Today, the Office of Inspector General ("OIG") of the Department of Health and Human Services ("HHS") released an advisory opinion interpreting for the first time the OIG’s authority to exclude from Federal health care programs individuals and entities submitting claims "substantially in excess" of "usual charges." In this case, a supplier of durable medical equipment ("DME") proposed to charge Medicare 21 percent to 32 percent more than it would charge "cash and carry" retail customers for identical products. The opinion is significant for health care providers and suppliers because the OIG has formally recognized that the differing costs of doing business with Medicare, if documented, can constitute "good cause" to justify a pricing differential. While the advisory opinion does not constitute binding precedent on this issue, it nevertheless contains the most detailed analysis to date by the OIG of the agency’s interpretation of the term "substantially in excess," providing needed guidance on this difficult issue.

The arrangement analyzed in Advisory Opinion 98-8 involved the subsidiary of a DME supplier that operates a "superstore," selling approximately 3000 medical and health-related products to customers for use in their homes. The subsidiary does not currently participate in the Medicare program, but in its request for an advisory opinion, it indicated its intent to become a Medicare approved supplier for approximately 300 of the items, including urological, ostomy, orthotic, and wound care products. In accepting assignment for claims for these products, the subsidiary proposed to charge Medicare, as its "actual charge," the Medicare fee schedule amount. Based upon five sample charges submitted to the OIG with the request, this billed amount would exceed by 21 percent - 32 percent the charges for its "cash and carry" customers.

This proposed arrangement is somewhat unusual because the DME supplier in question did not participate in the Medicare program at the time that it submitted its request for the advisory opinion. Thus, the supplier was able to identify several areas where compliance with Medicare supplier standards would create significant additional costs associated with serving Medicare beneficiaries, including:

Other costs which the DME supplier asserted would need to be incurred in the course of Medicare participation included those related to equipment leasing, product returns, and delays and denials in payment.

DME suppliers are reimbursed by the Medicare program for the items they provide to Medicare-eligible patients at 80 percent of the lesser of (i) the "actual charge" for the equipment, or (ii) an amount determined according to a DME payment fee schedule. Beneficiaries pay the 20 percent co-payment and any deductible. See 42 U.S.C. § 1395m(a)(1)(B). Medicare law does not require providers and suppliers to give Medicare their "best" or lowest price. Under 42 U.S.C. § 1320a-7(b)(6), however, the OIG has the authority to exclude individuals and entities from participation in Federal health care programs (including Medicare and Medicaid) when it determines that an individual or entity has:

Any exclusion would last at least one year. See 42 U.S.C. § 1320a-7(c)(3)(F).

Regulations implementing this exclusion authority state that charges substantially in excess of a supplier’s usual charges are permissible where they are "due to unusual circumstances or medical complications requiring additional time, effort, expense or other good cause." 42 C.F.R. § 1001.701(c). Neither "substantially in excess" nor "usual charge," however, is defined. Rather, according to the preamble to the regulations, billing patterns of individuals and entities are to be evaluated on a case-by-case basis. See 57 Fed. Reg. 3298, 3307 (1992).

III. The OIG’s Opinion

In order to determine whether the supplier’s proposed Medicare charges were "substantially in excess" of its usual charges for DME, the OIG first determined the supplier’s usual charge. While not defining the term "usual charge," the OIG noted that the DME supplier sold virtually all of its products, including products eligible for Medicare reimbursement, to "cash and carry" customers at posted prices. Hence, according to the OIG, those prices constituted the supplier’s "usual" charge for those products.

Neither did the OIG formally define the term "substantially in excess." At the same time, the OIG concluded that the supplier’s proposed Medicare charges, equaling 21 percent - 32 percent more than its charges for "cash and carry" customers, were in fact "substantially in excess" of its usual charges. This differential charging practice, in the OIG’s view, would subject the suppler to exclusion from the Medicare and other health care programs absent "good cause."

