"Bundling" Payment for Episodes of Hospital Care: Issues and Recommendations for the New Pilot Program in Medicare

Originally published by the Center for Studying Health System Change (HSC) as a Commentary, July 2011.

Bundled Payments for Hospital Episodes of Care

The 2010 health reform law directed the Department of Health and Human Services to launch a pilot project testing bundled Medicare payments organized around hospital episodes of care. Bundled payment is an approach where a single payment covers all services associated with a defined episode, such as a hip replacement or a heart bypass surgery, rather than paying separately for each individual service provided by each provider involved in the patient's care.

A paper published by the Center for American Progress, coauthored by HSC President Paul B. Ginsburg, Ph.D., along with Harriet L. Komisar and Judy Feder, argued that bundling payments around hospital episodes could produce benefits for all parties involved, including taxpayers. By holding a group of providers collectively responsible for the total cost of an episode, bundled payments create financial incentives for hospitals, physicians, and post-acute care providers to coordinate care more effectively, reduce unnecessary services, and avoid preventable complications.

How Bundled Payments Work

Under traditional fee-for-service Medicare, each provider involved in a patient's hospital stay bills separately for their services. The hospital submits a claim for the facility charges, each physician bills individually for their professional services, and post-acute care providers such as rehabilitation facilities or home health agencies bill separately for follow-up care. This fragmented payment structure creates no financial incentive for these providers to work together to manage the overall cost or quality of the episode.

Bundled payments change this dynamic by establishing a single, predetermined payment for the entire episode. The providers involved must then determine how to divide that payment among themselves and how to deliver the necessary care within the fixed budget. If they can deliver high-quality care at a cost below the bundled payment amount, they share in the savings. If complications or inefficiencies drive costs above the bundled amount, the providers absorb the excess cost. This shared financial accountability gives providers a direct stake in coordinating care, reducing waste, and preventing avoidable readmissions.

Key Recommendations for the Medicare Pilot

The authors offered several recommendations for designing the Medicare bundled payment pilot. They emphasized the importance of defining episodes broadly enough to capture the full range of services related to a hospital stay, including pre-admission testing, the inpatient stay itself, physician services during the hospitalization, and a defined period of post-acute care. A narrow episode definition that excluded post-discharge care, for example, would miss one of the biggest sources of variation in episode costs and reduce the incentive for hospitals to invest in better discharge planning and care transitions.

The paper also addressed the need for risk adjustment to account for differences in patient severity and the importance of quality safeguards to ensure that providers do not achieve savings by skimping on necessary care. Without adequate quality measures and monitoring, the financial incentives inherent in bundled payments could potentially lead providers to cut corners, discharge patients prematurely, or avoid treating sicker patients whose care is more likely to exceed the bundled payment amount.

The analysis positioned bundled payments as a stepping stone toward broader payment reform. While not as comprehensive as a fully capitated system or a global budget, bundled payments for hospital episodes represent a meaningful departure from fee-for-service payment that could demonstrate the feasibility of holding providers accountable for the cost and quality of defined units of care. Success with bundled payments could build the organizational capacity and collaborative relationships among providers that would be needed for more ambitious payment reform models in the future.

Sources and Further Reading

Komisar, Harriet L., Judy Feder, and Paul B. Ginsburg, "Bundling Payment for Episodes of Hospital Care: Issues and Recommendations for the New Pilot Program in Medicare," Center for American Progress (July 2011).

Centers for Medicare and Medicaid Services, Bundled Payments for Care Improvement Initiative.