St. Michale's Medical Center v. Leavitt

UNITED STATES DISTRICT COURT
FOR THE DISTRICT OF COLUMBIA

______________________________
)
ST. MICHAEL’S MEDICAL )
CENTER, et al., )
)
Plaintiffs, )
)
v. ) Civil Action No. 07-2036 (EGS)
) Civil Action No. 07-1484 (EGS)
KATHLEEN SEBELIUS,1 Secretary )
of the Department of Health )
and Human Services, )
)
Defendant. )
______________________________)

MEMORANDUM OPINION

Plaintiffs are twenty-two urban hospitals seeking additional

reimbursement from the Secretary of Health and Human Services

(“defendant” or the “Secretary”) for inpatient services

plaintiffs provided to Medicare beneficiaries during fiscal years

(“FY”) 2000 and 2001.2 The parties filed cross motions for

summary judgment, which this Court referred to a magistrate judge

1
Pursuant to Federal Rule of Civil Procedure 25(d),
Secretary Sebelius, in her official capacity as the Secretary of
the Department of Health and Human Services, is automatically
substituted as the named defendant.
2
This case was filed as two separate actions: Civil
Action No. 07-2036, which addresses claims relating to FY 2000,
and Civil Action No. 07-1484, which addresses claims relating to
FY 2001. On January 4, 2008, the Court granted the parties’
joint motion to consolidate the cases, and nothing substantive
has been filed in Civil Action No. 07-2036 since the filing of
the Administrative Record in February 2008. Because Civil Action
No. 07-1484 is the operative case, all citations to the record in
this Memorandum Opinion reference that case unless otherwise
noted.
for a Report and Recommendation. Now pending before the Court

are the parties’ objections to the Report and Recommendation.

Upon careful consideration of the Report and Recommendation, the

parties’ objections and responses to objections, the cross

motions, responses and replies thereto, the applicable law, the

entire record herein, and for the reasons stated below, the Court

rejects the magistrate judge’s recommendations, GRANTS

defendant’s motion for summary judgment, and DENIES plaintiffs’

motion for summary judgment.

I. BACKGROUND

A. Medicare Reimbursement and the Prospective Payment
System

The Medicare program, established by Title XVIII of the

Social Security Act, 42 U.S.C. § 1395 et seq., pays for covered

medical services provided to eligible aged and disabled persons.

Part A of the Medicare program authorizes payments for, among

other things, certain inpatient hospital services. See id. §§

1395c, 1395d. The Centers for Medicare and Medicaid Services

(“CMS”) (formerly known as the Health Care Financing

Administration (“HCFA”)) is the agency within the Department of

Health and Human Services that has been designated by the

Secretary to administer the Medicare program. CMS, in turn, has

delegated many of Medicare’s audit and payment functions to

fiscal intermediaries, who are generally private insurers. See

2
id. § 1395h.

Although hospitals used to be reimbursed for their actual

costs in treating beneficiaries (as long as those costs were

reasonable), most hospitals are now reimbursed through the

Prospective Payment System (“PPS”). See id. § 1395ww(d). Under

the PPS, hospitals are “paid fixed rates for providing specific

categories of treatment, known as ‘diagnosis related groups,’ or

‘DRGs.’” Bellevue Hosp. Ctr. v. Leavitt, 443 F.3d 163, 168 (2d

Cir. 2006) (citing 42 U.S.C. § 1395ww(d)). Medicare

administrators develop these rates by setting a “standard

nationwide cost rate – the ‘federal rate’ – based on the average

operating costs of inpatient hospital services. They then assign

a weight to each category of inpatient treatment, or [DRG].”

Methodist Hosp. of Sacramento v. Shalala, 38 F.3d 1225, 1227

(D.C. Cir. 1994) (internal citation omitted). A hospital’s final

reimbursement per patient is determined by multiplying the

patient’s DRG and the federal rate, after that rate has been

“standardized” by making adjustments based on a variety of

factors. See 42 U.S.C. § 1395ww(d)(2)(C) (listing the factors

used for standardization).

To account for regional variations in labor costs, the

Secretary adjusts the labor-related portion of the federal rate

by a geographically specific factor commonly referred to as the

“wage index.” See 42 U.S.C. § 1395ww(d)(3)(E)(i). Specifically,

3
§ 1395ww(d)(3)(E)(i) states that

the Secretary shall adjust the proportion, (as
estimated by the Secretary from time to time) of
hospitals’ costs which are attributable to wages and
wage-related costs, of the DRG prospective payment
rates computed under subparagraph (D) for area
differences in hospital wage levels by a factor
(established by the Secretary) reflecting the relative
hospital wage level in the geographic area of the
hospital compared to the national average hospital wage
level.

Id.; see also Robert Wood Johnson Univ. Hosp. v. Shalala, 297

F.3d 273, 276 (3d Cir. 2002) (“The wage index compares the

average hourly wage for hospitals in a given geographic area with

the national average hourly wage, which in turn determines the

payment rate above or below the national average at which a

hospital is reimbursed. The wage-index for an area generally

applies to all hospitals physically located within that

geographic area.” (internal citation omitted)).

