Effective October 1, 2013, new rules for inpatient hospital reimbursement under the Medicare program make final two sets of proposed rules that the Centers for Medicare & Medicaid Services (CMS) published in the Spring 2013 – the definition of an inpatient hospital stay based on time and a hospital rebilling option. Neither set resolves the problem of Observation Status for Medicare beneficiaries.
Observation Status refers to the classification of hospital patients as "outpatients," even though, like inpatients, observation patients may stay for many days and nights in a hospital bed, receive medical and nursing care, diagnostic tests, treatments, supplies, medications, and food. The classification of a hospitalized patient as an "outpatient," however, causes many problems for the patient. Without a three-day inpatient hospital stay, the patient does not meet Medicare's requirement for Medicare coverage of a subsequent stay in a skilled nursing facility (SNF). Patients in Observation Status must pay out-of-pocket for their nursing home care, with bills often totaling many thousands of dollars.
CMS Response to Observation Status
For at least the past three years, CMS has repeatedly expressed concern about Medicare beneficiaries' increasingly lengthy stays in hospitals as outpatients and the impact of the classification on beneficiaries' need for post-acute care in a SNF. Unfortunately, this has not yet translated into action that resolves the issue for beneficiaries. CMS expresses hope that the new final regulations, published August 19, 2013, will "reduce the frequency of extended observation care when it may be inappropriately furnished." Unfortunately, the regulations and CMS's lengthy discussion of them in a section of the preamble entitled "Payment Policies Related to Patient Status" do not resolve the problem of Observation Status for Medicare beneficiaries.
CMS explicitly states in the preamble, "[w]hile outpatient time may be accounted for in application of the 2-midnight benchmark, it may not be retroactively included as inpatient care for skilled nursing care eligibility or other benefit purposes." In practice, this means there will still be Medicare beneficiaries who spend three or more days in the hospital who will not qualify for Medicare covered post-acute care at a SNF. Some or all of their time in the hospital will be considered outpatient observation, and not count toward the required three-day stay.
A direct and simple solution to beneficiaries' primary problem with observation status lies in bipartisan legislation pending in Congress. The two identical bills would require that all time spent in the hospital – whether called observation or inpatient – be included in calculating the three-day inpatient qualifying hospital stay.
1. Regulatory Requirements
A new 42 C.F.R. §412.3(a) provides that a patient "is considered an inpatient of a hospital,…if formally admitted as an inpatient pursuant to an order for inpatient admission by a physician or other qualified practitioner…." The physician orders inpatient status when he or she "expects the patient to require a stay that crosses at least 2 midnights." Stays expected to be shorter than at least two midnights "are generally inappropriate for inpatient admission and inpatient payment under Medicare Part A," unless the surgical procedure is "specified by Medicare as inpatient only under §419.22(n)." The physician's "expectation…should be based on such complex medical factors as patient history and comorbidities, the severity of signs and symptoms, current medical needs, and the risk of an adverse event." The physician order is part of "physician certification of the medical necessity of hospital inpatient services…."
Physician certification, which begins with an order for inpatient admission, requires the physician to certify the reasons for the hospitalization, the estimated time the patient will remain in the hospital, and "plans for post-hospital care, if appropriate." The certification "must be completed, signed, and documented in the medical record prior to discharge."
A physician's admission order has "no presumptive weight" and both the admission order and the physician certification "will be evaluated in the context of the evidence in the medical record." CMS intends to provide additional information about what "evidence in the medical record" means in future instructions and manual revisions.
The preamble states repeatedly that a physician admission order cannot be retroactive. But, ambiguously and inconsistently, CMS also describes how physicians should treat outpatient time in making inpatient admission decisions:
[W]e expect that the decision to admit the beneficiary should be based on the cumulative time spent at the hospital beginning with the initial outpatient service. In other words, if the physician makes the decision to admit after the beneficiary arrived at the hospital and began receiving services, he or she should consider the time already spent receiving those services in estimating the beneficiary's total expected length of stay. For example, if the beneficiary has already passed 1 midnight as an outpatient observation patient or in routine recovery following outpatient surgery, the physician should consider the 2 midnight benchmark met if he or she expects the beneficiary to require an additional midnight in the hospital. This means that the decision to admit becomes easier as the time approaches the second midnight, and beneficiaries in medically necessary hospitalizations should not pass a second midnight prior to the admission order being written.
