Since 2008, the Center for Medicare Advocacy (the Center) has been reporting that an increasing number of Medicare beneficiaries are being placed in acute care hospital beds for multiple days – receiving medical and nursing care, diagnostic tests, treatments, medications, and food – but are being called "outpatients" in observation status, rather than admitted "inpatients." The chief adverse result of observation classification for beneficiaries is that Medicare does not cover beneficiaries' subsequent skilled nursing facility care on the grounds that they failed to have a qualifying three-day inpatient hospital stay, as required by the Medicare statute. The Center filed litigation on behalf of 14 Medicare beneficiaries or their estates, challenging the use of observation status as violating the Medicare statute, the Freedom of Information Act, the Administrative Procedure Act, and the Due Process Clause of the Fifth Amendment (Bagnall v. Sebelius, No. 3:11-cv-01703 (D.Conn. Nov. 3, 2011).
A new study conducted at Brown University confirms that observation status is increasingly replacing inpatient stays in acute care hospitals for many Medicare beneficiaries nationwide. Reviewing 100% of Medicare claims data for 2007-2009, researchers at Brown University found that the number of outpatient observation stays for Medicare beneficiaries increased over the three-year period, while inpatient admissions decreased, suggesting "a substitution of outpatient observation services for inpatient admissions." Their article, "Sharp Rise In Medicare Enrollees Being Held In Hospitals For Observation Raises Concerns About Causes And Consequences," reports a 34% increase in observation stays during the three-year period.
The Brown University researchers also report that the average length of stay in observation increased during the 36 months by more than 7% (from 26.2 hours in 2007 to 28.2 hours in 2009). Even more significantly, they found that more than 10% of beneficiaries were placed on observation status for more than 48 hours (despite the fact that the Medicare Manual suggests that observation should generally not exceed 24 hours, may sometimes be up to 48 hours, and, in "only rare and exceptional cases," more than 48 hours.) With nearly one million beneficiaries held in observation status each year, the 10% figure means that approximately 100,000 people are in observation for more than 48 hours. Finally, the researchers identify a sharp increase in beneficiaries held in observation status for 72 or more hours – 23,841 beneficiaries in 2007; 44,843 beneficiaries in 2009 – an 88% increase. The researchers confirm that their counts of observation stays are conservative and may be too low.
As causes for the increased use of observation status, the Brown University researchers confirm what the Center has identified as the primary causes – the Recovery Audit Contractor program, a fraud and abuse program designed to prevent improper Medicare payments to health care providers, and Condition Code 44, a Medicare manual provision that authorizes hospitals' utilization review committees to reverse, retroactively, physicians' decisions to admit their patients to inpatient status.
The Brown University researchers recognize the significant harmful impact on Medicare beneficiaries of the increasing use of observation status:
[I]t is reasonable to be concerned that observation services may create barriers for access to postacute skilled nursing facility care, especially for those having been held for observation for an extended period of time. The dual trends of increasing hospital observation services and declining inpatient admissions suggest that hospitals and physicians may be substituting observation services for inpatient admissions – perhaps to avoid unfavorable Medicare audits targeting hospital admissions.
The researchers predict that incentives in the Affordable Care Act to reduce inpatient hospitalizations "may drive even greater use of observation services" in the future.
Pending Legislation Would Fix the Problem of Observation Status for Most Beneficiaries
Two bipartisan bills pending in Congress, entitled "Improving Access to Medicare Coverage Act of 2011," would provide that all time spent in the hospital, no matter how classified, would be counted for purposes of meeting the three-day qualifying inpatient hospital stay requirement for Medicare coverage in a skilled nursing facility. H.R. 1543, introduced in the House by Congressman Joe Courtney, now has 22 cosponsors; S. 818, introduced in the Senate by Senator John Kerry, has four cosponsors.
For More Information
The Center for Medicare Advocacy website has a great deal of information about observation status. This information includes links to reports, articles, federal Medicare Manuals, Administrative Law Judge decisions addressing observation status, and other documents of interest about observation. Information is also available about Bagnall v. Sebelius, as well as practical material to help beneficiaries challenge both the classification of their hospital stay as outpatient observation and the denial of Medicare coverage of their subsequent stay in a skilled nursing facility.
 The Center first wrote about this issue in 2008 in a Weekly Alert entitled "When Is a Hospital Stay Not a Hospital Stay? When the Patient Is in Observation" (Dec. 11, 2008).
 42 U.S.C. §1395x(i). See also 42 C.F.R. §409.30(a)(1).
 Zhanlian Feng, David B. Wright, and Vincent Mor, "Sharp Rise In Medicare Enrollees Being Held In Hospitals For Observation Raises Concerns About Causes And Consequences," Health Affairs 31, No. 6 (2012).
 CMS, Medicare Benefit Policy Manual, CMS Pub. 100-02, Chapter 6, §20.6, http://www.cms.gov/Regulations-and-Guidance/Guidance/Manuals/Downloads/bp102c06.pdf (scroll down to §20.6 at p. 18); same language in Medicare Claims Processing Manual, CMS Pub. 100-04, Chapter 4, §290.1
 CMS, "CMS Announces New Recovery Audit Contractors to Help Identify Improper Medicare Payments" (News Release, Oct. 6, 2008), http://www.cms.gov/apps/media/press/factsheet.asp?Counter=3292&intNumPerPage=10&checkDate=&checkKey=&srchType=1&numDays=3500&srchOpt=0&srchData=&keywordType=All&chkNewsType=6&intPage=&showAll=&pYear=&year=&desc=&cboOrder=date.
 Medicare Claims Processing Manual, CMS Pub. No. 100-04, Chapter 1, §50.3, originally issued as CMS, "Use of Condition Code 44, 'Inpatient Admission Changed to Outpatient,'" Transmittal 299, Change Request 3444 (Sep. 10, 2004), http://www.cms.gov/Regulations-and-Guidance/Guidance/Manuals/Downloads/clm104c01.pdf (scroll down to §50.3 at pages 153-157)
 These provisions include, for example, Hospital Readmissions Reduction Program, §3025, 42 U.S.C. §1395ww(q); National Pilot Program on Payment Bundling, §3023, 42 U.S.C. §1866C; and Independence at Home Demonstration Program, §3024, 42 U.S.C. §1866D, all of which have reducing rehospitalizations as an explicit goal.