How a New Funding Model Would Help Rural Hospitals Avoid Closure

When the only hospital in Madera County, located in rural California, closed its doors in late January 2023, more than 160,000 residents were left without a general hospital. In the months since, Madera County residents have been forced to drive thirty minutes southeast to neighboring Fresno in order to receive care. For a mostly Latinx population already facing significant barriers to care, this closure has proven highly detrimental. This influx of patients has placed a considerable strain upon the area, resulting in declarations of emergency from both Fresno and Madera Counties.

The challenges faced by Madera County are not unique. Rather, they are indicative of a larger issue, one that hundreds of rural counties nationwide currently find themselves facing. Between 2005 and 2023, 195 rural hospitals closed their doors, representing a rapidly worsening crisis for many rural regions. Over 600 of the 1,800 rural hospitals in the United States are at a high risk of closure. Of these at-risk hospitals, over 80 percent are considered essential to the health and economic well-being of their communities, which means the hospital is delivering services to vulnerable populations, as defined by the Social Vulnerability Index; is geographically isolated; and plays a critical role in the local economy.

Over 600 of the 1,800 rural hospitals in the United States are at a high risk of closure. Of these at-risk hospitals, over 80 percent are considered essential to the health and economic well-being of their communities

Policymakers have attempted to address rampant rural hospital closure through the implementation of financial supplements for rural hospitals. This approach has been employed in several new payment designations and programs, including the Low Volume Hospital program and the Rural Emergency Hospital designation. Under the current Medicare reimbursement system, hospitals must maintain a certain volume of patients in order to remain afloat. This presents a major difficulty for rural hospitals as they frequently have low volumes, meaning that new payment models have remained insufficient and closures have continued throughout the country en masse. This report investigates how volume-based payments drive rural hospital closure and how this directly impacts rural residents. After this, it describes a new patient-centered payment model that could better serve these residents.

Volume-Based Payment Models Strain Rural Hospitals

There has long existed a gap in profitability margins between rural and urban hospitals, which puts rural hospital operations, many of which are small-scale, at a severe fiscal disadvantage. This is because the financial model for health care in the United States falls short when it comes to rural hospitals. Most health plans in the United States are governed by a fee-for-service system, which dictates that a hospital is paid the same fee for a service no matter how many times it is delivered. As a result of this flat fee approach, a hospital’s revenues are highly dependent on the volume of services delivered. Structurally, this arrangement fails to account for the variations in volume that exist across health systems nationwide. This is especially detrimental for small rural hospitals with low volumes, as even when revenues decrease, costs do not fall by the same amount. That is, the fixed costs of delivering services—such as investments for equipment and staff—remain the same for a rural hospital, whether they deliver services to five or ten patients. This system increases the likelihood, if not making it inevitable, that small rural hospitals take financial losses. In an equation where service multiplied by volume equals revenue, low-volume hospitals can’t make ends meet.

In an equation where service multiplied by volume equals revenue, low-volume hospitals can’t make ends meet.

Struggling to maintain fiscal solvency, many rural hospitals with low volumes of patients increase the amount they charge patients for individual services. Many hospitals also add additional “facility fees” to services. These price increases initiate a vicious and destructive cycle. For uninsured patients and individuals who are low-income, the more a hospital increases the cost for patients, the less likely they are to go to the hospital for services, lowering the hospital’s patient volume even further and subsequently forcing them to charge continually higher prices. Frequently, this cycle inevitably leads to bankruptcy and closure for a hospital, oftentimes leaving impacted communities in health care deserts.

The Impact Rural Hospital Closures Have on the Local Economy and Workforce

Over 60 million Americans call a rural area home. For many, rural hospitals are the difference between health care access and lack thereof, making hospitals in rural areas critical to the overall health of countless people. Specifically, rural closures have been found to increase inpatient mortality by 8.7 percent, whereas urban closures have been found to have no measurable impact upon mortality rates. This is largely resultant of the fact that when a rural hospital closes, travel times increase notably for patients and health care professionals are significantly more likely to leave a community, creating chasms in health access and worsening already existent social disparities in health outcomes. This is just one way in which rural hospital closure has a unique and notable impact on health outcomes in rural areas.

Specifically, rural closures have been found to increase inpatient mortality by 8.7 percent, whereas urban closures have been found to have no measurable impact upon mortality rates.

Another way that rural hospital closures impact rural communities is a notable decrease in health care workers. When a rural community faces a hospital closure, not only do they lose important inpatient services, but are also likely to see a decrease in the number of local physicians available to them. When physicians lose the resources and employment provided by a hospital, it becomes more difficult for them to provide their services in an area. A 2019 study found that the rural counties that experienced a hospital closure between 1997 and 2016, experienced on average a more than 9 percent annual decrease in the supply of physicians.