The preamble discusses two related concepts of "2-midnight presumption" and "2-midnight benchmark," first describing the 2-midnight presumption:
Under the 2-midnight presumption, inpatient hospital claims with lengths of stay greater than 2 midnights after the formal admission following the order will be presumed generally appropriate for Part A payment and will not be the focus of medical review efforts absent evidence of systematic gaming, abuse or delays in the provision of care in an attempt to qualify for the 2-midnight presumption . . . .
For purposes of the 2-midnight benchmark, CMS says that medical reviewers may consider all time spent by a patient in the hospital, regardless of how the time is identified:
We emphasize that the time the beneficiary spent as an outpatient before the inpatient admission order is written will not be considered inpatient time, but may be considered by physicians in determining whether a patient should be admitted as an inpatient, and during the medical review process for the limited purpose of determining whether the 2-midnight benchmark was met and therefore payment is generally appropriate under Part A [emphasis supplied]. 
In contrast, for patients not arriving in the hospital through the emergency room (i.e., for patients whose hospitalization is scheduled) "the starting point for medical review purposes will be when the beneficiary starts receiving services following arrival at the hospital," presumably, including observation time.
The distinction made between patients who go to the emergency room and those whose hospitalization is planned suggests that CMS's concern with observation status is primarily to do with patients who arrive in the hospital through the emergency room.
1. Regulatory Requirements
A new §414.5 is entitled "Hospital services paid under Medicare Part B when a Part A hospital inpatient claim is denied because the inpatient admission was not reasonable and necessary, but hospital outpatient services would have been reasonable and necessary in treating the beneficiary." Section 414.5(a) authorizes a hospital to rebill Part B if a Part A claim is denied or if the hospital determines after the patient is discharged that the patient's hospital stay should have been billed as outpatient rather than as inpatient. Hospitals must submit Part B claims within one year of providing the service. Of note, CMS reports that more than 300 commenters opposed the proposal to limit rebilling under Part B to claims submitted within one calendar year of service and that only a single commenter supported that proposal. 
If a hospital submits a Part B claim for a patient, following the patient's discharge, the patient retains inpatient status for purposes of Medicare coverage of the subsequent SNF stay. CMS provides:
the status of the beneficiaries themselves does not change from inpatient to outpatient under the Part B inpatient billing policy. Therefore, even if the admission itself is determined to be not medically necessary under this policy, the beneficiary would still be considered a hospital inpatient for the duration of the stay – which, if it occurs for the appropriate duration, would comprise a 'qualifying' hospital stay for SNF benefit purposes so long as the care provided during the stay meets the broad definition of medical necessity described above [referring the Medicare Benefit Policy Manual, Chapter 8, §20.1]
However, if the hospital rebills Medicare under Part B, it must refund the Part A deductible and bill the patient for the Part B copayments.
CMS rejects commenters' suggestions to give patients an additional standardized notice or a Frequently Asked Question sheet or to add information to the Important Message from Medicare (IM) form, to alert patients at the time of inpatient admission that their status might be changed during, or after, their hospital stay. Describing such notice as "likely [to] create undue confusion and concern for beneficiaries," CMS says that it will engage in an educational campaign for beneficiaries about the final rules. This will include information in the annual Medicare & You publication and Are You a Hospital Inpatient or Outpatient? If You Have Medicare – Ask!. In addition, the Medicare Summary Notice will include new messages.
