Observation Stays Save Money for Private Insurers, Patients

Observation stays at hospitals have been controversial in the long-term care world for their role in Medicare reimbursements, but a new study shows that they could save money on the private-pay side — a trend that could have consequences for both types of insurance models.

Between 2009 and 2013, non-elderly patients affiliated with three major insurance companies spent substantially less money out of pocket on observation stays than their counterparts who were formally admitted. In turn, their insurers had lower bills for observation stays, according to a new study from researchers at the University of Edinburgh and the University of Michigan.

“As observation care attracts greater attention, policy makers should be aware that Medicare policies that disincentivize observation may have unintended financial impacts on non-Medicare populations, where observation care may be cost saving,” the researchers wrote in the study, which appeared in the December issue of Health Affairs.


When patients enter a hospital, they can either be held for observation or fully admitted. For Medicare beneficiaries, this is a key distinction, as observation stays don’t count toward the so-called “three-day rule” for skilled nursing coverage — which requires patients to spend three nights in a hospital before receiving 100 days of Medicare-covered SNF care.

In addition, Medicare beneficiaries must cover 20% of outpatient-service costs, which could be a financial burden for observation patients who don’t have supplemental policies, the researchers noted.

But the distinction between observation and admittance may not always be clear, as the researchers point out, and confusion over the matter prompted the Centers for Medicare & Medicaid Services (CMS) to require hospitals to clearly explain the difference to patients.


Still, observation stays could have benefits for some Medicare beneficiaries, with a 2012 study showing that the outpatient services led to lower out-of-pocket costs. Those findings, in part, prompted the researchers to explore this question in the private-insurance space, where the costs and benefits of observation care had yet to be explored similarly.

Using a database of claims from Aetna, Humana, and UnitedHealthcare, the team studied more than 800,000 observation stays and 291,000 hospital admissions over a four-year period, primarily focusing on non-Medicare eligible patients aged 18 to 64. They found that not only did observation use increase over that time for multiple types of health conditions, both total and out-of-pocket spending was lower for observation care: For example, a cardiac dysrhythmia patient paid 3.9 more if admitted to a hospital.

However, the researchers also found that the cost of observation stays rose substantially between 2009 and 2013, while short-stay admission charges stayed static.

“This finding indicates that there may be substantial financial benefit to observation care for commercial insurers and patients alike,” they wrote.

The team concludes with a warning about how potential CMS efforts to reduce the use of observational stays for Medicare patients could affect private-pay health care costs, as health insurance companies frequently take cues from Medicare on reimbursement structures.

Written by Alex Spanko

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