B. Geographic Classification, Reclassification, and
the Impact on the Wage Index

For the purposes of the wage index, the Secretary classifies

a hospital as being located in either an urban or rural area

using Metropolitan Statistical Areas (“MSAs”), as defined by the

Executive Office of Management and Budget. See 42 C.F.R. §

412.64. Recognizing that these geographic classification

procedures impose a burden on some hospitals,3 Congress amended

3
The hospitals that tend to be most negatively impacted by
these classifications are those that compete for the same labor
pool with hospitals located in larger, urban areas with higher

4
the Medicare statute “to allow a hospital to seek

reclassification from its geographically-based wage area to a

nearby wage area for payment purposes if it meets certain

criteria.” Robert Wood Johnson, 397 F.3d at 276. The current

reclassification provisions permit a rural hospital that meets

those criteria to reclassify as urban, and qualifying urban

hospitals to reclassify either as rural or to another higher-wage

urban area. See 42 U.S.C. §§ 1395ww(d)(8)(B)(i) & (d)(10); 42

C.F.R. §§ 412.230-412.235. Congress also created the Medicare

Geographic Classification Review Board, a five-member entity that

reviews reclassification applications and, based on the specified

requirements, decides whether an applicant is eligible for

reclassification. See 42 U.S.C. § 1395ww(d)(10); 42 C.F.R. §

412.230.

Both Congress and the Secretary have recognized that

hospital reclassification can substantially impact the wage index

for both the geographic area from which a hospital originates and

the new area into which the hospital classifies. The Medicare

program therefore provides for circumstances when the wage index

data for an incoming rural hospital must be excluded from the

wage indexes. See Robert Wood Johnson, 297 F.3d at 276
(describing the “inequitable results” caused by this situation);
Athens Cmty. Hosp., Inc. v. Shalala, 21 F.3d 1176, 1177 (D.C.
Cir. 1994) (“[A] hospital that is in a rural area but must
compete for labor with hospitals in a nearby urban area may be
insufficiently reimbursed for the cost of providing services.”).

5
wage index of the urban area it is entering. 42 U.S.C. §

1395ww(d)(8)(C)(i)(I)-(II). Likewise, Congress implemented a

provision to prevent the wage index of a rural area from

decreasing when a hospital originating from that area

reclassifies into an urban area.4 See id. § 1395ww(d)(8)(C)(ii).

No such statutory provision exists for urban areas, but no

reclassification may result in the reduction of a wage index of

any county below that of the State’s rural areas.5 See id. §

1395ww(d)(8)(C)(iii); see also Def.’s Objections to Magistrate

Judge’s Report & Recommendation (“Def.’s Objections”) at 5

(“[T]he Act is silent with respect to how to calculate the wage

index for an urban area after a hospital has reclassified to

another area . . . .”). Plaintiffs in this lawsuit challenge the

Secretary’s since-changed practice of calculating the wage index

for urban areas without including data from hospitals that have

reclassified into higher-wage areas.

C. Reclassification and Urban Wage Indexes

The Secretary annually publishes rules in the Federal

Register setting forth both the methodology for calculating the

wage index and the wage indexes themselves. Beginning in 1991,

4
This is often referred to as a “hold harmless” provision,
because it ensures that hospitals in rural areas are “held
harmless” from the effects of a reclassification. See Def.’s
S.J. Mem. at 7.
5
This is sometimes called the “rural floor.”

6
the Secretary publicly acknowledged the increase in urban

reclassifications and, through notice and comment rulemaking,

considered various methods to calculate the wage index for urban

areas in the wake of such reclassifications. Despite proposals

to implement a “hold harmless” provision for urban hospitals

similar to the statutory provision in place for rural areas, the

Secretary repeatedly declined to do so. See, e.g., 65 Fed. Reg.

47054, 47077 (Aug. 1, 2000) (“[E]xcept for those rural areas in

which redesignation would reduce the rural wage index value, the

wage index value for each area is computed exclusive of the wage

data for hospitals that have been redesignated from the area for

purposes of their wage index.”); 56 Fed. Reg. 43196, 43221 (Aug.

30, 1991) (“[W]e considered . . . provid[ing] the same ‘hold

harmless’ protection that the statute affords to rural areas when

hospitals are reclassified from those areas. That is, we

considered providing that the wage index value for an urban area

could not be reduced due to the reclassification of hospitals

from that area. However, we do not believe this action would be

appropriate.”).

In 2001, however, the Medicare Payment Advisory Commission

(“MedPAC”) issued a report to Congress recommending that the

Medicare statute be amended to provide a “hold harmless”

provision for urban areas. See Def.’s S.J. Mem. at 10-11 (citing

Medicare Payment Advisory Comm’n, Report to the Congress:

7
Medicare Payment Policy 82 (Mar. 2001), http://www.medpac.gov/

documents/Mar01%20Entire%20report.pdf (“MedPAC Report”), and

describing the contents of the report). The report expressed

MedPAC’s opinion that the Secretary had the authority to make

such a change by way of regulation, but noted that the agency had

been “reluctant” to do so. MedPAC Report at 83 (“HCFA appears to

have the authority to make this change through regulation.

However, because the protection for nonreclassified

rural hospitals was enacted legislatively and Congress has not

legislated such protection for urban hospitals, HCFA has thus far

been reluctant to make the change itself.”).

