544 F. Supp. 1167 (1982) | Cited 0 times | S.D. Indiana | August 12, 1982


These cases come before the Court on a variety of motions. Theoriginal plaintiff, Indiana Hospital Association, Inc., has movedfor partial summary judgment as to Cause No. IP 76-522-C. Thedefendants have moved to dismiss No. IP 76-522-C, claiming thatthe Court lacks jurisdiction over the subject matter of thatsuit. The plaintiffs and the defendants of the four consolidatedsuits have moved for summary judgment. In accordance with thereasons which follow, the Court will dismiss the HospitalAssociation suit, No. IP 76-522-C, for lack of subject matterjurisdiction, and enter summary judgment for the defendants onthe merits in the four consolidated cases, Nos. IP 80-272-C, IP80-500-C and IP 76-522-C insofar as it encompasses former Nos. IP80-89-C and IP 80-206-C.

The facts and legal issues presented by these cases are complexand will be dealt with in greater detail in the body of thismemorandum. In brief, these suits present challenges to Medicarereimbursement statutes, regulations and policies by 68 Indianahospitals and the Indiana Hospital Association, Inc., to whichthe 68 hospitals belong.

The hospitals claim that they are entitled to reimbursement ofthe portion of their return on equity capital and bad debt andcharity costs that they claim are attributable to the Medicarepatients they treat. The Medicare Act was passed in 1965.42 U.S.C. § 1395 et seq. It provides for the reimbursement of thereasonable cost of providing services to Medicare beneficiaries.42 U.S.C. § 1395f(b). The statutory definition of "reasonablecost" is found at 42 U.S.C. § 1395x(v)(1)(A). Pursuant to theMedicare Act, the Secretary of Health and Human Services(hereinafter "the Secretary") has promulgated regulations whichdefine the concept of reasonable cost more fully. 42 U.S.C. § 1395hh;and 42 C.F.R. §§ 405.401-405.488.

The 68 plaintiff hospitals have all made claims forreimbursement for return on equity capital and bad debt andcharity costs for a variety of fiscal years with the "fiscalintermediary" which acts as the agent of the Secretary pursuantto 42 C.F.R. § 405.651. The fiscal intermediary which rules uponclaims made by Indiana hospitals (termed "providers" under theAct) is Mutual Hospital Insurance, Inc. d/b/a Blue Cross ofIndiana.

These plaintiffs filed claims ("Cost Reports") with Blue Cross.Blue Cross, by "Notices of Program Reimbursement" to each of thehospitals, denied payment under the Medicare Act for the returnon equity, bad debt and charity claims. The hospitals thenpursued the administrative appeals outlined by the Act and theSecretary's regulations. 42 U.S.C. § 1395oo(a); and42 C.F.R. § 405.1837. The plaintiffs were granted permission to pursue theirappeals as a group appeal, since their claims presented commonquestions of law.

The first level of appeal was to the Provider ReimbursementReview Board ("PRRB" or "Board" hereafter). The PRRB ruled thatthe hospitals were entitled to a return on equity, but sustainedBlue Cross's denial of reimbursement for the bad debt and charitycosts.

The Deputy Administrator of the Health Care FinancingAdministration, to whom the Secretary's power to review thePRRB's decisions has been delegated, reversed theBoard's findings in regard to the return on equity issue andaffirmed the decision to deny reimbursement of bad debt andcharity costs.

The hospitals filed suit in district courts for judicial reviewof this decision. The original Hospital Association suit, No. IP76-522-C, which in essence asks for declaratory and injunctiverelief for these same two issues, was in this court. Therefore,the other four cases representing a request for review of theadministrative decision were sent to this Court forconsolidation. The Court will treat the following major issues inthis memorandum: (1) subject matter jurisdiction, (2) venue, (3)return on equity capital, and (4) bad debts and charity.


(1) Subject Matter Jurisdiction

The defendants have moved to dismiss IP 76-522-C, the HospitalAssociation suit, for lack of subject matter jurisdiction. Theplaintiff claims that the Court has jurisdiction over this casepursuant to 28 U.S.C. § 1331, 1337, 1361, 2201 and theAdministrative Procedure Act, 5 U.S.C. § 701 et seq. Thedefendants in the other cases have not challenged the power ofthe Court to review the Secretary's decisions under42 U.S.C. § 1395oo(f)(1). Jurisdiction over all of these cases except theHospital Association suit does lie by virtue of this section,which provides, in pertinent part:

(f)(1) A decision of the Board shall be final unless the Secretary, on his own motion, and within 60 days after the provider of services is notified of the Board's decision, reverses, affirms, or modifies the Board's decision. Providers shall have the right to obtain judicial review of any final decision of the Board, or of any reversal, affirmance, or modification by the Secretary, by a civil action commencing within 60 days of the date on which notice of any final decision by the Board or of any reversal, affirmance, or modification by the Secretary is received. . . .

