On July 15, 2008 Congress enacted legislation that contains several features that are noteworthy for the clinical laboratory industry.  Generally, hospitals receive a bundled payment from Medicare for services provided to Medicare enrollees.  For hospitals that subcontract with third parties to provide a portion of that service, the hospital is responsible for paying the subcontractor out of the bundled fee it receives from Medicare.  There is, however, an exception that permits laboratories to directly bill Medicare directly for the technical component of anatomic pathology services provided to hospital inpatients and outpatients if the hospital had an agreement in place to purchase lab services as of July 22, 1999.  The exception permitting direct billing of these arrangements was to sunset on June 30, 2008.  A General Accounting Office report estimated that 95 percent of all Medicare prospective payment system hospitals and critical access hospitals have such an arrangement for technical pathology services. 

Long before the sunset date, the clinical lab industry was actively lobbying for a permanent change, or at least an extension of the grandfather clause.  The logic supporting their argument is that CMS is merely shifting the burden of the technical component of clinical lab services to hospitals, many of which are already cash-strapped and unable to pay.  In addition, the change would increase administrative obligations and billing expense, with no corresponding value added.  As with many similar proposals, it is likely that smaller and rural providers would be the most adversely affected.

Ultimately, the logic of the clinical lab position was once again persuasive to Congress, and they extended the life of the grandfather clause and direct billing of Medicare for the technical component of lab services until Dec. 31, 2009.  Obviously, this is a significant win for clinical laboratories.

A couple of issues are worthy of note.  First, CMS takes the view that the grandfather protections are vested with the hospital and not the laboratory.  As a result, a hospital may switch laboratories and retain the protection of the grandfather clause.  A laboratory, however, has no coverage for its relationships with other hospitals.  Second, Congress passed an 18-month extension, but declined to make the extension permanent.  Each extension to this point has come in spite of a General Accounting Office study supporting CMS’s view. Laboratory companies should therefore be prepared to address the dispute again in 2009 because it is unlikely that CMS will change its position or that Congress will act before then to make the protection permanent.

While the aggregate value of the direct payments for the clinical laboratory market as a whole is not tremendous, companies benefiting from grandfathered arrangements should understand their own specific position regarding grandfathered revenues.  Companies with material revenues from these arrangements should prepare for the possibility that they will ultimately be required to bill the provider for the technical component if the grandfather provision is allowed to sunset. Additionally, potential buyers of lab companies should carefully evaluate the value of target revenues generated from grandfathered contracts in preparing their valuation models, and include contingency plans for arrangements that require revisions to address the loss of direct payment streams as early as Dec. 31, 2009.

For more information, please contact Kevin Kimery, Will Morrow or any member of Waller Lansden’s Healthcare practice at 800-487-6380.