Shortly thereafter, the Secretary did in fact propose

implementing a “hold harmless” provision for urban areas, and

discussed the MedPAC Report and its findings in the proposed

rule. See 66 Fed. Reg. 22646, 22678 (May 4, 2001). The rule was

adopted in August 2001 and has been in effect since FY 2002. See

66 Fed. Reg. 39828, 39865 (Aug. 1, 2001) (“Currently, the wage

index value for an urban area is calculated exclusive of the wage

data for hospitals that have been reclassified to another area.

For the FY 2002 wage index, we include the wage data for a

reclassified urban hospital in both the area to which it is

reclassified and the MSA where the hospital is physically

located.”).

8
 D. Administrative and Judicial Review

To receive reimbursement for services, hospitals file “cost

report[s]” with their intermediaries at the end of each fiscal

year. 42 C.F.R. § 405.1801(b)(1). Intermediaries then audit the

reports and determine the reimbursement amount owed to the

providers. That determination is memorialized in a Notice of

Program Reimbursement and issued to the provider. Id. §

405.1803(a)(2).

A hospital or group of hospitals dissatisfied with an

intermediary’s reimbursement determination may file an appeal

with the Provider Review Reimbursement Board (“PRRB”). See 42

U.S.C. § 1395oo(a)-(b). The PRRB is “an administrative review

panel that has the power to conduct an evidentiary hearing and

affirm, modify, or reverse the intermediary’s [reimbursement]

determination.” Your Home Visiting Nurse Servs., Inc. v.

Shalala, 525 U.S. 449, 451 (1999). Additionally, both the

statute and the corresponding regulations provide a mechanism for

the PRRB to grant expedited judicial review (“EJR”) where the

PRRB determines that it lacks the authority to decide a legal

issue:

Providers shall . . . have the right to obtain judicial
review of any action of the fiscal intermediary which
involves a question of law or regulations relevant to
the matters in controversy whenever the Board
determines (on its own motion or at the request of a
provider of services . . . ) that it is without
authority to decide the question, by a civil action
commenced within sixty days of the date on which

9
 notification of such determination is received.

42 U.S.C. § 1395oo(f)(1); see also 42 C.F.R. § 405.1842(f)(1)(ii)

(noting that before issuing an EJR decision, the PRRB must

determine that it “lacks the authority to decide a specific legal

question relevant to the specific matter at issue because the

legal question is a challenge either to the constitutionality of

a provision of a statute, or to the substantive or procedural

validity of a regulation or CMS Ruling”).

E. Factual and Procedural Background

Plaintiffs are hospitals located in multiple MSAs in New

Jersey, New York, and Connecticut from which at least one

hospital has classified to another area. See Compl. ¶¶ 3, 15.

In FY 2000 and 2001, plaintiffs submitted cost reports to their

fiscal intermediaries requesting reimbursement. Def.’s Statement

of Material Facts as to Which There is No Genuine Issue (“Def.’s

Statement”) ¶ 3. Plaintiffs were dissatisfied with their Notices

of Program Reimbursement because they believed that the data from

reclassified hospitals was improperly omitted from the wage-

index calculation, the exclusion of which resulted in reduced

reimbursements.6 Def.’s Statement ¶ 4; Compl. ¶¶ 15, 20.

6
Plaintiffs claim that recalculating the wage index with
data from the reclassified hospitals “would result in an increase
of [plaintiffs’] collective reimbursement of approximately
$23,956,069" for FY 2001 and approximately $20,588,699 for FY
2000. Compl., Civil Action No. 07-1484, at 14; Compl., Civil
Action No. 07-2036, at 14.

10
 On appeal to the PRRB, plaintiffs requested (1)

consolidation into group appeals for FY 2000 and 2001, and (2)

EJR. See Def.’s Statement ¶ 5; Admin. Record (“AR”) at 432-33.

The PRRB determined that EJR was appropriate in both cases

because the PRRB was “without the authority to decide the legal

question” presented by plaintiffs’ challenge to the reimbursement

determination. AR at 2. Specifically, the PRRB noted that

plaintiffs were not seeking the type of relief – “correction of

[plaintiffs’] own wage data” – that PRRB could provide. AR at 2.

“Rather, they are seeking to have the wages of reclassified

hospitals included in their wage index calculation.” AR at 2.

Because such a remedy would require an evaluation of the

lawfulness of the Secretary’s interpretation of the Medicare

statute, the PRRB concluded that EJR was appropriate. AR at 2.

As required by 42 U.S.C. § 1395oo(f)(1), plaintiffs filed

the instant complaints within sixty days of the PRRB’s respective

EJR determinations. After the cases were consolidated in this

Court, the parties filed cross motions for summary judgment. In

December 2008, the Court referred the case to a magistrate judge

for a Report and Recommendation. The magistrate judge filed her

Report and Recommendation on March 19, 2009, recommending that

both motions for summary judgment be denied and that the action

“be remanded to the Secretary for the articulation of findings,

as to each provider which is a Plaintiff in this action, with

11
respect to what ‘adjustment’ was made pursuant to 42

U.S.C. § 1395ww(d)(3)(E).” Report & Recommendation at 9.

