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Sequestration means cuts in federal reimbursement payments to health care providers starting in 2013 and significantly more complex revenue cycles.

Navigating health reform

Sequestration and Health Care: Beyond the Myths and Market Hype

  • 3/7/2013

Sequestration and Health Care: Beyond the Myths and Market Hype

With the failure to release the gridlock in Washington, the media are full of information and speculation surrounding “sequestration” and what it will mean to the country.

To date, the common fact we consistently hear is that there will be reductions in federal spending, and these cuts will begin sometime in 2013. Beyond this there is much conjecture as to the magnitude of the reductions, when those reductions will be implemented, and who will suffer the most from them.

“The challenge for health care providers is that sequestration comes on top of other significant reductions taking place in reimbursement as a result of payment reform,” says Rob Schile, partner in charge of health systems and reimbursement at CliftonLarsonAllen. “For these organizations, it isn’t necessarily the 2 percent reduction of sequestration that is so significant, it is the incremental impact of even more cuts on top of it.”

This article is intended to help cut through the hype swirling through the marketplace, and provide fact-based information regarding sequestration. In addition, it delves into the specific considerations health care providers should be aware of and how sequestration is anticipated to impact the Medicare program.

Sequestration background

Sequestration has existed for more than 25 years. It came about initially as part of the Balanced Budget and Emergency Deficit Control Act of 1985 (BBEDCA) and was designed to enforce deficit targets on federal spending. In the 1990s, the Budget Enforcement Act of 1990 (BEA) created two new budget control processes:

  1. A set of caps on annually appropriated spending
  2. A “pay-as-you-go” or PAYGO process for entitlements and taxes

The BEA was instrumental in aiding then-President Clinton in achieving surpluses in the last four years of his presidency.

In February 2010, President Barack Obama signed the Statutory Pay-As-You-Go Act of 2010 (PAYGO 2010), which essentially requires all new legislation that would change taxes, fees, or mandatory expenditures be evaluated in total, and may not increase projected deficits. This requirement is enforced through automatic across-the-board spending cuts if enacted legislation does not meet the PAYGO standards.

Sequestration catapulted back into the public spotlight as a result of the Budget Control Act of 2011 (BCA), which added amendments to the BBEDCA. The BCA was critical legislation that raised the debt ceiling in an effort to avoid default on the country’s debt, and gave rise to the Joint Selection Committee on Deficit Reduction (often referred to as the “Super Committee”) whose task was to identify $1.5 trillion in deficit reduction measures. If the Super Committee failed to reach its deficit reduction goals, and in turn Congress failed to enact legislation to reduce the deficit by $1.2 trillion, then automatic across-the-board cuts in mandatory and discretionary spending known as “sequestration” would take place beginning January 2, 2013, and continue through 2021.

As we all know, the Super Committee failed to meets its goal, Congress failed to enact such legislation, and the automatic cuts from sequestration were set to take place until Congress passed, and the president signed, the American Taxpayer Relief Act of 2012 (ATRA). ATRA temporarily deferred the $1.2 trillion sequestration cuts until March 1, 2013, providing an additional 59 days to pass legislation. Once again, Congress and the president failed to enact this legislation, and the sequestration cuts have been set in motion.

What is sequestration?

Simply put, sequestration is a process of automatic reductions in federal spending designed to accomplish certain budgetary policy goals. With certain exceptions, these reductions are done across the board. The Office of Management and Budget (OMB) has the final authority to outline the cuts in mandatory and discretionary spending to accomplish the $1.2 trillion reduction over the specified time period. According to the OMB’s latest estimate dated March 1, 2013, the allocation of the cuts is projected to be as follows:

Calculation of Total Annual Reduction by Function
(billions of dollars)

Joint Committee required savings $1,200,000
Deduct debt service savings (18 percent) (216,000)
Net programmatic reductions $984,000
Divide by 9 to calculate annual reduction 109,333
Reduction for FY 13 pursuant to section 901(a) of ATRA (24,000)
Net remaining programmatic reduction for FY 2013 $85,333
Split 50/50 between defense and nondefense functions $42,667

Source: OMB Report to the Congress on the Joint Committee Sequestration for Fiscal Year 2013, March 1, 2013

As reflected above, after allowing for 18 percent debt service reduction, the remaining $984 billion in cuts will be allocated equally over nine years, then divided 50/50 between defense and nondefense functions. The passage of ATRA reduced the 2013 reductions by $109 billion, which leaves about $85 billion in total cuts to be implemented for the remainder of 2013.

“While these cuts are significant in terms of total dollars and undoubtedly will have some overall impact on the economy, the remaining $85 billion targeted for 2013 represents just over 2 percent of the total $3.8 trillion in federal spending for 2013,” says Schile. “In reality, the proposed cuts should not equate to the level of devastation currently portrayed in the media.”

Not all areas of federal spending will be reduced. The table that follows is a partial list of budget categories that are exempt or have special rules that govern application.

