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Medical: Evaluating Risk and Managing Financial Success Under New Payment Models


Most healthcare industry experts agree that significant changes in the way physicians, health centers, hospitals, and other healthcare providers are paid are necessary in order to control healthcare expenditures and improve quality of care. Government pressure for healthcare reform and provisions of the Affordable Care Act seek to promote greater efficiency in the healthcare delivery system by restructuring provider reimbursement – transitioning from the fee-for-service payment model toward a hybrid of payment arrangements that include partial capitation, incentive payment/pay-for-performance (P4P), and shared savings/risk sharing.

Under the fee-for-service payment model, the predominant model in the United States used by both private health insurers and by government (Medicare and Medicaid programs), the healthcare provider receives a fee for each service rendered, including office visits, tests, procedures, or other healthcare services. Criticism of the fee-for-service model lies in the idea that it creates a structure rewarding volume over outcomes. Physicians are incentivized to treat patients with more procedures or treatments. Since payments are issued retrospectively, after the service has been provided, it is argued that patients, as well as healthcare providers, are given little incentive to consider the cost of treatment, contributing to an inflated cost of healthcare.

The Evolution and Outlook of Payment Models

At the 2013 Forbes Healthcare Summit, insurance executives from the nation’s largest health plans asserted that they are rapidly moving away from paying doctors and hospitals on a fee-for-service basis1.  Instead, they are transitioning toward various forms of payment that include bundled payments (reimbursement for all services needed by a patient for a particular condition or treatment that encourage providers to manage costs and meet high-quality care standards) and contracts with medical care providers that are “value-based” rather than fee-for-service.

As the industry transitions, the most popular payment arrangements among payers today include:

Capitation – Capitation was designed to better incent behaviors that lead to efficiency, cost control, and preventative care. Under capitation, a physician, medical group, hospital, or integrated health system receives a specified flat fee every month for taking care of an individual enrolled in a managed healthcare plan, regardless of the actual utilization of services and cost of that individual’s care. Typically, since the majority of individuals enrolled in a health plan will never use all of the healthcare services within any given month, capitation arrangements should naturally balance out the high utilizers of healthcare with those enrolled health plan members who use little or no healthcare every month. In theory, because the provider is responsible for the enrolled member’s health regardless of service utilization and cost, capitation is designed to motivate the healthcare provider to offer preventative health screenings, such as mammograms, pap smears, and PSA tests, with a focus on keeping the member healthy through quality primary care.

There are two primary capitation models:

Under a Partial Capitation model, the provider is responsible for a subset of covered services available to the enrollee/member, and a single payment is made for the defined set of services. The provider is paid a set amount for each enrolled person, per period of time (i.e., per member per month (PMPM)), whether or not that person seeks care. Services that fall outside of the defined set are paid for on a fee-for-service basis. 

Global Capitation is an arrangement whereby networks of hospitals and physicians unite to receive single fixed monthly payments for enrolled plan members. The providers sign a single contract with a health plan to cover the care of groups of members and then determine a method of dividing up the capitated check among the group.

Risk adjustment is necessary under each model of capitation in order to adequately compensate providers for the risk they incur. Payments are determined based on characteristics of the enrollees in each provider patient group, with age, sex, health status, prior healthcare utilization, and socio-demographic factors serving as common risk adjustment factors.

Incentive payments/pay-for-performance (P4P) – The pay-for-performance (P4P) approach is a payment system that offers financial incentives to providers, typically as a potential bonus, in addition to the physician’s compensation for services rendered. In this model, the payer rewards providers who achieve, improve, or exceed performance on specified quality and cost measures and other benchmarks. P4P programs can also impose financial penalties on providers that fail to achieve specified goals or cost savings. Policymakers and private and public payers, including Medicare and Medicaid, have increasingly favored P4P arrangements; the Affordable Care Act expands the use of P4P models in Medicare in particular.

Shared Savings / Risk Sharing – Shared savings/risk sharing models are centered on a provider managing a global budget. Similar to Global Capitation, a provider is responsible for managing the total healthcare spend for assigned patients. Under a shared savings model (“upside” risk only), if the actual total cost of all care received by patients assigned to a provider is lower than the budgeted cost, the provider receives a percentage of the difference between the actual and the budgeted cost, or a share of the savings.  In risk sharing arrangements (“upside” and “downside” risk), the provider also receives a percentage of savings; however, if actual total costs exceed budgeted costs, the provider is responsible for a percentage of the difference, creating both an “upside” and “downside” risk for the provider.

Key Considerations for Proper Preparedness

Sufficiently preparing for payment reform is essential in order for health centers and other healthcare providers to manage their risk level and realize financial success. The key to managing this new world of payment reform is based on an understanding of the services covered by the payment, your unit cost per service, patient utilization of services, and quality of services and patient outcomes.

What Does CohnReznick Think?
In a capitation environment, health care providers will need to manage the budget for services for which they have assumed the responsibility and are “at-risk.”  Providers should understand their patients’ annual utilization of services based on historical experience and have the ability to assess how utilization can be improved. Understanding costs on a per patient and per unit of service basis is critical, and requires benchmark comparison and an evaluation and comparison of payment rates.

Providers operating under the incentive payment approach should obtain the preliminary list of quality measures and begin preparing health information technology (HIT) systems to monitor and report on those measures. Clinical staff should be trained on utilizing quality measure reporting and on implementing best practices to improve outcomes. CohnReznick cautions against budgeting for anticipated incentive payments during the evolution/implementation of this payment model as too many variables can change.

Under a shared savings/risk sharing arrangement (global budgets), providers should make certain that health information exchange systems are in place, and that efficient and effective electronic health records exist.  In addition to ensuring that all partners have been identified and arrangements executed, providers must implement data reporting systems to manage all services provided to the patient. Benchmarks and expected utilization patterns need to be evaluated, including the ability to generate a surplus. Consider the use of actuaries and applying for re-insurance.


For more information, please contact Richard Puzo, Partner and Healthcare Industry Practice Leader, at 973-364-6675, or Peter Epp, Partner, at 646-254-7411.

Or, visit CohnReznick’s Medical Industry Practice webpage.


Circular 230 Notice: In compliance with U.S. Treasury Regulations, the information included herein (or in any attachment) is not intended or written to be used, and it cannot be used, by any taxpayer for the purpose of i) avoiding penalties the IRS and others may impose on the taxpayer or ii) promoting, marketing, or recommending to another party any tax related matters. 

This has been prepared for information purposes and general guidance only and does not constitute professional advice. You should not act upon the information contained in this publication without obtaining specific professional advice. No representation or warranty (express or implied) is made as to the accuracy or completeness of the information contained in this publication, and CohnReznick LLP, its members, employees and agents accept no liability, and disclaim all responsibility, for the consequences of you or anyone else acting, or refraining to act, in reliance on the information contained in this publication or for any decision based on it.

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