In reaching this recommendation, the magistrate judge

reasoned that “the absence from the administrative record of any

indication of how CMS interpreted and applied 42 U.S.C. §

1395ww(d)(3)(E)” prevented judicial review of a final agency

action. Id. at 6. The Report and Recommendation thus concluded

that “[i]n the absence of any record in the administrative record

of what determination CMS made with respect to the adjustments,

and what factors were considered in making such adjustments, the

court has no basis upon which to determine whether CMS’s

determinations were contrary to law, or otherwise arbitrary and

capricious.” Id. at 6-7. Noting that calculating the

reimbursement rates applicable to plaintiffs “would require a

virtually trial-like proceeding for the resolution of the

disputed factual issues,” the magistrate judge instead

recommended that the case be remanded to the agency for further

factual development of the record. Id. at 7.

Both plaintiffs and defendant have filed objections to the

Report and Recommendation. Those objections have been fully

briefed and are now ripe for decision.

II. Report and Recommendation

Both parties object to the Report and Recommendation’s

findings that (1) the administrative record does not make clear

12
how CMS calculated the wage indexes challenged in this case or

“what factors were considered in making such adjustments,” Report

& Recommendation at 6; and (2) the record does not contain

sufficient information about the financial impact of the

Secretary’s calculations on the amount of plaintiffs’

reimbursement, see id. at 7. More generally, the parties object

to the Report and Recommendation’s conclusion that the PRRB’s

decision does not constitute a final action, and agree that

remand is unnecessary because the PRRB properly granted EJR.

“When a party files written objections to any part of the

magistrate judge’s recommendation with respect to a dispositive

motion, the Court considers de novo those portions of the

recommendation to which objections have been made, and ‘may

accept, reject, or modify the recommended decision[.]’” Robinson

v. Winter, 457 F. Supp. 2d 32, 33 (D.D.C. 2006) (quoting Fed. R.

Civ. P. 72(b)). Upon careful review of both the Report and

Recommendation and the parties’ objections thereto, the Court

respectfully disagrees with the magistrate judge’s determination

that remand is necessary to develop the factual development in

this case.

As noted by the parties, “the sole issue” before this

Court is a legal question – whether the Secretary’s practice of

excluding data from reclassified hospitals in calculating the

wage indexes for the hospitals remaining in those urban areas

13
violated 42 U.S.C. § 1395ww(d)(3)(E). Pls.’ Statement of

Material Facts as to Which There is No Genuine Issue (“Pls.’

Statement”) ¶ 3; see also Def.’s Response to Pls.’ Statement of

Material Facts as to Which There is No Genuine Issue ¶ 3 (“The

sole issue is whether federal law mandated that the Secretary

include reclassified hospitals located in the Plaintiffs’

geographic area in the wage index calculation for the remaining

hospitals.”). The parties do not dispute that this data was in

fact excluded from the FY 2000 and 2001 calculation of the wage

indexes for plaintiffs’ geographic areas, and, as the parties

explain in their summary judgment briefing and respective

objections, the Secretary’s reasons for maintaining the

challenged policy were explained in detail in the Federal

Register. See, e.g., 56 Fed. Reg. 43196, 43221 (Aug. 30, 1991)

(explaining why the Secretary was rejecting proposals to

implement a “hold harmless” provision for urban hospitals).

The Report and Recommendation correctly notes – and the

parties fully acknowledge – that the administrative record does

not contain factual information sufficient to determine the

precise amount of additional reimbursement to which plaintiffs

would be entitled if they were to prevail in their legal

argument. See Pls.’ Objections at 9-10 (explaining that some of

the relevant information is in the administrative record, but

acknowledging that the Secretary and/or intermediary would have

14
to recalculate the exact amount at issue); Def.’s Objections at

11-12 (noting that the administrative record “contains little

beyond the documents needed to establish the PRRB’s jurisdiction

over each of the Plaintiffs”). But this deficiency in the record

does not create a material factual dispute preventing the Court

from resolving the legal question raised here.7

Moreover, the PRRB’s determination that it lacked the

authority to decide the legal question raised by plaintiffs was

in full compliance with 42 U.S.C. § 1395oo(f)(1), which

explicitly contemplates the situation presented by this case.

See Hunterdon/Somerset 2001 Wage Index Group v. Riverbend Gov’t

Benefits Adm’r, PRRB Hearing Dec. No. 2004-D13, Case No. 01-

1881GE (Apr. 14, 2004), AR at 438 (finding, on its own motion,

that EJR was warranted because “the facts material to the issue

are not in dispute. The questions posed by the Providers as

requiring Board resolution are questions regarding how CMS’s

policy is made. The Board has no authority to dictate or fashion

7
The parties’ briefing on both the cross motions and the
objections to the Report and Recommendation includes considerable
argument relating to the propriety of plaintiffs’ proposed order,
which specifically directs the Secretary to recalculate the wage
index in a particular way and orders the Secretary to reimburse
plaintiffs using these new calculations. Notwithstanding this
dispute, however, the parties agree that if plaintiffs were to
prevail on the merits, the case would have to be remanded to the
agency to recalculate the wage indexes. And because, as
discussed below, the Court concludes that defendant is entitled
to summary judgment, further consideration of plaintiffs’
proposed order is unnecessary.