In addition to providing vital health services, rural hospitals also serve as economic engines, often acting as a rural community’s largest employer. Historically, one in every twelve rural jobs has been supported by a local hospital. When a rural hospital closes, the resulting economic impact on the surrounding community is devastating. Rural residents that rely on local health systems for employment, economic stability for their families, and reliable benefits (including health insurance) experience significant negative impacts when a rural hospital closes its doors. According to a study conducted by the Federal Office of Rural Health Policy, the closure of the sole hospital in a particular community not only notably increases the area’s unemployment rate but also reduces per capita income for the surrounding population. Communities facing cyclical poverty, substance use, and an exceedingly thin network of health providers are particularly affected by hospital closure, with incidence of these issues oftentimes increasing following a hospital closure.

When a rural hospital closes, the resulting economic impact on the surrounding community is devastating.

Policymakers have attempted to alleviate this crisis. In 2005, Congress approved a Low Volume Hospital (LVH) payment adjustment in an attempt to offset the detrimental effects Medicare and other payment policies have on small-scale hospital operations. In 2010, the Affordable Care Act expanded the program’s parameters to apply to approximately 500 hospitals.

Despite the sizable expansion of the LVH program, the problem of hospital closure has not only persisted but worsened. This is due to the fact that rising costs have still continued to outpace revenue for many small-scale hospitals, despite increases in their Medicare inpatient revenue from additional LVH payments. This depletes financial reserves and puts rural hospitals’ ability to maintain a standby capacity, which is a basic level of equipment and personnel, at risk. Fiscal Year 2020 resulted in nineteen rural hospital closures, the highest number of closures in a single fiscal year. Together, these factors demonstrate that even with ACA expansion, the increased payments under the LVH program are not adequate to protect small-scale hospital operations from the stressors that cause them to become fiscally unstable.

Recognizing the shortcomings of the LVH program, the American Hospital Association and several other health policy organizations have continued to urge Congress to create a new Medicare designation in order to protect rural hospitals from fiscal instability. Several designation frameworks have been put forth in an effort to account for the deficiency of the LVH program, including the Rural Emergency Hospital designation, established in the Consolidated Appropriations Act of 2021 and set for implementation in January 2023. This designation provides rural hospitals with fifty inpatient beds or fewer with the option to convert from providing inpatient care to providing solely outpatient services assisted by a 24/7 emergency department.

Though this change was passed into federal law, in order for it to be accessible to rural hospitals, each individual state must pass a licensure law approving the designation. Very few states have passed or indicated intention to pass this licensure and only six hospitals nationwide have taken advantage of this designation. Despite this new offering, eleven rural hospital closures or conversions have already occurred thus far in 2023. This is due in part to poor dissemination of information to rural hospitals and state governments alike. Not only is the implementation of the Rural Emergency Hospital designation difficult to navigate for many rural hospitals, but concerns have also been raised regarding the efficacy of the designation were it to be widely adopted. Financial research has demonstrated that while the Rural Emergency Hospital designation does provide an option besides bankruptcy to rural hospitals on the verge of closure, eliminating inpatient services will in most cases result in increased financial losses and reduced access to inpatient care for local residents.

Patient-Centered Payment Models Would Better Support Rural Residents

Congress has yet to establish an effective system to ameliorate the risk of closure that threatens 600 rural hospitals, and rural communities deserve better. Rural residents deserve more than what Congress has been able to offer: hospitals stripped of inpatient services and fiscal stability. They deserve reliable health care that is accessible in their own communities. If health care equity, and effective policy, are prioritized, we can not only avoid rampant hospital closures and preventable deaths, but also embrace a vital underpinning of a successful and socially just society. A reimbursement model that centers equity would prioritize the accessibility, timely delivery, and quality of appropriate, affordable care.

A reimbursement model that centers equity would prioritize the accessibility, timely delivery, and quality of appropriate, affordable care.

These goals can be achieved through a patient-centered payment model. Like many systems designed to assist rural hospitals, this proposal seeks to change the way by which small rural hospitals are paid. However, this approach includes a key difference: its primary purpose is to support the services that patients need and provide stable funding for hospitals, and not to increase profits for hospitals or health insurance plans. A patient-centered payment model consists of two key components: standby capacity payments and reduced service-based payments.

Under the current fee-for-service system, a hospital’s volume translates directly to its revenue. When fewer services are provided, there is less profit. With this fee-for-service arrangement, there is no way to ensure that a hospital without a certain patient volume is able to support its standby capacity. For rural hospitals, many of which have low patient volumes, maintaining standby capacity is often difficult when fewer services are performed overall. However, preserving a hospital’s standby capacity is necessary in order for a hospital to be able to deliver quality, lifesaving care at short notice.

However, preserving a hospital’s standby capacity is necessary in order for a hospital to be able to deliver quality, lifesaving care at short notice.

