The federal trial court properly vacated a final rule that changed agency policy in calculating disproportionate share hospital (“DSH”) payments for hospitals that treat Medicare Advantage patients, according to the US Court of Appeals for the District of Columbia Circuit. The trial court had found that the Secretary of Health and Human Services (“HHS”) had failed to explain the reasons behind its policy change or to provide adequate opportunity for notice and comment on the final rule.

Agreeing with the trial court, the DC Circuit held that the final rule from HHS was not a “logical outgrowth” of the proposed rule and did not find “harmless error” if the agency failed to comply with the Administrative Procedure Act. The DC Circuit explained that HHS had announced only a “proposal to clarify” its policy of excluding Medicare Advantage (Part C) days from the Medicare fraction and including them in the Medicaid fraction for calculating DSH, but the next year adopted a final rule with the “exact opposite” interpretation of the underlying statute. The DC Circuit recognized that this change – under which Medicare Part C Beneficiaries were to be counted in the Medicare fraction – had “enormous financial consequences for the hospitals.”

The DC Circuit affirmed its stance that agencies may not “pull a surprise switcheroo on regulated entities.” Accordingly, the DC Circuit upheld the trial court’s decision to vacate the final rule. But the appeals court found that the lower court went too far in ordering HHS to recalculate the reimbursement amounts under the pre-final-rule regulatory interpretation. The DC Circuit held that the proper course was to vacate and remand, rather than directing the agency on how to resolve the issue. Thus, it remains to be seen whether the hospitals who filed the appeal will receive DSH reimbursement calculated under the agency’s past approach. Going forward, HHS has established a new formula for DSH reimbursement that took effect in October 2013.

Read the opinion in Allina Health Services, et al. v Sebelius, DC Cir, No. 13-5011, 4/1/14.