15
CMS policy or to retroactively apply policy changes.”); see also

Robert Wood Johnson, 297 F.3d at 279-80 (acknowledging the

court’s jurisdiction after the PRRB granted EJR; noting that the

court’s review was “limited to the issue before the PRRB

regarding the Secretary’s interpretation” of the statute relevant

in that case). Because 42 U.S.C. § 1395oo(f)(1) has been

properly invoked, the PRRB’s EJR decision constitutes a final

decision, see 42 C.F.R. § 405.1842(h)(1), and plaintiffs “have

the right to obtain judicial review” of the calculation of their

wage index for FY 2000 and 2001, “which involves a question of

law or regulations relevant to the matters in controversy.” 42

U.S.C. § 1395oo(f)(1). This Court therefore rejects the

magistrate judge’s recommendation and will proceed to address the

merits of the parties’ cross motions for summary judgment.

III. SUMMARY JUDGMENT

A. Standard of Review

Pursuant to Federal Rule of Civil Procedure 56, summary

judgment should be granted if the moving party has shown that

there are no genuine issues of material fact and that the moving

party is entitled to judgment as a matter of law. See Fed. R.

Civ. P. 56; Celotex Corp. v. Catrett, 477 U.S. 317, 325 (1986);

Waterhouse v. District of Columbia, 298 F.3d 989, 991 (D.C. Cir.

2002). In determining whether a genuine issue of material fact

exists, the court must view all facts in the light most favorable

16
to the non-moving party. See Matsushita Elec. Indus. Co. v.

Zenith Radio Corp., 475 U.S. 574, 587 (1986). Likewise, in

ruling on cross-motions for summary judgment, the court shall

grant summary judgment only if one of the moving parties is

entitled to judgment as a matter of law upon material facts that

are not genuinely disputed. See Rhoads v. McFerran, 517 F.2d 66,

67 (2d Cir. 1975).8

Plaintiffs’ principal claim is that the Secretary exceeded

her statutory authority and that her actions must be set aside

pursuant to 5 U.S.C. § 706(2)(C), which permits a court to “hold

unlawful and set aside agency action, findings, and conclusions

found to be . . . in excess of statutory jurisdiction, authority,

or limitations, or short of statutory right.” As the D.C.

Circuit has explained, “[i]n examining the Secretary’s

interpretation of a statute that she administers, the court

applies the familiar methodology of Chevron U.S.A., Inc. v.

Natural Resources Defense Council, Inc., 467 U.S. 837 (1984).”

Methodist Hosp. of Sacramento, 38 F.3d at 1229. The court’s

first question must be “whether Congress has directly spoken to

the precise question at issue.” Chevron, 467 U.S. at 842. “If

the intent of Congress is clear, that is the end of the matter;

for the court, as well as the agency, must give effect to the

8
The parties here agree that there are no material facts
in dispute. They vigorously dispute, of course, which side is
entitled to judgment as a matter of law.

17
unambiguously expressed intent of Congress.” Id. at 842-43.

The court moves to the second step of Chevron only “if the

statute is silent or ambiguous with respect to the specific

issue.” Id. at 843. Under those circumstances, the court must

consider whether the agency’s interpretation “is based on a

permissible construction of the statute.” Id. If so, then the

court “must defer to the Secretary’s” interpretation. Methodist

Hosp. of Sacramento, 38 F.3d at 1229. Where Congress has

implicitly delegated authority to the agency to fill a gap left

in the statutory framework, “a court may not substitute its own

construction of a statutory provision for a reasonable

interpretation made by the administrator of an agency.” Chevron,

467 U.S. at 844.

Finally, “in framing the scope of review, the court takes

special note of the tremendous complexity of the Medicare

statute. That complexity adds to the deference which is due to

the Secretary’s decision.” Methodist Hosp. of Sacramento, 38

F.3d at 1229 (giving heightened deference to the Secretary’s

policy of denying retroactive effect to a revised wage index);

see also Robert Wood Johnson, 297 F.3d at 282 (“The broad

deference of Chevron is even more appropriate in cases that

involve a ‘complex and highly technical regulatory program,’ such

as Medicare, which “require[s] significant expertise and

entail[s] the exercise of judgment grounded in policy concerns.’”

18
(quoting Thomas Jefferson Univ. v. Shalala, 512 U.S. 504, 512

(1994) (additional citations omitted))).

B. 42 U.S.C. § 1395ww(d)(3)(E)(i) Does Not Speak to
the Precise Question at Issue

Plaintiffs challenge the Secretary’s exclusion of wage data

of reclassified hospitals from the calculation of their wage

indexes under § 1395ww(d)(3)(E)(i). As noted above, the statute

requires the Secretary to

adjust the proportion . . . of the DRG prospective
payment rates computed under subparagraph (D) for area
differences in hospital wage levels by a factor
(established by the Secretary) reflecting the relative
hospital wage level in the geographic area of the
hospital compared to the national average hospital wage
level.

(Emphasis added.)

Plaintiffs argue that this provision is “clear and

unambiguous” in requiring the Secretary to include the wage data

of reclassified hospitals, which are “by definition ‘in the

geographic area’ of” plaintiff hospitals, in the calculation of

the wage index. Pls.’ Mem. at 6-7. In support of this argument,

plaintiffs rely heavily on two cases: Bellevue Hospital Center

v. Leavitt, 443 F.3d 163 (2d Cir. 2006), and Anna Jacques

Hospital v. Leavitt, 537 F. Supp. 2d 24 (D.D.C. 2008).9 As

discussed below, neither of these cases supports plaintiffs’

position.

