United States Court of Appeals
Fifth Circuit
F I L E D
IN THE UNITED STATES COURT OF APPEALS
September 22, 2003
FOR THE FIFTH CIRCUIT
Charles R. Fulbruge III
__________________________ Clerk
No. 02-60834
__________________________
LOUISIANA DEPARTMENT OF HEALTH AND HOSPITALS,
Petitioner,
versus
CENTER FOR MEDICARE AND MEDICAID SERVICES; THOMAS A. SCULLY, in his
official capacity as Administrator of 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 Administrator 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 determination, by the Administrator of the Center for Medicare
and Medicaid Services, that Rural Health Clinics in Louisiana 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
A. Statutory and regulatory background
(1) The Medicaid program
Medicaid is designed to enable states to offer medical assistance to certain low-income, elderly,
and disabled individuals whose income and resources are inadequate to pay for necessary medical
services. See 42 U.S.C. § 1396 (2003). Under the Medicaid statute, the federal government and the
states 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 state that elects to participate in the program submits a “state plan”
for review and approval by the Secretary (“Secretary”) of the Department of Health and Human
Services (“HHS”). See generally 42 U.S.C. § 1396a. A state 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) (recording Secretary’s delegation of
authority for approving state plan amendments to CMS). CMS, on behalf of the Secretary, is
required to approve a state plan amendment that complies with all applicable statutes and regulations.
42 U.S.C. § 1396a(b). Once CMS approves a state plan amendment, the 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 Louisiana’s
percentage to 71.63% for the fiscal year starting October 1, 2003).
(2) Provisions for disproportionate share hospitals
In 1981, Congress added a requirement that state plans include higher reimbursement rates for
“public hospitals and teaching hospitals which serve a large Medicaid and low income population [and
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which] are particularly dependent on Medicaid reimbursement . . . .” 42 U.S.C. § 1396a(a)(13)(A)
(noting that a state plan must “provide for a public process for determination of rates of payment
under the plan for hospital services” under which “such rates take into account . . . the situation 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 utilization rates exceeding 25% or to hospitals whose Medicaid inpatient utilization rate is
at least one standard deviation above the mean Medicaid inpatient utilization rate of all in-state
hospitals receiving Medicaid payments). States must provide an “appropriate increase in the rate or
amount of payment for such services.” Id. Additionally, the statute contemplates 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. § 1396r-4(b)(3) (basing definition of “low-income
utilization rate” in part on quantity 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 hospitals.
(3) State-specific and hospital-specific limits on DSH payment adjustments
In 1991, Congress directed the Secretary to determine state-specific limits on federal funding for
DSH payments for each fiscal year, using a statutory formula. See 42 U.S.C. § 1396r-4(f) (capping
Louisiana’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 responded to reports that some
hospitals received DSH payment adjustments that exceeded “the net costs, and in some instances the
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total costs, of operating the facilities,” by requiring hospital-specific limits on 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 (noting
DSH payment adjustments seeped into state general funds to cover non-health care items including
road construction).
The hospital-specific limitations are at the heart of the dispute in this case. The 1993 amendment
limits the amount of DSH payments to a specific hospital to
the costs incurred during the year of furnishing hospital services (as determined 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 of 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 of 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 Administration
(“HCFA”), CMS’s predecessor agency, stated:
There are several important considerations that must be made in determining the cost
of services under the DSH limit, whether for Medicaid or uninsured individuals. First,
the legislative history of this pro vision makes it clear that States may include both
inpatient and outpatient costs in the calculation of 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.
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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 supplies 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-
threatening 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 practitioner or physician assistant, acting under the
direction of a physician. Id. § 440.20(b)(1)-(3).
B. Louisiana’s efforts to increase DSH payment adjustments
Louisiana 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 Louisiana 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, Secretary Shalala
wrote:
1
RHCs are eligible to be “hospital-based RHCs” if certain conditions are met. See 42
C.F.R. § 413.65.
