The opinion of the court was delivered by: Rosemary M. Collyer United States District Judge
Two public hospitals in the Commonwealth of Virginia provide health care services to a disproportionate share of Medicaid and certain uninsured low-income patients and Virginia seeks supplemental Medicaid reimbursement from the Centers for Medicare & Medicaid Services ("CMS") of the U.S. Department of Health and Human Services ("HHS"). Since 1981, Congress has provided such supplemental funds to safety-net hospitals that serve large numbers of Medicaid and other eligible patients. Congress intended these supplemental funds to improve the financial stability of these "disproportionate share hospitals" ("DSHs") and to preserve access to health care services for eligible indigent patients. In this case, Virginia and CMS dispute whether, in the context of care for the indigent, reimbursable "hospital services" include physician services at these two public hospitals. Virginia seeks a reimbursement payment of $11,085,181, as the federal share for its payments for physician services in 1997 and 1998 that have been disallowed by CMS. The Court concludes that HHS's disallowance of Virginia's reimbursement payment was proper.
A. Statutory and Regulatory Background
The Medicaid program (Title XIX of the Social Security Act ("SSA"), 42 U.S.C. § 1396 et seq., also referred to as the "Medicaid Act" or the "Medicaid statute") was established in 1965 as a cooperative venture between the federal and state governments to assist states in providing medical care to eligible individuals. Harris v. McRae, 448 U.S. 297, 301 (1980); see also Wilder v. Va. Hosp. Ass'n, 496 U.S. 498, 502 (1990); Atkins v. Rivera, 477 U.S. 154, 156 (1986). The primary objective of the Medicaid program is "to furnish (1) medical assistance on behalf of families with dependent children and of aged, blind, or disabled individuals, whose income and resources are insufficient to meet the costs of necessary medical services, and (2) rehabilitation and other services to help such families and individuals attain or retain capability for independence or self-care." 42 U.S.C. § 1396. Federal and state governments jointly share the cost of providing medical care to eligible low-income and disabled individuals. See id.; id. § 1396b.
Each state administers its own Medicaid program pursuant to a state Medicaid plan which must be reviewed and approved by the Secretary of HHS. 42 U.S.C. §§ 1396, 1396a. If the state's Medicaid plan is approved by the Secretary, the state generally becomes eligible to receive federal matching funds, or "federal financial participation" ("FFP") for a percentage of the amounts "expended . . . as medical assistance under the State plan." See id. § 1396b(a)(1); see also id. § 1396d(b). Federal funding levels are established by a statutory formula which computes reimbursement rates for each state, based on that state's federally-approved state plan. See id. § 1396b. The types of "medical assistance" that are reimbursable by the federal government include, among others, inpatient hospital services, outpatient hospital services, dental services, prescription drugs, and physician services (including those furnished in a hospital). Id. § 1396d.
The Omnibus Budget Reconciliation Act of 1981 ("OBRA 1981") amended the SSA to require states to make available supplemental funds to safety-net hospitals that serve large numbers of Medicaid and other low-income patients with special needs. See Pub. L. No. 97-35, § 2173(B)(ii), 95 Stat. 357 (codified at 42 U.S.C. § 1396a(13)(A)(iv)). The intent was to stabilize the hospitals financially and preserve access to health care services for eligible low-income patients:
[s]uch hospitals, especially in urban areas, are often multi-faceted health care institutions, which provide many public health and social services to all residents of their area, in addition to serving as hospitals of last resort for the poor. Their sizable Medicaid populations often require extra social and public health services. In addition, in many areas such hospitals also provide considerable care for indigent persons not eligible for Medicaid, who often have only partial or no health care coverage.
H.R. Rep. No. 97-158, at 295 (1981) (Budget Committee Report discussing provisions eventually incorporated in Pub. L. No. 97-35), available at AR 01043. Only costs that are not otherwise paid for by the patient, insurance, another third party, Medicaid, or any other program are eligible for DSH reimbursement. Such reimbursements are called "payment adjustments." See 42 U.S.C. § 1396r-4(c).
States have discretion in deciding which hospitals receive DSH payments and the level of funds that those hospitals will receive, see 42 U.S.C. § 1396r-4, although there are certain limits. First, section 1923(f) of the SSA imposes a specific DSH funding limit (the "State DSH Allotment") on each state for each federal fiscal year. See id. § 1396r-4(f)(2). Thus, Congress controls the overall level of federal DSH funding state-by-state. There is no dispute that all of the DSH payments at issue here were well within the State DSH Allotment set by Congress for the Commonwealth of Virginia for the respective time frames.
