Scrutiny on Inpatient Stays "Heats Up"- Short Stay Inpatient and Observation Services

As the summer heat intensifies, so have audits of short stay inpatient and observation claim reviews precipitated by audits being conducted by Medicare Administrative Contractors (“MAC’s”), Recovery Audit Contractors (“RAC's”) and other governmental entities.
While the Two Midnight Rule has been the “law of the land” since 2014, the Center for Medicare and Medicaid Services (“CMS”) had previously taken a quality review approach.  Since that time, audits have been increasing and in April of 2018, a large health system entered into a Corporate Integrity Agreement (“CIA”) with the Office of Inspector General (“OIG”) specifically related to short stay and observation services. The $18 million settlement was a wakeup call heard across the country relative to ensuring short stay and observation billing is in compliance with Medicare guidance. 
As Hospitals reacted to the news and started conducting diagnostic reviews, some facilities also identified risk as it relates to the application of the Condition Code 44 rule.  Below, we summarize the basic elements that facilities should be attentive to when evaluating internal Utilization Management (“UM”) and Clinical Documentation Improvement (“CDI”) processes related to short stay inpatient and observation services.

Two Midnight Rule  

The Program Integrity Manual, Pub 100-8, Chapter 6, Section 6.5.2 states a patient must be expected to need, or receive, a total of two or more midnights of hospital care which can be provided in an inpatient setting or a combination of two or more outpatient observation and/or inpatient days.  Inpatient stays lasting less than two days, or “short stay inpatients”, are reimbursed under Part A if the documentation meets the definitions of “exceptions” or “unforeseen circumstances” as described below.

  • Exceptions apply when it is not expected that the patient will require two midnights as follows:
    • Procedure performed is on CMS “inpatient only” procedure list.
    • The procedure is a CMS identified national exception to the Two-Midnight benchmark, such as newly initiated mechanical ventilation. 
    • Medical record documentation supports a need for inpatient care.
  • Unforeseen circumstances apply when the physician does expect the patient will require two midnights, but one of the following occurs to shorten the stay:
    • Unexpected death
    • Transfer to another hospital
    • Departure against medical advice
    • Patient experiences clinical improvement
    • Election of hospice in lieu of continued treatment in the hospital 

While the majority of “exceptions” and “unforeseen circumstances” noted above are easily supported in the physician and ancillary documentation, non-inpatient only procedure exceptions and “clinical improvement” requires robust documentation by the physician responsible for managing the processes for short stays cases within the UM and CDI program. 

Observation Service Billing  

Observation services have long been a source of confusion for facility billing. The Medicare Claims Processing Manual, Chapter 4, Section 290 defines observation services as “a well-defined set of specific, clinically appropriate services, which include short term treatment, assessment and reassessment before a decision can be made regarding whether patients will require further treatment as hospital inpatients or if they are able to be discharged from the hospital”.  Since CMS has not outlined the “specific clinically appropriate services”, hospitals must ensure processes are in place within UM to evaluate the appropriateness of billing observation services versus outpatient or inpatient levels of care.
In addition, observation services are billed per hour (units) which are generally not to extend beyond forty-eight (48) hours. A minimum of eight (8) hours must be billed in order to qualify a claim for the observation APC.  Assuming all other elements are present, the total units billed does not impact total payment. 
To calculate the number of hours (units) is complex.  While the “clock” starts with the physician order and ends when all observation services are complete, time receiving therapeutic service that requires active monitoring must be carved out of the total billable time (units).  On paper the formula appears simple, but the day to day application is more difficult.  Since a separate payment can be generated for observation services when eight (8) hours are appended, ensuring a formal process is in place to manage the unit calculation is important.
Hospitals must also ensure that observation hours prior to an inpatient hospital admission are captured appropriately.  Observation charges and units should be captured on a single line on the inpatient claim which corresponds to the date and time observation services began and inpatient services were initiated (subtracting therapeutic time).  However, the inpatient admit date begins on the date of the order for inpatient services and should not be backdated to the time the patient was placed into an observation level of care.   

Billing observation services clearly has potential pitfalls, but facilities with comprehensive processes in place fare well in navigating to ensure appropriate reimbursement for the services rendered.

Condition Code 44  

The regulations governing Condition Code 44 can be found in the Medicare Claims Processing Manual, Chapter 1, Section 50.3 which stipulate its use only when all of the following circumstances exist:

  • The change in patient status from inpatient to outpatient is made prior to discharge or release, while the beneficiary is still a patient of the hospital;
  • The hospital has not submitted a claim to Medicare for the inpatient admission;
  • The practitioner responsible for the care of the patient and the UR committee concur with the decision; and
  • The concurrence of the practitioner responsible for the care of the patient and the UR committee, as well as the patient notification, is documented in the patient’s medical record. 

While it is essential that all of the elements outlined above are appropriately documented within the medical record, patient notification for meeting Condition Code 44 is separate and distinct from the requirements for MOON notification which was enacted by CMS on February 21, 2017. 
Specifically, the obligation to notify the patient that they are being transitioned from an inpatient level of care to observation is set forth by Medicare in Condition Code 44 guidelines; whereas the MOON must be signed by the patient, notifying them that they are in an observation level of care more than twenty-four hours, and their associated financial responsibility as compared to an inpatient stay.  While some hospitals transitioned to utilizing the MOON for Condition Code 44, it was not intended to notify the patient that they are being changed from an inpatient level of care to an observation/outpatient level of care, as required by Condition Code 44.  Therefore, incorporating into the “Additional Information” section of the MOON, the change in level of care as required by Condition Code 44 mitigates the documentation deficiencies that have arisen as facilities transitioned to the MOON to support Condition Code 44 guidelines.
In summary, ensuring your UM and CDI team have formal processes in place to manage short stay claims, specifically as it relates to “exceptions” and “unforeseen circumstances”, is vital to minimizing risk.  In addition, monitoring and updating mechanisms by which observation units are applied, as well as adherence to Condition Code 44 requirements for patient notification, is also crucial to an effective short stay inpatient process improvement plan.

SunStone offers comprehensive solutions specifically geared to assisting facilities and providers assess the inpatient and observation revenue cycle in this ever-changing regulatory environment.  If you have any questions, please contact Vonda Moon, Principal at or Laura Ehrlich, Senior Clinical Specialist at