These newly created MSN messages explain that the hospital may submit the claim under Part B and that different cost-sharing may apply. In this manner, we will incorporate the commenters' suggestion on the timing of post-discharge delivery of information regarding billing under Part B for inpatient hospital services, consistent with our approach to delivering notices at a time when the information is most relevant.
CMS predicts that more patients will be inpatients under its revised regulations as a result of its new Part B inpatient billing policies.
Despite the new regulations, observation status will remain a problem for Medicare beneficiaries who need post-acute care in a SNF. Instead we look to the federal legislation and successful resolution of pending litigation brought by the Center for Medicare Advocacy which would resolve the problem of observation status for beneficiaries.
 78 Fed. Reg. 50495, 50906-954 (Aug. 19, 2013).
 78 Fed. Reg. 27486, 27644 (May 10, 2013). See CMA, “CMS Addresses Observation Status Again . . . And Again, No Help for Beneficiaries,” (Weekly Alert, May 16, 2013), https://www.medicareadvocacy.org/cms-addresses-observation-status-again-and-again-no-help-for-beneficiaries/.
 78 Fed. Reg. 16632 (March 18, 2013). See CMA, “CMS’ Proposed Rules on Observation Status Would Not Help Beneficiaries” (Weekly Alert, March 28, 2013), https://www.medicareadvocacy.org/cms-proposed-rules-on-observation-status-would-not-help-beneficiaries/.
 See the Center for Medicare Advocacy’s extensive materials on observation status, https://www.medicareadvocacy.org/medicare-info/observation-status/.
 42 U.S.C. §1395x(i); 42 C.F.R. §409.30(a)(1).
 In August 2010, CMS held an Open Door Forum on extended hospital observation stays, https://www.cms.gov/Medicare/Medicare-Fee-for-Service-Payment/HospitalOutpatientPPS/downloads/94244031HosptialObservationBedsListeningSession082410.pdf. CMS repeated the concern in proposed rules for the hospital prospective outpatient payment system, 77 Fed. Reg. 45155 (July 30, 2012); in final rules on the hospital prospective outpatient payment system, 77 Fed. Reg. 68426-433 (Nov. 15, 2012); in proposed rules on A-B rebilling, 78 Fed. Reg., 16632, 16634-634 (March 18, 2013); in proposed rules on time-based presumptions of inpatient status, 78 Fed. Reg.27486, 27644 (May 10, 2013); final inpatient prospective payment rules, 78 Fed. Reg. 50495, 50907 (Aug. 19, 2013).
 78 Fed. Reg., 50908.
 78 Fed. Reg. 50950.
 H.R.1179 and S.569, “Improving Access to Medicare Coverage Act of 2013.”
 42 C.F.R. §412.3(e)(1).
 42 C.F.R. §412.3(c).
 42 C.F.R. §424.13(a)(1)-(4).
 42 C.F.R. §424.13(b).
 42 C.F.R. §412.46(b).
 78 Fed. Reg., 50944.
 78 Fed. Reg., 50942,
 78 Fed. Reg., 50946.
 78 Fed. Reg., 50949.
 78 Fed. Reg., 50950.
 78 Fed. Reg., 50952.
 42 C.F.R. §414.5(c).
 78 Fed. Reg., 50922.
 78 Fed. Reg., 50918.
 78 Fed. Reg., 50921. See also “[W]hen the inpatient hospital stay is paid under Part B, the hospital stay remains inpatient from the time of admission and may continue to count towards qualification for skilled nursing facility coverage, and the beneficiary is liable for the Part B inpatient charges.” 78 Fed. Reg., 50934.
 78 Fed. Reg., 50918.
 CMS Product No. 11435, at http://www.medicare.gov/Pubs/pdf/11435.pdf.
 78 Fed. Reg., 50919.
 78 Fed. Reg., 50919.
 78 Fed. Reg., 50936, 50937 (Table 2).
 Bagnall v. Sebelius, No. 3:11-cv-01703 (D. Ct., filed Nov. 3, 2011), https://www.medicareadvocacy.org/medicare-info/observation-status/.