Therefore, the only question to be determined now is whetherthe Hospital Association suit, which requests declaratory relief,falls within some jurisdictional grant. This area of federalsubject matter jurisdiction has been murky for years, so it isnecessary to present a brief historical overview.

Plaintiffs have tried a variety of statutory pathways to getjudicial review of decisions made or positions taken by the PRRBor by HHS. Until recently the most successful was 28 U.S.C. § 1331.In 1975, however, the Supreme Court announced its decisionin Weinberger v. Salfi, 422 U.S. 749, 95 S.Ct. 2457, 45 L.Ed.2d522, which, read with later interpretive cases, prohibits afinding of jurisdiction over the Hospital Association case.

The critical section discussed in Salfi, supra, is § 205(h) ofthe Social Security Act (42 U.S.C. § 405(h)), which providesthat:

The findings and decisions of the Secretary after a hearing shall be binding upon all individuals who were parties to such hearing. No findings of fact or decision of the Secretary shall be reviewed by any person, tribunal or governmental agency except as herein provided. No action against the United States, the Secretary, or any officer or employee thereof shall be brought under Section 41 of Title 28 [which includes 28 U.S.C. § 1331] to recover on any claim arising under this subchapter.

Section 405(h) is expressly incorporated into the Medicare Act by42 U.S.C. § 1395ii, which states that the section applies to the"same extent" as it is applicable with respect to Title II of theAct.

Salfi dealt with a Social Security benefit entitlementrequirement. The Supreme Court held that the language of thethird sentence of 42 U.S.C. § 405(h) barred § 1331 jurisdictionof a constitutional challenge to the Social Security requirement.See Trinity Memorial Hospital of Cudahy, Inc. v. AssociatedHospital Services, 570 F.2d 660, 664 (7 Cir. 1977). Theplaintiffs have attempted to avoid the bar of Salfi by stressingthe differences between the Social Security and Medicare systems,but the Seventh Circuit has applied Salfi expansivelyin both provider reimbursement disputes (Trinity, supra) and toa case of termination of a provider agreement (NorthlakeCommunity Hospital v. United States, 654 F.2d 1234, 1240 (7 Cir.1981)).

The most important point decided by the Supreme Court in Salfi,for the purposes of this discussion, is "[t]hat the thirdsentence of § 405(h) is more than a codified requirement ofadministrative exhaustion." Id., 422 U.S. at 757, 95 S.Ct. at2462, 45 L.Ed.2d at 534. The Court noted that the "sweeping anddirect" language of this third sentence "states that no action[Court's emphasis] shall be brought under § 1331, not merely thatonly those actions shall be brought in which administrativeremedies have been exhausted." Id. According to the Court, thefirst two sentences of § 405(h) require exhaustion ofadministrative remedies, so the third sentence must meansomething more if it is not to be rendered superfluous.

The Supreme Court then stated that the fact that the Salfiplaintiffs were raising constitutional issues did not mean thatthe action did not arise under the Social Security Act. "Tocontend that such an action does not arise under the Act whosebenefits are sought is to ignore both the language and substanceof the complaint and judgment." Id., 422 U.S. at 761, 95 S.Ct. at2464, 45 L.Ed.2d at 536.

The plaintiff contends that its case should be heard because:(1) it presents constitutional challenges, and/or (2) its claimsare outside the scope of Salfi because there is no administrativeprocedure under Medicare comparable to that which exists forchallenges to the Social Security program.

The plaintiff insinuates that if the Court does not havejurisdiction over its claims, they will be bereft of judicialreview. This position is incorrect. The same legal questionsposed in the form of disputed claims for reimbursement (asopposed to this request for equitable relief) are nowconsolidated with the Hospital Association suit. The plaintiffhospitals in the consolidated suits have presented theirarguments to the appropriate officials as they ran the course ofprescribed administrative procedure. They have complied with therequirements of Salfi and therefore, fall within thejurisdictional grant of 42 U.S.C. § 1395oo.