9
The Anna Jacques decision is currently on appeal to the
D.C. Circuit. See Case Nos. 08-5407 and 08-5529 (D.C. Cir.).

19
 In Bellevue, the Second Circuit addressed two issues.

First, it considered and rejected the plaintiff hospitals’

challenge to the agency’s use of MSAs in defining the “geographic

areas” referred to in § 1395ww(d)(3)(E)(i). At the outset, the

Bellevue court acknowledged that the agency’s “task” under

§ 1395ww(d)(3)(E)(i) “is unambiguous: to calculate a factor that

reflects geographic-area wage-level differences, and nothing

else.” 443 F.3d at 174. Plaintiffs in this case take this

conclusion to mean that “the first sentence of

§ 1395ww(d)(3)(E)(i) is unambiguous, period.” Pls.’ Reply at 5.

Plaintiff’s reliance on Bellevue, however, fails to account

for the remainder of the Bellevue court’s discussion regarding

the term “geographic area”:

At the same time, . . . the statute leaves considerable
ambiguity as to the term “geographic area,” which,
based only on the literal language of the provision,
could be as large as a several-state region or as small
as a city block. CMS’s discretion in interpreting this
ambiguous term is cabined by the need to fulfill two
somewhat contradictory policies . . . : (1) the
geographic areas must be small enough to actually
reflect differences in wage levels and, (2) each
geographic area must include enough hospitals that
their costs can be meaningfully averaged and individual
hospitals do not get reimbursed for their own actual
costs. In balancing these two considerations, the
agency has considerable discretion. Moreover, even
after determining the scale of each geographic area,
lines must be drawn between areas that inevitably will
be contested and may seem arbitrary; once again, the
statute is silent as to how this process is to take
place, leaving the agency with broad discretion.

Bellevue, 443 F.3d at 175 (emphasis added); see id. (concluding

20
that “the use of MSAs to fill the gap left by the ambiguous term

‘geographic areas’ is reasonable”).

To the extent that Bellevue’s reasoning is applicable in the

present case, it actually undermines plaintiffs’ position that

§ 1395ww(d)(3)(E)(i) unambiguously requires the Secretary to

include particular hospitals in calculating “the relative

hospital wage level in the geographic area” of plaintiff

hospitals. Just as the Bellevue court concluded that

§ 1395ww(d)(3)(E)(i) leaves discretion to the agency to use MSAs

in determining the geographic area of a hospital for the purposes

of the wage index, so too does the statute leave open the

question of whether a hospital should be treated as located “in

the geographic area” from which it has reclassified.

The second issue addressed in Bellevue – whether the agency

acted arbitrarily and capriciously in collecting certain data

relating to the occupational mix of employees – is simply

irrelevant to the case at bar. Plaintiff’s reliance on Anna

Jacques is misplaced for the same reason. Indeed, although Anna

Jacques addressed the wage index under § 1395ww(d)(3)(E)(i), that

case concerned the agency’s interpretation of its obligation

under the second sentence of the statutory provision to gather

data for use in the calculation of wage indexes. See

§ 1395ww(d)(3)(E)(i) (“[T]he Secretary shall update the factor

under the preceding sentence on the basis of a survey conducted

21
by the Secretary (and updated as appropriate) of the wages and

wage-related costs of subsection (d) hospitals in the United

States.”). Specifically, the Anna Jacques court considered the

scope of the Secretary’s discretion to determine what types of

hospitals should be included in the survey that the Secretary is

required to conduct before updating the wage index. See 537 F.

Supp. 2d at 31 (concluding that the statute did not give the

Secretary discretion to exclude critical access hospitals from

the survey, because “the plain language of the statute indicates

that Congress required the Secretary to conduct an accurate

survey of the wages and wage-related costs of subsection (d)

hospitals,” and exclusion of critical access hospitals would not

“faithfully reflect” that information). Anna Jacques thus

addressed an entirely different part of § 1395ww(d)(3)(E)(i), one

that deals with the collection of wage-index data rather than the

calculation of a wage index after that data has been gathered.

Accordingly, the Anna Jacques court’s holding that the second

sentence of the statute is unambiguous does not shed light on

whether or not the first sentence of the statute clearly requires

the Secretary to include the data from reclassified hospitals in

its calculation.

Reading the statutory framework as a whole reinforces the

conclusion that § 1395ww(d)(3)(E)(i) does not unambiguously

require the Secretary to include reclassified hospitals in the

22
geographic area where they are physically located. Of particular

note in this regard are the other subsections of § 1395ww(d) that

explicitly (1) “hold harmless” rural hospitals,

§ 1395ww(d)(8)(C)(ii); and (2) set the “rural floor” below which

no wage index may fall as a result of reclassification,

§ 1395ww(d)(8)(C)(iii). Plaintiffs’ reading of §

1395ww(d)(3)(E)(i) would render these subsections superfluous,

because § 1395ww(d)(3)(E)(i) would already protect against the

concerns addressed by those provisions. See TRW Inc. v. Andrews,

534 U.S. 19, 31 (2001) (“It is a cardinal principle of statutory

construction that a statute ought, upon the whole, to be so

construed that, if it can be prevented, no clause, sentence, or

word shall be superfluous, void, or insignificant.” (internal

quotation marks omitted)).

