Medicare diagnosis-related groups are groups of similar claim types that determine how much Medicare will pay under Part A. While you may never have thought about how Medicare decides how much it will pay the hospital when you undergo inpatient hospitalization, the amount that Medicare pays may have a direct impact on the treatment you receive.
The following is an exploration of:
- What Medicare diagnosis-related groups (DRGs) are
- How are DRGs are determined
- Who gets placed into DRGs
- How DRGs impact health care
- Any challenges that occur with DRGs
The Facts About Medicare Diagnosis-related Groups (DRGs)
Medicare diagnosis-related groups determine how much Medicare pays under Part A, or the hospital insurance portion of Original Medicare if you are hospitalized.
Prior to 1983, hospitals were able to charge for every service, such as MRIs and surgery, and products such as adhesive bandages that were used in your treatment while you were hospitalized. Medicare introduced Medicare diagnosis groups in 1983 to combat inflation costs related to medical care.
DRGs fall under the inpatient prospective payment system (IPPS). In layman’s terms, the IPPS is the payment system and DRGs are how each case is grouped with similar conditions that require inpatient services and resources.
Using DRGs, Medicare assigns a single payment amount to the hospital for your inpatient stay. Understand that what the hospital receives under Part A does not affect what you pay as your deductible.
How Are Medicare DRGs Determined?
DRGs are groups of claims that are clinically similar and require similar amounts of inpatient resources. When a case is submitted, Medicare groups them into different contributing factors for the hospitalization. These can include:
- Primary and secondary diagnoses
- ICD-10 procedure codes for any procedures you have
- Age and gender
- Length of inpatient stay
- Discharge status, such as whether you went home or to a skilled nursing facility for treatment
Medicare then assigns a weight to your claim payment, using the common cost of resources. This is considered the base rate. Once a base rate is established for your hospitalization, Medicare then makes adjustments based on a variety of factors.
These adjustments ensure that the hospital is compensated based on the wage and cost index of the area you were hospitalized. It also accounts for other services the hospital provides. Additionally, the hospital may get adjustments if it is a teaching hospital or treats a significant share of poor and uninsured patients.
For example, a hospital in New York City would have a higher adjustment than a hospital in rural Michigan because the cost of living is higher.
The final payment can be adjusted again based on the use of extra resources due to your severity. This is called an outlier payment. Medicare can also penalize this payment if you contract a condition in the hospital, such as an infection from surgery.
DRGs are updated annually and can ― and often do ― change from year to year. Hospitals usually can answer questions about DRGs, but you can also research additional information on your own using the Centers for Medicare & Medicaid Services’ (CMS’s) MS-DRG Classifications and Software page.
Who Is Placed into a Medicare DRG?
All patients who are hospitalized under Medicare for inpatient services are placed in the MS-DRG system (MS stands for medical severity). The MS-DRG method does not apply only to Original Medicare.
MS-DRGs are also the most common settlement process used by Medicare Advantage (MA or Part C) plans. Medicare Advantage Plans are a hybrid of the Original Medicare model. Under Medicare Advantage Plans, Medicare benefits are not administered by the government. Instead, it contracts with private insurance companies to administer the benefits on its behalf.
While the MS-DRG is only for Medicare participants, private insurance companies also use the DRG method to reimburse hospitals. There may be different calculations for each insurer to determine the payment of services.
How Do Medicare DRGs Impact Health Care?
Medicare DRGs affect your health care in two major ways:
- The hospital is incentivized to avoid inappropriate testing and procedures to upcharge Medicare.
- You may be discharged sooner than you should be, because there’s a fixed payment no matter how long you stay.
Medicare DRGs pay a fixed amount for your claim. The hospital is charged with making the care you receive more efficient. It also removes the incentive from hospitals to put you through inappropriate testing and procedures to upcharge Medicare.
The downside of the system is that it incentivizes hospitals to discharge you sooner, perhaps before you are healthy enough to go home. The fixed payment model means that it costs more than what Medicare will pay to treat you, your treatment costs the hospital money. If it costs less than the Medicare payment, the hospital makes money.
Medicare does have rules in place that reduce payments for circumstances that result in your readmission within 30 days of discharge. The goal of these rules is to help ensure that you are not discharged earlier than medically necessary.
Some DRGs also require that the hospital share part of the payment with medically necessary outpatient services, such as a home health aid or rehab facility. The hospital may use these services to discharge you sooner to free up the bed occupancy rate. The hospital would still share the DRG payment with the secondary provider.
Finally, the Medicare DRG covers outpatient services for three days prior to admission for services that the hospital ― or entity that owns the hospital ― provided to you. These outpatient services are traditionally covered under Part B (the medical insurance portion of Medicare), but this is an exception to that rule.
Are There Challenges Related To Medicare DRGs?
While the DRG system is intended to standardize hospital reimbursement, it has not gone without challenges. Specifically, the DRG method can impair the hospital’s bottom line. This could force the hospital to focus its limited resources on services that are higher-profit to maintain profitability.
There are additional reforms developed under the Affordable Care Act (ACA) that bundled payments for hospitals. Under this model, hospitals are incentivized not only with services performed but the quality of care and care coordination to reduce costs to Medicare. However, the DRG model continues to be the framework for Medicare reimbursement for hospitals.
Learn More From Our Sources
- CMS Innovation Center | Bundled Payments for Care Improvement (BPCI) Initiative: General Information | Last accessed September 2023
- CMS | Hospital Readmissions Reduction Program (HRRP) | Last accessed September 2023
- CMS | MS-DRG Classifications and Software | Last accessed September 2023
- CMS | Outlier Payments PMC | The role of diagnosis-related groups (DRGs) in health care system convergence | Last accessed September 2023