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While I agree that a state has discretion to ‘license or formally approve’ a hospital-
based RHC as an outpatient hospital clinic for purposes of the Medicaid DSH
program, I [cannot] require that states consider t he costs of such a facility in
calculating DSH limits. Under applicable law, a State 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 departments, 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 outpatient 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 understanding is that Louisiana 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 cannot 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 immediately amending the
state statute governing RHC licensing requirements. The amendment provides:
[A] rural health clinic that meets the definition of the Health Care Financing
Administration as hospital-based and is operated by a rural hospital . . . shall not be
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required to secure a separate license to receive certification by the Health Care
Financing Administration and designated reimbursement under Medicaid and
Medicare as long as the rural hospital meets state licensure requirements. Such
hospital shall assure that the clinic meets all other requirements of [the rural health
clinic licensure statutue], as well as any pursuant rules and regulations . . . .
LA. REV. STAT. ANN. § 40:2197(G) (West 2001).
Having amended state law, the State submitted a state plan amendment (“ SPA 01-03”), to CMS
for approval. SPA 01-03 implemented Secretary Shalala’s guidance by providing that: “Any
uncompensated costs of providing 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 of Health &
Hospitals, to Calvin G. Cline, Associate Regional Administrator, Health Care Financing
Administration Attachment 4 (May 15, 2001) (emphasis added).
CMS disapproved SPA 01-03 on August 15, 2001. CMS referred to regulations defining
“outpatient hospital 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 inapposite observation that “a state may
not include costs or revenues 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. Scully, Administrator for Centers for Medicare & Medicaid Services, to David W.
Hood, Secretary, Louisiana Department of Health & Hospitals (Aug. 15, 2001) (emphasis added).
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The State requested reconsideration, and a hearing officer convened an administrative 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 Administrator on August
20, 2002, adopted the hearing officer’s recommendation and upheld the disapproval. The
Administrator stated that because hospital services and RHC services are defined separately under
the Social Security Act and its implementing regulations, RHC services can never be considered
outpatient hospital services. Louisiana State Plan Amendment 01-03, Doc. No. 2002-03 (Centers
of Medicare & Medicaid Services Aug. 19, 2002). The Administrator reached that conclusion despite
the fact that oftentimes the clinics are licensed by the hospital and provide exactly the same types of
services as the hospital’s outpatient emergency room, and the costs of providing these services are
borne by the hospitals. Louisiana timely appeals.
II. STANDARD OF REVIEW
This Court reviews the Administrator’s decision disapproving a state plan amendment under the
Administrative 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, this
Court must defer to the Secretary’s interpretation of Medicare legislation and its attendant
regulations—the Secretary’s interpretation of Medicare regulations is given “controlling weight unless
it is plainly erroneous or inconsistent with the regulation.” Id. If a statute is involved and its meaning
is unambiguous, this Court must give effect to the intent of Congress. See Chevron U.S.A., Inc. v.
Natural Res. Def. Council, Inc., 467 U.S. 837, 842 (1984). This Court “shall have jurisdiction to
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affirm the action of the Secretary or to set it aside, 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 state plan amendment was arbitrary or capricious, where the Administrator determined
that the term “hospital services” as used in 42 U.S.C. § 1396r-4(g) does not include services
provided by RHCs.
A. Analysis
Louisiana and its amicus list three reasons why the Administrator’s disapproval of SPA 01-03
was arbitrary and capricious: (1) the services provided by hospital-based RHCs that are not
separately licensed fall within the regulatory definition of “outpatient hospital services”; (2) the
Congressional purpose behind the DSH program supports reimbursing hospital-based RHCs for
the cost of 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 “outpatient hospital services” and “rural health clinic services” are separate and distinct
categories of services.
(1) Whether services provided by hospital-based RHCs that are not separately licensed
fall within the regulatory definition of “outpatient hospital services.”
The hospital-specific DSH limit allows reimbursement only of “the costs incurred during the
year of furnishing hospital services . . . .” 42 U.S.C. § 1396r-4(g)(1)(A) (emphasis added).
Noting that the agency has not defined “hospital services” for purposes of § 1396r-4(g), Louisiana
asserts that Congress intended the phrase to include both inpatient and outpatient hospital
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services. In describing the 1993 DSH amendment, Congress wrote that the bill limits the amount
of DSH payment adjustments to the costs “these facilities incur in furnishing inpatient or
outpatient services to Medicaid-eligible patients and uninsured patients, less payments from
Medicaid other than DSH payment adjustments” and uninsured patients. 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
outpatient hospital services.
