
Fifth Circuit
F I L E D
September 22, 2003

Charles R. Fulbruge III
Clerk

LOUISIANA DEPARTMENT OF HEALTH AND HOSPITALS,

Petitioner,

versus

CENTER FOR MEDICARE AND MEDICAID SERVICES; THOMAS A. SCULLY, in his
official capacity as Administrato r o f the Centers for Medicare and Medicaid Services; UNITED
STATES DEPARTMENT OF HEALTH AND HUMAN SERVICES; TOMMY G.
THOMPSON, in his official capacity as Secretary of the U.S. Department of Health and Human
Services,

Respondents.

___________________________________________________

Appeal from the Administrato r of the Center for
Medicare and Medicaid Services
___________________________________________________

Before WIENER, CLEMENT , and PRADO, Circuit Judges.

EDITH BROWN CLEMENT, Circuit Judge:

This appeal arises following the dete rmination, by the Administrato r of the Center for Medicare

and Medicaid Services, that Rural Health Clinics in Lou isiana do not furnish “hospital services”, and

hence are not eligible for certain reimbursements. Because we find that interpretation to be

unreasonable, we REVERSE .

I. FACTS AND PROCEEDINGS

(1)

Statuto ry and regulato ry background

The Medicaid pro gram

Medicaid is designed to enable states to offer medical assistance to certain low-income, elderly,

and disabled individuals whose income and resources ar e inadequate t o pay for necessary medical

services. See 42 U.S.C. § 1396 (2003). Under the Medicaid stat ute, the federal government and the

stat es cooperate and share the cost of providing medical assistance to Medicaid-eligible persons.

The Medicaid statute gives each state flexibility in designing and administering its own Medicaid

program. Under the statute, a st ate that elects to par ticipate in the program submits a “state p lan”

for review and approval by the S ecretary (“Secretary”) of the Department o f Health and Human

Services (“HHS”). See generally 42 U.S.C. § 1396a. A stat e that seeks to change its state plan may

submit a “state plan amendment” to the Center for Medicare and Medicaid Services (“CMS”) for

review and approval. See 42 C.F.R. §§ 430.14 – 430.15 (2002) (recor ding Secretary’s delegation of

authority for appro ving state plan amendments to CMS). CMS, on behalf of the Secretary, is

required to approve a state plan amendment that complies with all app licable statutes and regulations.

42 U.S.C. § 1396a(b). Once CMS approves a state plan amendment, t he Secretary pays the state a

percentage of the “total amount [the state] expended . . . as medical assistance under the State plan.”

42 U.S.C. § 1396b(a)(1). The percentage for Louisiana for the current fiscal year is 71.28%. See 66

Fed. Reg. 59790 (Nov. 30, 2001); see also 67 Fed. Reg. 69223 (Nov. 15, 2002) (raising Lou isiana’s

percentage to 71.63% for t he fiscal year start ing October 1, 2003).

(2)

Provisions for disproportionate share hospitals

In 1981, Congress added a requ irement that stat e plans include higher reimbursement rates for

“public hospitals and teaching hospitals which serve a large Medicaid and low income population [and

which] are part icularly dependent on Medicaid reimbursement . . . .” 42 U.S.C. § 1396a(a)(13)(A)

(not ing that a state plan must “provide for a public process for determination of rat es o f payment

under the plan for hospital services” under which “such rates take into acco unt . . . the situat ion of

hospitals which serve a disproportionate number of low-income patients with special needs”). To

meet the so-called disproportionate share (“DSH”) requirement, states must define and list DSH

hospitals that serve a greater percentage of Medicaid and low-income patients. 42 U.S.C. § 1396r-

4(a)(1); see also 42 U.S.C. § 1396r-4(b)(1) (restricting DSH designation to hospitals with low-

income ut ilizat ion rates exceeding 25% or to hospitals whose Medicaid inpatient ut ilizat ion rate is

at least one standard deviat ion above the mean Medicaid inpatient ut ilization rate of all in-stat e

hospitals receiving Medicaid payments). Stat es must provide an “approp riate increase in the rate o r

amount of payment for such services.” Id. Additionally, the statu te co ntemplates that

reimbursements will reflect not only the cost of caring for Medicaid recipients, but also the cost of

charity care given to uninsured patients. Id. § 1 396r -4(b)(3) (basing definition of “low-income

utilizat ion rate” in part on quant ity of charity care provided by the hospital). In 1987 and 1988,

Congress added specific requirements for states to comply with this general mandate through higher

payments to designated hosp itals.

