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Volume 35        Number 6        Summer 2002
  The Medicare Hospital Wage Index

It's sometimes easy to forget the importance of the Medicare Hospital Area Wage Index, which is used to adjust payments for Medicare inpatient and outpatient services, SNF services, home health services, and rehab services. Minor variations in a labor market area's wage index can have a substantial impact on a hospital's overall Medicare payments.

Because of the significance of the wage index on Medicare payments, the Georgia Chapter of EFMA, in conjunction with the Georgia Hospital Association, recently developed a resource tool-"Medicare Hospital Wage Index"-to help heighten awareness and provide education on the importance of the Medicare area wage index. This resource provides an overview of the Medicare area wage index, why it is important, and a checklist aimed at helping hospitals make sure that they are including all allowable costs in their cost report data that is used to calculate the area wage index. There is also information regarding the FY 2003 wage index development timetable.

Why is the hospital area wage index important?

The hospital area wage index is used to adjust Medicare payments for not only inpatient services, but for outpatient services, skilled nursing facility (SNP), home health, rehab, and other Medicare prospective payment systems (PPS). Even a slight decrease in a labor market's area wage index can have a significant impact on a hospital's overall Medicare payments. For example, a five percent change in the wage index translates into a payment change of roughly $200 per discharge for the typical hospital, or $500,000 annually for a hospital with 2,500 Medicare discharges. The negative impact is even greater when the decrease in payments for outpatient services is taken into consideration. If the wage index for a labor market area does not accurately reflect true labor costs, hospitals could needlessly lose millions of dollars of reimbursement. In addition, under the capital prospective payment system, capital payments are adjusted for local cost variation based on the hospital wage index.

What is the hospital area wage index?

The wage index reflects the relative level of wages and salaries for hospital workers in a metropolitan area or statewide rural area. The hospital wage index is a measure of wage levels across areas, relative to the national average hourly wage for hospital employees. The national average hourly wage is determined by adding the salaries and wage-related costs and hours of all hospital employees (excluding those attributable to skilled nursing units, home health services, or other sub provider units) and home office salary costs and hours for all hospitals in the country. Total salaries are divided by total hours.

To calculate an average hourly wage for a particular labor market area (MSA or rural area), CMS sums the total gross allowable wages and wage-related costs of PPS-eligible hospitals within a labor market area, and divides them by the total paid hours for which such wages and wage-related costs were paid for the labor market area. The average hourly rate for a defined labor market area is divided by the national average hourly wage to calculate the area wage index for a defined labor market area.

If a particular wage market has an index value of 0.91, that means that the hourly hospital wages paid in the market area average 9% less than the hourly wages for all hospitals paid under the prospective payment system for that year. Because the index value is less than one, the standardized rates for hospitals in this market will be reduced. A wage index value of 1.1 indicates that the hourly hospital wages in the market area are 10% greater than the national average, and the standardized payment rates will be increased accordingly.

The area wage index is used to adjust hospital payments under the various Medicare Prospective Payment Systems (PPS). The labor portion of the inpatient DRG payment determines approximately 71% of the total payment amount. Outpatient labor costs are estimated at 60% of the payment rate. Labor costs for home health services represent 77% of the payment and are approximately 78% for skilled nursing facilities. With so much of the total payment adjusted by the area wage index, as a proxy for labor costs, accuracy in the reporting of wage data is vital. It is important to make certain that all allowable costs are included on the Medicare cost report when completing worksheet S3, Parts II and III.

Because the wage index adjustment is budget neutral, if the wage index values increase in one labor market area, the wage index in other MSAs will have to decrease. Likewise, if wage index values in other states increase, then wage index values in Georgia could decrease.

What Can Hospitals Do To Improve Their Wage Index?

There are a number of reasons why a particular area's wage index may be incorrect. First, Worksheet S-3, Part II and III is an informational part of the Medicare cost report, so some hospitals may not devote as much attention to this part of the cost report. Second, hospitals that experience turnover in financial reporting staff may experience problems with consistency in reporting wage index data from one year to the next. In addition, there is a three to four year lag in the reporting of data and its use for calculating the wage index. For example, the FY 2003 wage index will be based on the 1999 Medicare cost report. Even so, hospitals have the opportunity to review their wage index data prior to the publication of the final wage index and to correct any inaccurate data that may be used during the wage index development process. If one hospital in an MSA has submitted incorrect data which results in a lower wage index, all hospitals in the MSA will suffer decreased Medicare reimbursement.

Problems with the wage data can arise due to hospital failure to properly report costs on the cost report, failure to properly request revisions to the wage data, or failure to verify the data that the intermediary and CMS uses to calculate the wage index.

It is to the benefit of all hospitals in a labor market area to work together to review the preliminary wage index data provided by CMS during the wage index development process. A Wage Index Checklist is listed below to assist hospitals in making sure that all allowable costs are included in cost report data.

Wage Index Check List

When completing Worksheet S-3, Part II and III of the Medicare cost report, make sure that the following costs are included:

• Total wage and salaries paid to hospital employees
• On-call or stand by wages
• Contract labor for direct patient care services

Therapeutic services
Rehabilitative services
Diagnostic services

• Physicians salaries and wage related costs for Part A services, including teaching physician salaries and wage related costs
• Intern and Resident salaries and wage related costs.
• Contract management personnel costs for CEO, COO, CFO and CNO.
• Home office salaries
• Wage-related costs (fringe benefits):

FICA taxes (employer portion only)
Medicare taxes (employer portion only)
Pension plans
401K employer contributions
Tax sheltered annuity (TSA) employer contributions
Qualified and non-qualified pension plan costs
Prior year pension service cost
401K/TSA plan administration fees
Legal/accounting/management fees associated with pension plan
Employee managed care program administration fees
Health insurance (purchase or self-funded)
Prescription drug plan
Life insurance
Accident insurance
Disability insurance
Dental insurance
Long Term Care Insurance
Vision Benefits
Hearing plans
Unemployment insurance
State or Federal unemployment taxes
Workers' compensation insurance
Deferred compensation
Education expenses (tuition reimbursement) (staff training?)
Auto allowances
Unrecovered costs of medical services provided to employees
Moving expense reimbursement
Vacation accrual
Sick pay accrual
Paid time off
Retiree health care cost (only the current year)
Day Care Cost and allowances
Loan forgiveness reported as wages to IRS

Because the same area wage index is used for all PPS hospitals in a particular labor market area, there is an incentive for those hospitals to work together to make sure that the data used to calculate the area wage index for their area includes all allowable costs. Collaboration between hospitals on wage index issues is a win-win effort. HFMA and GHA, working together, will be glad to facilitate a meeting of hospitals in a labor market area to review in more detail the wage index data. If your hospital is interested in participating in such an effort, or if you would like a copy of the wage index document, please contact Robert E. Bolden, FHFMA at (770) 249-4505, rbolden@gha.org.