HHS regulations define both “inpatient hospital services” and “outpatient hospital services.”
“Outpatient hospital services” is defined as “preventative, diagnostic, therapeutic, 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 authority for State standard-setting . . .
.” 42 C.F.R. § 440.20. Louisiana asserts that services provided by hospital-based RHCs
indisputably satisfy the first part of the definition, being “preventative, diagnostic, therapeutic,
rehabilitative, or palliative.” RHCs satisfy the “licensed or formally approved” requirement,
Louisiana maintains, because the clinics are not licensed independently from the parent hospitals.
Rather than rebuffing Louisiana’s textual argument, with which it agrees in part, CMS
analyzes the term “hospital services” with the premise that “outpatient hospital services” and
“rural health clinic services” are mutually exclusive. CMS notes: (1) federal statutes 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 outpatient hospital services and
rural health clinic services); 42 C.F.R. § 440.20 (defining each term); (2) until recently, RHC
services and outpatient hospital services were subject to two entirely distinct payment regimes,
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see, e.g., 42 C.F.R. § 447.371 (designating reimbursement rules for rural health clinics); and (3)
Louisiana 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
renders may never be considered an outpatient hospital service even if the service fits within the
regulatory definition of “hospital outpatient service”.
We agree with Louisiana 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, performs quality
assurance, credentials 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 rural health clinics for the cost of caring for uninsured
patients fulfills the Congressional purpose of DSH payment adjustments.
Louisiana argues that the Administrator’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, demonstrated 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 otherwise
applicable to DSH hospitals, and (2) Congress’s awareness of state plans that offer extra payments
to some hospitals because they provide “outpatient services and outpatient pharmacy to Medicaid and
non-Medicaid eligible low-income patients”); H.R. R EP. NO. 101-964, at 868, 871 (1990) (explaining
new provision in § 1396r-4(c)(3) that allows additional DSH payments to designated hospitals to
finance services for Medicaid and low-income patients).
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Louisiana 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 contention by HCFA that DSH adjustment
payments could not include the costs of outpatient hospital services). Louisiana contends that the
Administrator’s interpretation—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 costly emergency room would be covered—is antithetical to the intention of
Congress. Here too it seems that Louisiana presents the stronger argument.
(3) Whether CMS’s own regulations recognize hospital based rural health clinics are
integral to their parent hospitals.
Louisiana finally argues that the 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 control and ownership of the hospital. See 42 C.F.R. § 413.65(d)(3).
Louisiana also notes that the regulations have treated RHCs as hospital outpatient departments
for Medicare reimbursement limitations. Until recently, 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.
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a reasonable-cost basis, except that certain reductions in the calculation of reasonable costs were
mandated. Under 42 C.F.R. § 413.124, “the reasonable costs of outpatient 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 of 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 Administrator’s decision made an assumption about
outpatient hospital services and RHC services—that they are substantially different—that HCFA’s
previous regulations showed to be unfounded.
B. The Administrator’s decision was arbitrary and capricious
Louisiana changed its law in response to, and its understanding 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 regime.
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 “preventative, diagnostic, therapeutic, rehabilitative, or palliative,” 42 C.F.R.
§ 440.20, thereby satisfying the first part of the definition of “hospital services”.
The second part of the definition requires services to be furnished by an institution that is
“licensed or formally approved as a hospital by an officially designated authority for State standard-
13
setting . . . .” Id. The Administrator adopted the recommendation of a hearing officer who ignored
the critical fact that Louisiana, 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 institution furnishing the service. The Administrator’s
assumption—that the nature of a service, and not the circumstances under which the service is
delivered, determines its categorization—ignores the common licensure scheme, the clear textual
analysis offered by Lo uisiana, and the previous Medicare regulations that analyzed hospitals and
RHCs in a similar manner. Given the 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 Administrator’s decision was arbitrary and capricious, and cannot stand.
IV. CONCLUSION
For the above stated reasons, we REVERSE the judgment of the Administrator.
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