(3)

State-specific and hospital-specific limits on DSH payment adjustments

In 1991, Congress directed the Secretary to determine stat e-specific limits on federal funding for

DSH payments for each fiscal year, using a statutory formula. See 42 U.S.C. § 1396r-4(f) (capp ing

Lou isiana’s DSH allotment for fiscal year 2002 at $631 million and for future fiscal years to the 2002

cap adjusted by the consumer price index). In 1993, Congress respo nded to report s that some

hospitals received DSH payment adjustments that exceeded “the net costs, and in some instances the

tot al costs, of operating the facilities,” by requiring hospital-specific limits o n DSH payments. See

H.R. REP. NO. 103-111, at 211-212 (1993), reprinted in 1993 U.S.C.C.A.N. 278, 538-539 (not ing

DSH payment adjustments seeped into state general funds to cover non-health care items including

road construction).

The hospital-specific limitat ions are at the heart of the dispute in this case. The 199 3 amendment

limits the amount of DSH payments to a specific hospital to

the costs incurred during the year of furnishing hospital services (as det ermined by
the Secretary and net of payments under this title, other than under this section, and
by uninsured patients) by the hospital to individuals who either are eligible for medical
assistance under the State plan or have no health insurance (or other source o f third
party coverage) for services provided during the year.

42 U.S.C. § 1396r-4(g)(1)(A) (emphasis added).

CMS has not promulgated any regulations specifically addressing the hospital-specific DSH limit

and thus has not addressed the use o f the term “hospital services” as it relates to those limits. In a

letter to State Medicaid directors dated August 17, 1994, the Health Care Financing Administrat ion

(“HCFA”), CMS’s predecessor agency, stat ed:

There are several impor tant considerations that must be made in det ermining the cost
of services under the DSH limit, whether for Medicaid or uninsured individuals. First,
the legislative history of this p ro vision makes it clear that S tat es may include both
inpatient and outpatient costs in the calculat ion o f the limit. Second, in defining
“costs of services” under this provision, HCFA would permit the State to use the
definition of allowable costs in its State plan, or any other definition, as long as the
costs determined under such a definition do not exceed the amounts that would be
allowable under the Medicare principles of cost reimbursement. . . . HCFA believes
this interpretation of the term “costs incurred” is reasonable because it provides
States with a great deal of flexibility up to a maximum standard that is widely known
and used in the determination of hospital costs.

Letter from Sally K. Richardso n, Department of Health & Human Services, to State Medicaid

Directors 3 (Aug. 17 , 1994) (emphasis added).

(4)

Rural Health Clinics (“RHCs”)

RHCs generally furnish “those diagnostic and therapeutic services and supp lies that are commonly

furnished in a physician’s office or at the entry point into the health care delivery system.” 42 C.F.R.

§ 491.9(c)(1). RHCs also provide “medical emergency procedures as a first response to common life-

threat ening injuries and acute illness and has available the drugs and biologicals commonly used in

life saving procedures, such as analgesics, anesthetics (local), antibiotics, anticonvulsants, antidotes

and emetics, serums and toxoids.” Id. 491.9(c)(3). Services in RHCs are furnished by a physician

or a mid-level practitioner, such as a nurse p ra ctitioner or physician assistant, acting under the

direct ion of a physician. Id. § 440.20(b)(1)-(3).

Louisiana’s efforts to increase DSH payment adjustments

Lou isiana is largely rural and most of the rural areas are medically under-served. See 67 Fed.