In order to ensure that the need for basic services and access to health care providers are met for rural residents, hospitals under a patient-centered payment model would receive a standby capacity payment from health insurance plans for each person living in a particular community, regardless of how many services those people actually receive. These payments would ensure that a rural hospital is able to adequately staff its emergency department and other essential services. This system can be contextualized by considering the payment models that underlay other necessary public services. For instance, fire departments are not forced to support themselves by charging high fees for their services. Rather, residents of a particular community support their fire department in order to ensure that it has adequate resources to fight local fires. Adopting this approach for rural hospitals would create more stable funding and ensure rural residents have access to timely care even if overall volume is low.

Fire departments are not forced to support themselves by charging high fees for their services. Rather, residents of a particular community support their fire department in order to ensure that it has adequate resources to fight local fires.

Under a patient-centered payment model, rural hospitals would also receive a service-based fee each time a patient receives a particular service. Considering that minimum fixed costs would already be covered by standby capacity payments, these service-based fees would only need to cover variable costs. Therefore, service-based fees under this model would be considerably lower than current fee-for-service payments. Differing greatly from the current fee-for-service system, this approach would allow hospitals with lower patient volumes to shift their focus from increasing volume to increasing the quality and value of services performed.

By shifting the payment system in this way, hospitals would no longer have to rely on volume in order to break even, nor would they have to increase the price charged for services to keep up with costs, as many currently do. This combination of standby capacity payments and reduced service-based fees would not only allow hospitals to better match their revenues to costs, it is also a more equitable way of charging patients for health care services.

This combination of standby capacity payments and reduced service-based fees would not only allow hospitals to better match their revenues to costs, it is also a more equitable way of charging patients for health care services.

In order to ensure the efficacy of a patient-centered payment model, it is important that a high standard of care is maintained and supported through evaluation. Oftentimes, the quality of care provided by a hospital is assessed solely by considering patient health outcomes. However, the accuracy of evaluating quality of care on this basis is severely decreased when faced with a small number of patients, as many rural hospitals tend to have. Additionally, there are a number of factors more prevalent in rural communities, including age and chronic illness, that disproportionately impact patient outcomes for a number of conditions. Overall, this outcome focused evaluation system fails to accurately represent the quality of care being delivered in rural communities. Instead, in order to create a more comprehensive payment system grounded in equity and quality, rural hospitals should be required to deliver services in accordance with evidence-based clinical practice guidelines. Clinical practice guidelines bring together all available evidence about how to treat patients for a particular medical issue, taking into account what is likely to achieve the best outcome and methodology on how to equally customize care to patients with different characteristics. This more holistic method of delivering and evaluating quality care is a key part of a patient-centered payment model. Additionally, the use of clinical practice guidelines will help ensure that rural hospitals are accurately represented and that rural residents reliably receive the care that they need.

While adopting this new payment model is a vital change that will allow many rural hospitals to avoid closure and continue serving their communities, it will not be fully sufficient to ensure that rural residents are able to access the care they need. This is because, under the current system, many insurance companies shift high costs to patients through a process called cost-sharing, which often causes patients to put off or entirely avoid seeking health services. Cost-sharing can represent a significant barrier to care, and implementing a value-based cost-sharing system can help to make sure costs don’t outstep what patients are able to afford. A value-based cost-sharing for patients would mean that the amounts patients have to pay out of pocket for high-value services would be set at levels affordable to them, allowing them to reliably access the care they need. Therefore, value-based cost sharing has the potential to increase patients’ use of high-value goods and services. Furthermore, the model will help patients avoid the necessity of more expensive treatments and services further down the line. This would be financially accounted for by the standby capacity payments and service based payments received by a particular hospital.

Cost-sharing can represent a significant barrier to care, and implementing a value-based cost-sharing system can help to make sure costs don’t outstep what patients are able to afford.

To test the effectiveness of this potential program change before executing it, the Centers for Medicare and Medicaid (CMS) could make it available to certain hospitals as part of a demonstration project. Demonstration projects constitute a method by which CMS tests the possible effects of potential program changes. A demonstration project focused on patient-centered payment would be a step in the right direction as it would demonstrate the possible effectiveness of the change and provide evidence to lawmakers of its necessity. If proven effective, in order for a patient-centered payment model to be made widely available to rural hospitals, it would need to be passed into law by Congress and subsequently implemented by the U.S. Department of Health and Healthcare Services. In order to limit the influence of barriers faced by other rural health initiatives, it is important that this model be approved nationally, without the caveat of state-based licensure laws.

Rural Residents Deserve Access to Health Care Where They Live

As rural hospital closures occur across the nation en masse, it is evident that action needs to be taken in order to protect rural communities from a worsening lack of healthcare access. These closures are largely a result of the fact that the volume-based payment model under which most hospitals operate is insufficient to sustain rural hospitals. By reforming the way by which payments are accounted for and understood, a patient-centered payment model would elevate and transform the impact that an individual hospital can have on a community, giving rural residents access to the care that they deserve. CMS and Congress should implement the patient-centered payment model in order to address the nationwide issue of rural hospital closure.