Response to Questions Concerning Percentage Contracts and Limited Service Contracts Under Medicare

In response to a congressional request, GAO answered a number of questions related to percentage-type contracting by Medicare providers in light of changes that have been made in relevant Medicare law. GAO also addressed questions related to the need for Medicare's procedures for determining the reasonableness of prices under limited service contracts, based on a prior report on management service contracts and on the rationale behind the current reimbursement requirements.

GAO believes that the Tax Equity and Fiscal Responsibility Act of 1982 should significantly reduce the use of percentage-type contracts by providers under Medicare. The act prohibits, for a Medicare provider paid on a cost or cost-related basis, recognition of any cost incurred by the provider under a contract where the amount of payment is based on a percentage of the provider's charges. In the opinion of GAO, there are no Medicare reimbursement mechanisms which would specifically dissuade providers from using less costly in-house services; however, there are a number of Medicare reimbursement mechanisms which provide at least some incentives for choosing lower cost ways of operating, whether in-house or contracted. In addition, GAO believes that Medicare's use of reasonableness tests on the amount paid under limited services contracts is justified. Before contracting for a service currently being performed in-house, the provider should: (1) have costs analyzed to determine whether contracting out is justified; (2) pay no more than the marketplace price for contract services, encourage competition; and (3) determine that the contracting process resulted in reasonable costs to the program.