Reg. 21962-67 (May 1, 2002) ( listing urban areas from the 2000 census). Recognizing that small

rural hospitals bear significant costs for the services they provide to low-income uninsured patients

through their “hospital-based” clinics,1 Lou isiana sought guidance from HHS as to how those costs

could be taken into account as part of a rural hospital’s DSH payment adjustment. In a January 19,

1999 letter U.S. Senat or John Breaux asked Donna Shalala, the then Secretary of HHS, to clarify

when RHC costs could be taken into account for DSH purposes. In her response, S ecretary Shalala

wrote:

1 RHCs are eligible to be “hospital-based RHCs” if certain conditions are met. See 42
C.F.R. § 413.65.

While I agr ee that a state has discretion to ‘license or formally approve’ a hospital-
based RHC as an outpatient hospital clinic for purpo ses of the Medicaid DSH
program, I [cannot] require that states consider t he co sts o f such a facility in
calculating DSH limits. Under applicable law, a St ate has the flexibility to include a
hospital-based RHC under the license of the hospital, to separately license a hospital-
based RHC, or to issue a license which recognizes the dual nature of the clinic as both
an outpatient hospital clinic and an RHC. Where a state has chosen to license these
clinics as hospital outpatient departm ent s, and they are certified as part of the
hospital, the state would be able to include the uncompensated care costs related to
RHC-provided hospital out pat ient services in the calculation of a hospital’s DSH
payment limit. However, if the state has decided that its hospital-based RHCs are to
be separately licensed, then the clinics’ costs cannot be included in DSH calculations.

. . .

Our underst anding is that Lou isiana law requires separate licensing of RHCs and does
not provide for any other formal approval process to designate outpatient hospital
facilities. Even if an RHC in Louisiana is based at the hospital and owned by the same
overall institution, its uncompensated care costs canno t be recognized for DSH
purposes because the services are not considered hospital services by Medicaid. The
services provided by these entities can only be considered RHC services, and these
clinics would receive cost-based reimbursement for their expenditures. This
distinction is critical because, as stated above, only uncompensated costs associated
with hospital services can be included in the Medicaid hospital specific DSH limit
calculation. However, if Louisiana were to create a process to licence (sic) or
“formally approve” hospital-based RHCs as hospital outpatient departments, then
the clinics’ uncompensated care costs associated with providing hospital outpatient
services could be included in the DSH calculation for their affiliated hospitals.

Letter from Donna E. Shalala, Secretary of Health & Human Services, to Senator John B. Breaux

1-2 (July 30, 1999) (emphasis added).

The Louisiana legislature responded to Secretary Shalala’s letter by immediat ely amending the

stat e stat ute governing RHC licensing requirements. The amendment pro vides:

[A] rural health clinic that meets the definition o f t he Health Care Financing
Administration as hospital-based and is operated by a rural hospital . . . shall not be

required to secure a separate license to receive cert ification by the He alth Care
Financing Administrat ion and designated reimbursement under Medicaid and
Medicare as long as the rural hospital meets stat e licensure requirements. Such
hospital shall assure that the clinic meet s all other requirements of [the rural health
clinic licensure sta tut ue], as well as any pursuant rules and regulations . . . .

LA. REV. STAT. ANN. § 40:2197(G) (West 2001).

Having amended state law, the State submitt ed a state plan amendment (“ SPA 01-03”), to CMS

for approval. SPA 01-03 implemented Sec retary Shalala’s guidance by providing t hat : “Any

uncompensated cost s of pro viding health care services in a rural health clinic licensed as part of a

small rural hospital . . . shall be considered outpatient hospital services in the calculation of

uncompensated costs.” Letter from David W. Hood, Secretary, Louisiana Department o f Health &

Hospitals, to Calvin G. Cline, Associate Regional Administrato r, Health Care Financing

Administration Att achment 4 (May 15, 2001) ( emphasis added).

CMS disapproved SPA 01-03 on August 15 , 2001. CMS referred to regulations defining

“outpatient ho sp ital services” in order to conclude that the services at issue did not fall within the

meaning of the term “hospital services”, as used in 42 U.S.C. § 1396r-4(g). See 42 C.F.R. 440.20(a).