In sum, the Court agrees with the Secretary that 42 U.S.C.

§ 1395ww(d)(3)(E)(i) does not clearly address how the Secretary

must treat wage data from hospitals that have reclassified to a

different area in calculating the wage index. See Def.’s S.J.

Mem. at 16. Although § 1395ww(d)(3)(E)(i) unambiguously requires

the Secretary to “establish” a “factor” that reflects “the

relative hospital wage level in the geographic area of the

hospital,” the language leaves substantial discretion to the

Secretary in determining what constitutes both the “relative wage

level” and the relevant “geographic area.” Cf. Bellevue Hosp.

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Ctr., 443 F.3d at 174. The Court must therefore proceed to the

second step of Chevron to consider whether the Secretary’s policy

of excluding data from reclassified hospitals from the

calculation of plaintiffs’ wage indexes was based on a

“permissible construction” of § 1395ww(d)(3)(E)(i).

C. The Secretary’s Interpretation is Reasonable

Having concluded that the statute does not address the

precise question at issue, the Court must consider whether the

Secretary’s interpretation of § 1395ww(d)(3)(E)(i) was

reasonable and, if so, must defer to that interpretation. See

Chevron, 467 U.S. at 843. Plaintiffs rely primarily on the

Secretary’s decision to implement the “hold harmless” provision

for FY 2002 in arguing that the agency’s prior practice of

excluding the wage data of reclassified hospital was based on an

impermissible construction of § 1395ww(D)(3)(E)(i). Put

differently, plaintiffs claim that because the Secretary was able

to effectuate the change in wage-index calculation without a

change to the statutory or regulatory framework, the statute must

have already required the inclusion of reclassified hospitals as

part of the “geographic area.”

The Secretary responds that because the statute is silent as

to the inclusion of reclassified hospitals’ wage data, the agency

was not only permitted to change its practice but was required to

do so when information gained through the administration of the

24
program led the Secretary to conclude that inclusion of the data

was the preferable approach. Here the Secretary relies on a long

line of cases, including Chevron, recognizing that an agency

should not be prevented from adapting its policies when

circumstances counsel in favor of such a change. See Def.’s S.J.

Mem. at 23 (citing cases). Indeed, the Supreme Court in Chevron

made this point particularly clearly:

An initial agency interpretation is not instantly
carved in stone. On the contrary, the agency, to
engage in informed rulemaking, must consider varying
interpretations and the wisdom of its policy on a
continuing basis. Moreover, the fact that the agency
has adopted different definitions in different contexts
adds force to the argument that the definition itself
is flexible, particularly since Congress has never
indicated any disapproval of a flexible reading of the
statute.

467 U.S. at 863-64; see also Smiley v. Citibank (South Dakota)

N.A., 517 U.S. 735, 742 (2001) (“[T]he mere fact that an agency

interpretation contradicts a prior agency position is not fatal.

. . . [C]hange is not invalidating, since the whole point of

Chevron is to leave the discretion provided by the ambiguities of

a statute with the implementing agency.”).

The Court rejects plaintiffs’ attempt to fault the Secretary

for doing precisely what the Chevron Court envisioned –

evaluating “the wisdom of [the agency’s] policy on a continuing

basis.” Indeed, the Federal Register passages repeatedly

referenced and discussed by the parties make clear that the

Secretary carefully considered whether the Medicare statute

25
should be interpreted to include a “hold harmless” provision for

urban hospitals. The Secretary originally rejected this

interpretation because of the concern that including reclassified

hospitals in their original labor markets would (1) disrupt the

statutory scheme, which specifically enumerated the circumstances

under which reclassified hospitals should be included in the

calculations of their originating geographic area; and (2)

negatively impact the majority of hospitals by requiring that the

overall standardized rate be reduced to comport with a budget-

neutrality requirement contained in the statute. See 56 Fed.

Reg. at 43221.

When the agency reevaluated this interpretation in 2001, its

rationale for doing so was clearly explained. The Secretary

noted that including the data of reclassified hospitals in “the

MSA where the hospital is physically located . . . . improves

consistency and predictability in hospital reclassification and

wage indexes, as well as alleviates the fluctuations in the wage

indexes due to reclassifications.” 66 Fed. Reg. at 39865.

Moreover, the Secretary explained that reclassified hospitals may

continue to compete for labor with the other hospitals in their

MSA, and that their higher wages could pressure neighboring

hospitals to increase their wages accordingly. Id. at 39866.

These considerations, in addition to the conclusion that the

Secretary had the authority to make this change through

26
rulemaking, found support in the MedPAC Report which was cited

and discussed in the proposed rule.