The OIG went on to conclude that the "good cause" exception could be met if the increase in charges to Medicare over the supplier’s usual charge for identical items were "solely attributable to complying with Medicare requirements." The OIG specified that any higher charges to Medicare, in order to avoid exclusion under the "substantially in excess" provisions, should bear a "direct and reasonable" relationship to the additional costs incurred by the supplier to comply with Medicare program requirements, after deducting any costs solely attributable to its "cash and carry" business. The OIG further stated that these costs should be allocated to items provided to Medicare beneficiaries using a "reasonable and generally accepted accounting methodology."

The OIG opinion then suggests a "benchmarking" test:

Because the DME supplier could not, at the time of its submission, determine the entirety of its additional costs, the OIG declined to determine whether the supplier’s charge for any particular item would meet the "good cause" exception. Thus, the OIG could not make a definitive finding on whether the supplier would be subject to exclusion under 42 U.S.C. § 1320a-7(b)(6).

As a technical matter, it is important to note that the advisory opinion applies only to the DME supplier requesting the opinion, and by its terms cannot be relied upon by anyone other than the individual requesting the opinion. In addition, the opinion is limited in scope to the specific arrangement described therein, and has no applicability to other arrangements, even those which appear similar in nature and scope. As a practical matter, however, the OIG’s advisory opinions are widely circulated among parties that have not requested opinions, because they contain important insights into how the OIG will analyze a particular arrangement.

Usual Charge. Under the facts presented in Advisory Opinion 98-8, the OIG conducted a relatively simple analysis to determine the supplier’s usual charges, because the supplier used only one charge for an item supplied to customers. Because "virtually" all of the supplier’s charges were to "cash and carry" customers, the OIG could easily determine the supplier’s "usual" charge. The advisory opinion thus does not define "usual charge," nor does it address how the OIG would approach a situation in which a supplier had a variety of prices (depending upon the payor) for an identical item or service. In such circumstances, the determination of the usual charge may be more difficult, especially in instances in which a supplier’s charges to different payors were both above and below the Medicare fee schedule amount for the same item.

Substantially in Excess. The advisory opinion concludes that where charges to the Medicare program exceed a supplier’s usual charge by 21 percent or more, such charges are "substantially in excess" of the supplier’s usual charges. Presumably, therefore, any entity submitting claims for charges that are 21 percent higher than the provider’s usual charges may be subject to exclusion from participation in Federal health care programs, absent good cause. It should be noted, however, that the OIG opinion does not address, and leaves unanswered, the question of the threshold at which a lesser charge differential (e.g., 5 percent, 15 percent, etc.) will be considered "substantially in excess" of a provider’s or supplier’s usual charge.

Good Cause. Significantly, the advisory opinion accepts the supplier’s argument that the costs of participating in the Medicare program may increase a supplier’s costs. A provider or supplier may submit claims that are "substantially in excess" of its usual charges for identical items or services if it can document that these higher charges bear a "direct and reasonable" relationship to costs incurred in complying with Medicare program requirements. As a practical matter, it may be difficult to attribute some costs to the Medicare program even where those costs are incurred as a direct result of participation. For example, increased staff time and training necessary to comply with Medicare program requirements and claims denials may be difficult to allocate. In such instances, to assist in demonstrating that costs are attributable to Medicare, entities may consider the use of time studies. Similarly, costs of upgraded computer equipment, software, telecommunications equipment, warehouse space, claims denials, and the like should all be documented and readily associated with the Medicare program in accordance with a generally accepted accounting methodology.

Profit Margin. The advisory opinion suggests a "profit margin" test for determining whether higher Medicare charges meet the "good cause" exception: namely, whether the supplier’s profit margin on Medicare items is less than or equal to the margin for "cash and carry" items. As a practical matter, however, many suppliers do not maintain records of profit margins on a product-specific basis. Further, the cost allocation process is an inexact one, and subject to wide variations among different entities. There would be significant administrative burdens associated with such benchmarking for most suppliers, and we question how readily the benchmarking test will be embraced.

If you have questions or would like further information on this topic, please contact Elizabeth Carder, Kevin Barry, or Eric Tower at (202) 414-9200, or any Reed Smith attorney with whom you consult.