Despite the fact that state law no longer required separate licensing of hospital-based RHCs, the

disapproval letter predicated its analysis on the seemingly inappo site observation that “a state may

not include costs or r evenues in the DSH calculation which are attributable to services rendered in

a separately licensed/certified entity, even if that entity is owned by the same institution.” Letter

from Thomas A. Scu lly, Administrato r for Centers for Medicare & Medicaid Services, to David W.

Hood, Secret ary, Louisiana Department of Health & Hospitals (Aug. 15, 2001) (emphasis added).

The State requested reconsideration, and a hearing officer convened an administrat ive hearing on

January 30, 2002. See 42 C.F.R. § 430.18 (providing for review of CMS disapprovals). The hearing

officer on June 7, 2002, recommended that the disapproval be upheld. The Administrat or on August

20, 2002, adopted the hearing officer’s recommendation and upheld the disapproval. The

Administrator st ated t hat because hospital services and RHC services are defined separat ely under

the Social Securit y Act and its implementing regulations, RHC services can never be considered

outpatient hospital services. Louisiana Stat e Plan Amendment 01-03, Doc. No. 2002-03 (Centers

of Medicare & Medicaid Services Aug. 19, 2002). The Administrato r reached that conclusion despite

the fact that oftent imes the clinics are licensed by the hospital and provide exactly the same types of

services as the hospital’s outpat ient emergency room, and the costs o f providing these services are

borne by the ho spitals. Louisiana timely appeals.

II. STANDARD OF REVIEW

This Court reviews the Administrato r’s decision disappro ving a state plan amendment under the

Administr at ive Procedure Act, 5 U.S.C. §§ 701 -706 (2003), to ensure that the decision was not

arbitrary, capricious, an abuse of discretion, or otherwise not in accordance with law. See 5 U.S.C.

§ 706; Harris County Hosp. Dist. v. Shalala, 64 F.3d 220, 221 (5th Cir. 1995). In addition, t his

Court must defer to the Secretary’s interpretation o f Medicare legislation and its att endant

regulations—the Secretary’s interpre tat ion of Medicare regulations is given “contro lling weight unless

it is plainly erroneous or inconsistent with the regulation.” Id. If a statu te is involved and its meaning

is unambiguous, this Court must give effect to the intent o f Congress. See Chevron U.S.A., Inc. v.

Natural Res. Def. Council, Inc., 467 U.S. 837, 842 (1984). This Cou rt “shall have jurisdiction to

affirm the action of the Secretary or to set it as ide, in whole or in part.” 42 U.S.C. § 1316(a)(5)

(West 1991).

III. DISCUSSION

The dispositive issue in this case is whether the Administrator ’s disapproval of Louisiana’s

proposed st ate plan amendment was arbitrary or cap ricious, where the Administrato r determined

that t he term “hospital services” as used in 42 U.S.C. § 1396r-4(g) do es not include services

provided by RHCs.

A. Analysis

Louisiana and its amicus list three reasons why the Administra to r’s disapproval of SPA 01-03

was arbitrary and capricious: (1) the services provided by hospital-based RHCs that are not

separat ely licensed fall within the regulato ry definition of “outpat ient hospital services”; (2) the

Congressional purpose behind the DSH prog ram support s reimbursing hospital-based RHCs for

the cost o f caring for uninsured patients; and (3) CMS’s own regulations recognize hospital-based

RHCs are integral to their parent hospitals. CMS responds that the Administrator correctly found

that “outpat ient hospital services” and “rural health clinic services” are separate and distinct

catego ries of services.

(1) Whether services provided by hospital-based RHCs that are not separately licensed

fall within the regulatory definition of “outpatient hospita l services.”

The hosp ital-specific DSH limit allows reimbursement only of “the costs incurred during the

year o f furnishing hospital services . . . .” 42 U.S.C. § 1396r-4(g)(1)(A) (emphasis added).

Not ing that the agency has not defined “hospital services” for purpo ses of § 1396r-4(g), Louisiana

asserts that Congress intended the phrase to include both inpatient and outpatient hospital

services. In describing the 1993 DSH amendment, Congress wro te t hat the bill limits the amount

of DSH payment adjustments to the co sts “these facilities incur in furnishing inpatient or

outpatient services to Medicaid-eligible pat ients and uninsured patients, less payments from

Medicaid other than DSH payment adjustments” and uninsured pat ients. H.R. CONF. REP. NO.