Exempt from sequestration Special rules for sequestration
  • Social Security benefits and Tier 1 Railroad Retirement benefits
  • All programs administered by the Veterans Administration and special benefits for certain World War II veterans
  • Net interest
  • Refundable tax credits payments to individuals, such as Earned Income Tax Credit and Additional Child Tax Credit
  • Unobligated balances, carried over from prior years, for nondefense programs
  • Military personnel accounts may be entirely exempt or subject to lower sequestration percentages
  • Low income programs, including Medicaid, Children’s Health Insurance Program (CHIP), Child Nutrition Programs, Temporary Assistance for Needy Families, and federal Pell Grants
  • Medicare Part D low-income premium and cost-share subsidies; Medicare Part D catastrophic subsidy payments; and Qualified Individual premiums.
  • Student loans under Title IV-B and IV-D of the Higher Education Act
  • Medicare (discussed in greater detail below)
  • Community and Migrant Health Centers, Indian Health Services and Facilities, and Veteran’s Medical Care
  • Child support enforcement
  • Federal pay
  • Federal administrative expenses
Source: Budget Sequestration and Selected Program Exemptions and Special Rules by the Congressional Research Service, Karen Spar, Coordinator; January 10, 2013

How sequestration affects health care providers

Based on how the BBEDCA law is written, reductions in Medicare payments will not take place until 30 days after the notice to implement sequestration goes into effect. Since March 1, 2013, was the effective date, health care providers will begin seeing reductions for provided services beginning April 1, 2013. The law has specific definitions for the timing of these reductions, which include the following:

  • Inpatient services are considered provided on the discharge date of the individual patient from the inpatient facility.
  • For providers receiving reimbursement on a cost basis (such as critical access hospitals), reductions are to be applied to payments based on the portion of the cost reporting period that occurs during the sequestration.
  • For physician services provided under assignment, the reduced payment is to be considered as “payment in full” and Medicare beneficiaries will not be expected to pay higher levels of coinsurance or deductibles.

In its March 1, 2013, update, OMB released revised estimates of reductions for health care providers and related organizations. Based on these revised estimates, Medicare reductions will total approximately $11.1 billion in 2013, with approximately $5.8 billion coming from Medicare Part A and $5.3 billion from Medicare Part B. Since the actual reductions will not begin until April 1, 2013, the timeframe for the $11.1 billion reduction will run through March 31, 2014, and the reductions from this 12 month time period will all be attributed to 2013 reductions.

The sequestration law does not allow for overlapping of reductions in any year, and as a result, additional 2014 Medicare reductions (assuming Congress and the president fail to enact legislation that will stop sequestration) will begin on April 1, 2014, and run through March 31, 2015. This will continue to be the cycle until sequestration is discontinued or the mandated time period ends.

The reductions to Medicare are based solely on reductions in payments to providers and sequestration does not incorporate changes to beneficiary benefits.

Health care organizations that qualify for federally funded research grants will most likely experience the largest reductions due to additional cuts in funding to the National Institute of Health (NIH). According to the Congressional Budget Office’s (CBO) most recent estimates, NIH has targeted reductions of about $1.5 billion to $1.6 billion in 2013 alone. For teaching hospitals, these reductions would be in addition to their share of the $11.1 billion discussed previously in Medicare Parts A and B.

Certain provisions enacted by the Patient Protection and Affordable Care Act (PPACA) will also be impacted by sequestration. Specifically noted in the CBO’s estimate are grants designed to help states with establishing health insurance exchanges will experience reductions of about 5.1 percent in 2013, or approximately $44 million. It remains to be seen what, if any, impact these reductions will have on these exchanges, which are scheduled to begin operating on January 1, 2014.

Other provisions of the PPACA — such as grants to states for Medicaid, pre-existing condition insurance plan program, quality improvement organizations, and HIT incentive payments that came about as the enactment of the American Reinvestment and Recovery Act (ARRA) — are exempt from sequestration cuts.

The overall magnitude of sequestration on the PPACA will depend specifically on the individual program, whether the funding is a multi-year appropriation, an unobligated balance (essentially a carryover of appropriated funds from a prior year), a federal administrative expense, or discretionary spending. In general, all federal administrative expenses and mandatory and discretionary spending are subject to sequestration. However, cuts only apply to new budget authority for that particular year, and as a result, would not apply to any carryover appropriations from prior budgets.

As a general rule of thumb, much of the PPACA, especially the coverage expansion provisions, are aimed at lower income individuals, and by default, these provisions would be exempt from sequestration cuts. Certain programs, such as funding for Community Health Centers and Indian Health Services, are subject to sequestration, but cuts are capped at 2 percent. Any federal expenses associated with administering PPACA programs will be subjected to reductions as a result of sequestration.

What will be the impact?

The dollar impact of sequestration reductions of $1.2 trillion over nine years is significant and undoubtedly will have some level of impact on the U.S. economy as a whole. Some are estimating the long-term effects of these cuts could result in the loss of hundreds of thousands of jobs nationwide, ultimately driving up unemployment and dragging down the overall economy.

The flip side, however, is that the U.S. has been experiencing trillion dollar deficits since 2009. As a result, our national debt continues to grow. Undoubtedly the debate in Washington as to how best arrive at a balanced budget will continue, while the American public continues to watch in amazement at the inability of our elected leaders to make progress.

How we can help

Revenue cycles of health care providers are going through a period of significant transformation and the impact of sequestration is one more component to manage. CliftonLarsonAllen can help you understand how much these changes will affect your revenue cycle and guide you in developing the critical strategies necessary to best position your organization for long-term success.

Rob Schile, Health Systems and Reimbursement Partner-in-Charge or 612-376-4592