Plaintiffs repeatedly assert that only the Secretary’s 2001

interpretation is reasonable, but they fail to point to anything

about the agency’s prior interpretation of the statutory scheme

that was either unreasonable or arbitrary.10 As noted above, the

mere fact that the agency reevaluated the impact of its policy

and changed its practice does not render the prior interpretation

unreasonable. It is also significant that – despite a number of

congressional amendments to 42 U.S.C. § 1395ww(d) during the

period that the agency enforced its policy of excluding

reclassified hospitals from the calculation of the wage indexes

of the urban areas in which those hospitals were physically

located – Congress never questioned or otherwise addressed the

policy. See Chevron, 467 U.S. at 864 (pointing out that

Congress’s failure to “indicate[] any disapproval of a flexible

reading of the statute” supports the conclusion that “the

definition itself is flexible”). Because the Court concludes

that the Secretary’s policy of excluding reclassified hospitals

10
Plaintiffs focus on a few particular words in the 2001
Federal Register notice, claiming that the Secretary’s choice of
words either (1) proves that the Secretary knew its prior
practice was unlawful, and/or (2) constitutes an admission under
the Federal Rules of Evidence. Defendant’s briefing persuasively
demonstrates why these arguments are utterly lacking in merit,
and the Court will not address plaintiffs’ contentions any
further.

27
from plaintiffs’ wage-index calculations constituted a

permissible construction of the statute, the Secretary’s

interpretation is entitled to deference. Therefore, plaintiffs’

challenge under 5 U.S.C. § 706(2)(C) fails.

D. Additional Claims

Plaintiffs also contend that the Secretary’s exclusion of

reclassified hospitals from the wage index calculations in FY

2000 and 2001 (1) violated 42 C.F.R. § 413.5(b)(3); (2) was

arbitrary and capricious in violation of 5 U.S.C. § 706(2)(A);

and (3) violated plaintiffs’ rights to equal protection.11 These

arguments are not well-developed in the parties’ submissions and,

as explained briefly below, are without merit.

Section 413.5(b)(3) of Title 42 of the Code of Federal

Regulations is a regulation which states “[i]n general terms”

that one goal of reimbursement should be to create “a division of

the allowable costs between the beneficiaries of [the Medicare]

program and the other patients of the provider that . . . is fair

to each provider individually.” Plaintiffs conclusorily state

that the Secretary’s challenged policy was unfair to the

11
Plaintiffs state that defendant’s policy violates “the
Equal Protection Clause,” but never specify what constitutional
provision this claim is based upon. The Equal Protection Clause
of the Fourteenth Amendment to the U.S. Constitution does not
apply to the federal government. Therefore, any constitutional
claim against defendant based on equal protection principles
would be cognizable only under the Due Process Clause of the
Fifth Amendment.

28
individual hospitals, but fail to explain how or why this

particular regulation applies in the present case or how the

regulation confers any enforceable legal rights upon plaintiffs.

For these reasons, the Court rejects this claim.

Despite the distinct legal standards, plaintiffs make one

combined argument that the Secretary’s policy (1) was arbitrary

and capricious and (2) violated their constitutional rights to

equal protection. With respect to the claim based on 5 U.S.C.

§ 706(A)(2), plaintiffs argue that the Secretary failed to

fulfill the statutory purpose of § 1395ww(d)(3)(E)(i) and that

the negative impact on plaintiff hospitals renders the

Secretary’s practice arbitrary and capricious. See Pls.’ Mem. at

22-24. The D.C. Circuit has recognized that the arbitrary and

capricious standard often “overlaps” with the second step of

Chevron, because “whether a statute is unreasonably interpreted

is close analytically to the issue whether an agency’s actions

under a statute are unreasonable.” Shays v. Fed. Election

Comm’n, 414 F.3d 76, 96 (D.C. Cir. 2005) (alteration and internal

quotation marks omitted)). Here, plaintiffs’ arguments under the

arbitrary and capricious standard map directly onto the arguments

that this Court has already addressed and rejected in discussing

the Secretary’s interpretation of 42 U.S.C. § 1395ww(d)(3)(E)(i).

These arguments need not be revisited.

Finally, as the Secretary points out, an equal protection

29
challenge to the Medicare regulations is appropriately evaluated

under the rational-basis standard. See Clinton Mem. Hosp. v.

Sullivan, 783 F. Supp. 1429, 1440 (D.D.C. 1992) (applying a

“deferential standard” to an equal protection challenge to a

Medicare regulation, and explaining that “the challenged statute

or regulation will be struck down only if it ‘manifests a

patently arbitrary classification, utterly lacking in rational

justification’” (quoting Weinberger v. Salfi, 422 U.S. 749, 768

(1975))), aff’d sub nom. Clinton Mem. Hosp. v. Shalala, 10 F.3d

854, 860-61 (D.C. Cir. 1993). Plaintiffs contend that there was

no valid reason to treat urban and rural hospitals differently,

or to reimburse similarly situated hospitals at different levels

before and after FY 2002. They do not challenge, however, the

Secretary’s proffered justifications for distinguishing between

urban and rural hospitals or for not applying the change in the

calculation of the wage indexes retroactively. Indeed,

plaintiffs do not address their equal protection claim at all in

their reply brief. And because the Secretary’s proffered reasons

“sufficient to justify any disparate treatment,” id., plaintiffs’

constitutional claim must fail.

IV. CONCLUSION

Accordingly, for the reasons stated, the Court GRANTS

defendant’s motion for summary judgment and DENIES plaintiffs’

motion for summary judgment. An appropriate Order accompanies

30
this Memorandum Opinion.

Signed: Emmet G. Sullivan
United States District Judge
August 26, 2009

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