103-213, at 835 (1993), reprinted in 1993 U.S.C.C.A.N. 1088, 1524 (emphasis added). CMS

concedes that the phrase “hospital services” in § 1396r-4(g)(1) (A) refers to both inpatient and

out patient hospital services.

HHS regulations define both “inpatient hospital services” and “outpat ient hospital services.”

“Outpat ient hospital services” is defined as “preventat ive, diagnostic, therapeut ic, rehabilitative,

or palliative services” that, among other things, are furnished by an institution that is “licensed or

formally approved as a hospital by an officially designated author ity for State standard-set ting . . .

.” 42 C.F.R. § 440.20. Louisiana asserts that services provided by hospital-based RHCs

indisputably satisfy the first part of the definition, being “preventat ive, diagnostic, therapeut ic,

rehabilitat ive, or palliative.” RHCs satisfy the “licensed o r formally approved” r equirement,

Louisiana maintains, because the clinics are not licensed independent ly from the parent hospitals.

Rather t han rebuffing Louisiana’s textual argument, with which it ag rees in part, CMS

analyzes the term “hospital services” with the premise that “outpat ient hospital services” and

“rural health clinic services” are mutually exclusive. CMS no tes: (1) federal statu tes and

regulations distinguish the terms in at least two places, see 42 U.S.C. §§ 1396d(a)(2)

(enumerating categories of medical assistance services, including outpat ient hospital services and

rura l health clinic services); 42 C.F.R. § 440.20 (defining each term); (2) unt il recently, RHC

services and outpat ient hospital services were subject t o two ent irely distinct payment reg imes,

see, e.g., 42 C.F.R. § 447.371 (designating reimbursement rules for ru ral health clinics); and (3)

Lou isiana itself recognizes in its state plan that RHC services and outpatient hospital services are

distinct categories of services. CMS assumes, without explanation, that any service that a RHC

render s may never be considered an outpatient hospital service even if the service fits w ithin the

regulato ry definition of “hospital out patient service”.

We agree with Lou isiana that a hospital-based RHC functions as a part of the hospital with which

it is affiliated. The hospital employs clinic personnel, pays the clinic’s bills, perfo rms quality

assurance, credent ials the physicians and physician assistants employed by the clinic, owns or leases

the building in which the clinic is located, handles payroll functions for the clinic, and provides

medical supplies to the clinic.

(2) Whether reimbursing hospital-based ru ral health clinics for the cost of caring for uninsured

pat ients fulfills the Congressional purpose of DSH payment ad justments.

Lou isiana argues that the Administrato r’s interpretation of § 1396r-4(g) conflicts with the broad

goal of the DSH program—to support hospitals that serve low-income patients. Louisiana claims

that Congress has, on multiple occasions, demonstrat ed an intention of broadly defining the DSH

program. See, e.g., H.R. Rep. No. 100-391, at 524-27 (1987) (demonstrating: (1) Congress’s

solicitude for the needs of rural hospitals by exempting them from certain requirements ot herwise

applicable to DSH ho spitals, and (2) Congress’s awareness of state plans that offer extra pa yments

to some hospitals because they provide “outpat ient services and outpatient pharmacy to Medicaid and

non-Med icaid eligible low-income pat ients”); H.R. REP. NO. 101-964, at 868, 871 (1990) (exp laining

new provision in § 1396r-4(c)(3) that allows additional DSH payments to designated hospitals to

finance services for Medicaid and low-income patients).