Second, through the Omnibus Budget Reconciliation Act of 1993 ("OBRA 1993"), Congress separately limited the amount of DSH payments that can be paid to each DSH hospital for the uncompensated costs incurred for treating Medicaid beneficiaries and the indigent uninsured. Pub. L. No. 103-66, § 13621, 107 Stat. 312, 629-33 (1993) (codified at 42 U.S.C. § 1396r-4(g)). This hospital-specific DSH cap is referred to as the uncompensated care cost limit (the "UCC limit"). Specifically, the SSA provides that DSH payments cannot exceed: the costs incurred during the year of furnishing hospital services (as determined by the Secretary and net of payments under this subchapter, 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). Instead of promulgating regulations to implement the UCC limit enacted by OBRA 1993, the Health Care Financing Administration ("HCFA"), predecessor to CMS, issued a letter dated August 17, 1994 to State Medicaid Directors ("1994 CMS Letter") to provide guidance on the meaning and effect of the new enactment. See AR 01309. The 1994 CMS Letter stated, in relevant part, that (1) "the legislative history of this provision makes it clear that States may include both inpatient and outpatient costs in the calculation of the limit," and (2) "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." Id. at 01312.*fn2 The 1994 CMS Letter explained that "[t]he Medicare principles are the general upper payment limit [("UPL")] under institutional payment under the Medicaid program." Id. CMS concluded that "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." Id. Although intending to issue regulations interpreting the UCC limit that was enacted by OBRA 1993, CMS has not done so to date. See AR 01309 ("Until these regulations are published, this summary represents HCFA's interpretation of the new DSH requirements.").
The Commonwealth of Virginia has recognized at least two hospitals within its borders that have been accorded DSH status: the University of Virginia Hospital ("UVA") and Virginia Commonwealth University's Medical College of Virginia Hospital ("MCVH") (together, the "Hospitals"). Each is a teaching hospital and each cares for a disproportionate share of Medicaid and indigent patients.
Virginia had a State Medicaid plan in effect during the period relevant to CMS's disallowance (i.e., state fiscal years ("SFYs") 1997 and 1998) which implemented the UCC limit for these DSHs by providing:
A payment adjustment during a fiscal year shall not exceed the sum of:
(a) Medicaid allowable costs incurred during the year less Medicaid payments, net of disproportionate share payment adjustments, for services provided during the year, and
(b) Costs incurred in serving persons who have no insurance less payments received from those patients or from a third party on behalf of those patients. Payments made by any unit of the Commonwealth or local government to a hospital for services provided to indigent patients shall not be considered to be a source of third party payment.
Id. at 01258, 01287. CMS approved the state plan for both years. "The Department of Medical Assistance Services ('DMAS') administers the Medicaid program in Virginia and is responsible for DSH payments." Id. at 00181.
Pursuant to the quoted plan language, DMAS submitted for payment adjustment the unpaid costs for physician services to the indigent at both DSHs in SFY 1997 and 1998. When these costs were subject to a routine audit by the HHS Office of Inspector General ("OIG"), the OIG concluded that, though Virginia's DSH payments to the Hospitals "were calculated in accordance with the State plan," Virginia should not have included the Hospitals' costs of physician care in the UCC calculations. Id. at 00186, 00238. Specifically, by final reports dated April 24, 2003 ("MCVH Report") and May 1, 2003 ("UVA Report") (collectively, the "OIG Reports"), the OIG concluded that: (1) the physician costs were not incurred by the Hospitals, but were incurred by the physician practice groups that were separate legal entities; and (2) the physician costs were not allowable because they were not consistent with Medicare cost principles. See id. at 00186, 00238. The OIG believed "that the explicit language of the DSH statute, CMS interpretation of the statute, and Medicare cost principles support our position that . . . physician costs should not be included as part of [each Hospital's] UCC." Id. at 00192 (UVA), 00246 (MCVH). The OIG therefore recommended that CMS recoup the federal government's portion of DSH payments attributable to the physician costs incurred by the Hospitals, which totaled $11,085,181. See id. at 00190 (UVA), 00245 (MCVH).
Over two years later, after several meetings between representatives of CMS and the Commonwealth, CMS notified Virginia, by letter dated September 8, 2005, that it was disallowing $11,085,181 in FFP for Medicaid DSH payments because the Hospitals "overstated their UCC of furnishing hospital services by including the UCC of independent physician groups." Id. at 00175. CMS explained that "[t]he individual physicians that practiced as part of these groups were not hospital employees" as they "billed separately for their services and had their own Medicaid provider identification numbers." Id. at 00175-76. Further, CMS reasoned that because the services provided by these physician groups "were billed and paid by the State . . . as physician services . . . and not as ...