Cost Report Allocation for a Provider-Based RHC
A Rural Health Clinic is provider-based to a 25-bed critical access hospital. The hospital's fiscal year ends June 30. The RHC occupies 3,000 square feet of a 60,000-square-foot hospital building. The hospital's total overhead (administration, plant, laundry, IT) is $4.2 million. The RHC's direct costs are $1.1 million, of which $850,000 is clinical salaries and benefits. The hospital allocates overhead to the RHC using a square-footage method. The RHC's Medicare visits were 8,400 for the year, and its all-inclusive rate is $92 per visit. The hospital's reimbursement consultant questions whether the square-footage allocation is appropriate and whether the RHC's costs are being fully captured. The hospital is preparing its Medicare cost report and is concerned about a potential audit adjustment.
1. Evaluate the square-footage allocation method for the RHC's overhead. What alternative allocation methods might be more defensible, and what documentation is needed?
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Square footage is a defensible but often imprecise allocation for overhead in a provider-based RHC. Its appropriateness depends on the nature of the cost being allocated:
- Plant, housekeeping, and utilities are reasonably allocated by square footage.
- Administration, IT, and laundry may be better allocated by other statistics: full-time equivalents, computer counts, pounds of laundry, or direct cost.
- Medicare cost report principles require that costs be allocated on a reasonable basis that reflects the actual cost of providing services. A single square-footage method for all overhead can distort the RHC's cost if its space usage does not correlate with its consumption of administrative services.
More defensible alternatives
- Use multiple allocation bases by cost center (square footage for plant; FTEs for administration; direct cost for IT).
- Document the rationale for each basis and ensure it is applied consistently year over year.
Documentation needed
- A written cost allocation policy with the basis for each overhead pool.
- Supporting statistics (square footage, FTEs, equipment inventories) retained for audit.
- Reconciliation of allocated costs to the general ledger.
- A description of the RHC's provider-based status and the hospital's integrated cost report treatment.
2. The RHC's Medicare visits were 8,400 at $92 per visit. Does the cost allocation suggest the RHC is under- or over-recovering its costs? What should the hospital examine before finalizing the cost report?
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Revenue side: 8,400 visits × $92 = $772,800 in Medicare AIR revenue. This is before coinsurance and before any Medicaid or commercial revenue.
Cost side: Direct costs are $1.1 million. The overhead allocation using square footage is 3,000/60,000 × $4.2 million = $210,000. Total allocated cost = $1.1 million + $210,000 = $1.31 million.
On its face, the RHC's allocated cost ($1.31 million) exceeds its Medicare revenue ($772,800), suggesting the RHC may be under-recovering on Medicare alone - but this comparison is incomplete because the RHC also serves Medicaid and commercial patients, and the AIR is a per-visit payment that may not cover fully allocated costs.
What to examine before finalizing
- Visit count accuracy: Confirm 8,400 Medicare visits are correctly counted (visit definition, same-day rules, non-covered visits).
- AIR calculation: Verify the AIR is correctly computed and updated.
- Overhead allocation reasonableness: If the square-footage method over-allocates overhead to the RHC, the cost report may overstate RHC costs; if it under-allocates, costs are understated. Compare with alternative bases.
- Direct cost completeness: Ensure all RHC direct costs (including the care coordinator and NP salaries) are captured.
- Cost report treatment: Confirm the RHC is reported correctly as a provider-based department and that the AIR is used appropriately.
- Audit exposure: Document the allocation methodology and be prepared to defend it; consider a sensitivity analysis using FTEs as an alternative.