Lou isiana recognizes that when Congress amended the statute in 1993, it introduced a hospital-

specific DSH limit. But Louisiana emphasizes that the 1993 amendment’s use of the phrase “hospital

services” expanded the range of services covered by DSH by explicitly rejecting HCFA’s former

position that only inpatient services were covered. See, e.g., State of New York by Perales v. Bowen,

811 F.2d 776, 777-78 (2d Cir. 1987) (considering a co ntent ion by HCFA that DSH adjustment

payments could not include the costs of outpatient hospital service s). Lo uisiana contends that the

Administrato r’s interpretat ion—which precludes reimbursement to hospitals for uncompensated care

provided in their RHCs even though the same care provided to the same patients in a less clinically

appropriate and more cost ly emergency room would be covered—is antithetical to the intention of

Congress. Here to o it seems that Louisiana presents the stronger argument.

(3) Whether CMS’s ow n regulations recognize hospital based rural health clinics are

integral to their parent hospitals.

Lou isiana finally argues that t he regulations governing whether a RHC is hospital based2

demonstrate that qualifying clinics operate as any other hospital outpatient department. For instance,

the regulations require that, in order to be considered hospital based, a clinic must: have common

licensure with the parent facility; provide services that are fully integrated with the hospital’s services;

share income and expenses with the hospital; hold out to the public that it is part of the hospital; and

demonstrate it is under the contro l and ownership of the hospital. See 42 C.F.R. § 413.65(d)(3).

Louisiana also not es that the regulations have treat ed RHCs as hospital outpat ient departments

for Medicare reimbursement limitations. Unt il recent ly, Medicare reimbursed outpatient services on

2 The governing regulations refer to “provider based” RHCs. See, e.g., 42 C.F.R. §
413.65. Hospital based RHCs are a subset of provider based RHCs.

a reasonable-cost basis, except that certain reductions in t he calculation of reasonable cost s were

mandated. Under 42 C.F.R. § 413.124, “the reasonable costs of outpat ient hospital services (other

than capital-related costs of such services) are reduced by 5.8 percent.” Similarly, under 42 C.F.R.

§ 413.130, capital-related costs o f these hospitals are reduced by 10 percent. In the past, HCFA

required hospitals to treat their hospital-based RHCs as outpatient departments for reimbursement

purposes.

It seems clear that, without justification, the Administrato r’s decision made an assumption about

out patient hospital services and RHC services—that they are subst antially different—that HCFA’s

previous regulations showed to be unfounded.

B. The Administrato r’s decision was arbitrary and capricious

Lou isiana changed its law in response to, and it s underst anding is in accordance with, former

Secretary Shalala’s guidance . Lo uisiana eliminated Secretary Shalala’s primary objection to the

plan—separate licensing requirements for RHCs—and instead adopted a common licensure reg ime.

Not only were these changes substantial and made in good faith by the Louisiana legislature, but ,

when questioned directly at oral argument, counsel for CMS was unable to offer any other language

that Louisiana should have used to comply with Secretary Shalala’s letter.

CMS does not seriously dispute that RHCs provide medical services t raditionally provided in

hospitals. We agree with Louisiana that commonly-licensed RHCs, like traditional hospitals, provide

medical service that is “preventat ive, diagnostic, therapeutic, rehabilitative, or palliative,” 42 C.F.R.

§ 440.20, t hereby satisfying the first part of the definition o f “hospital services”.

The second part of the definition requires services to be furnished by an institu tion that is

“licensed or formally approved as a hospital by an officially designated authority for State standard-

setting . . . .” Id. The Administrato r adopt ed the recommendation of a hearing officer who ignored

the critical fact that Lou isiana, with an eye to this definition, enacted a system of common licensure

for hospital based RHCs. Whether medical care falls within the second part of the definition heavily

depends on the licensing scheme of the inst itu t ion furnishing the service. The Administrat or’s

assumpt ion— that the nature o f a service, and not the circumstances under which the service is

delivered, determines its categorization—ignores the common licensure scheme, the clea r textual

analysis offered by Lo uisiana, and the previous Medicare regulations that analyzed hospitals and

RHCs in a similar manner. Given t he Administrator’s decision was made without proper

consideration of the appropriate facts and contravenes prior regulations promulgated by the HCFA

itself, we hold that the Administrato r’s decision was arbitrary and capricious, and cannot stand.

IV. CONCLUSION

For the above stated reasons, we REVERSE the judgment of the Administrator.