The Seventh Circuit has held that "Salfi `precludes the use of28 U.S.C. § 1331 as a jurisdictional basis' for Medicare providerreimbursement disputes." Northlake Community Hospital v. UnitedStates, 654 F.2d 1234, at 1240 (7 Cir. 1981), quoting Cudahy,supra. The plaintiff attempts to avoid this ruling by statingthat it, as an association of providers, is not a provider per seand therefore, is not subject to the administrative reviewprocess. It stresses that it is not seeking to recover on aclaim, but is asking for a ruling on the legality of the Act andregulations promulgated thereunder.

This argument, however, is similar to the contention rejectedin Salfi: it is an attempt to evade the § 405(h) ban byrecharacterization. In essence, this suit was brought in order tohave regulations declared void so that the plaintiff's memberhospitals could recover more Medicare expenses. The HospitalAssociation suit is, in fact if not in form, an action on a claimarising under the Medicare Act and as such, is within the ban of§ 405(h).

The plaintiff's more substantial argument is that even if §405(h) is applicable, there is still jurisdiction because theMedicare Act contains no provisions for judicial review of theconstitutionality of either the statute or of the Secretary'sregulations. The plaintiff argues that the Supreme Court surelydid not intend that the Salfi decision preclude nonstatutoryreview in cases in which the Act does not provide a reviewmechanism. In support of its position, the plaintiff points tothe Salfi Court's treatment of Johnson v. Robinson, 415 U.S. 361,94 S.Ct. 1160, 39 L.Ed.2d 389 (1974).

The Court in Salfi noted that in Johnson it considered38 U.S.C. § 211(a) which provides:

[T]he decisions of the [Veterans'] Administration on any question of law or fact under any law administered by the Veterans' Administration providing benefits for veterans . . . shall be final and conclusive and no other official or any court of the United States shall have power or jurisdiction to review any such decision by an action in the nature of mandamus or otherwise. Salfi, supra, 422 U.S. at 761, 95 S.Ct. at 2464, 45 L.Ed.2d at 536.

The Johnson Court found that the provision did not preclude anattack on the constitutionality of a statutory limitation in thatsuch limitation was not a "decision" of the Administrator, buthad been made by Congress. The Court found Salfi to be inappositeto the Johnson case for two main reasons. The Court firstobserved that the language of § 405(h) is quite different inthat:

Its reach is not limited to decisions of the Secretary on issues of law or fact. Rather, it extends to any "action" seeking "to recover on any [Social Security] claim" — irrespective of whether resort to judicial processes is necessitated by discretionary decisions of the Secretary or by his non-discretionary application of allegedly unconstitutional statutory restrictions. Salfi, supra, 422 U.S. at 762, 95 S.Ct. at 2465, 45 L.Ed.2d at 536.

The Court also found Johnson inapposite in that if § 211(a)precluded "constitutional challenges to statutory limitationsthen absolutely no judicial consideration of the issue would beavailable." The Court continued:

Not only would such a restriction have been extraordinary, such that "clear and convincing" evidence would be required before we would ascribe such intent to Congress . . . but it would have raised a serious constitutional question of the validity of the statute as so construed. Salfi, supra, 422 U.S. at 762, 95 S.Ct. at 2465, 45 L.Ed.2d at 537.

The Court noted that this was not a problem in Salfi as theSocial Security Act, pursuant to § 405(g), provided forconstitutional challenges to its provisions.

The plaintiff contends that this second difference is a problemin this case as no provision is made in the Medicare Act forjudicial review of the constitutionality of the statute or theregulations promulgated thereunder.

In order to be reimbursed, a provider must submit a "costreport" to the fiscal intermediary. If the provider isdissatisfied with the intermediary's award, then it can have ahearing. The hearing officer, however, must "comply with all theprovisions of Title XVIII of the [Medicare] Act and regulationsissued thereunder." 20 C.F.R. § 405.1829.

Congress also established the PRRB in 1973. The Board has theauthority to review many intermediary hearing decisions.42 U.S.C. § 1395oo. It has the power to "affirm, modify or reversea final determination of the fiscal intermediary with respect toa cost report . . . ." 42 U.S.C. § 1395oo(d). The Board, however,is to comply with the Act and regulations issued thereunder.20 C.F.R. § 405.1867.

The PRRB's decision is final unless the Secretary, on his ownmotion and within 60 days after the provider is notified,"reverses, affirms or modifies the Board's decision."42 U.S.C. § 1395oo(f)(1). The provider then has the right to obtainjudicial review of any final decision of the Board or anyaffirmance, modification or reversal by the Secretary.

The plaintiff argues that since the fiscal intermediary and theReview Board are bound by the Act and the regulations, there isno mechanism for review of its challenge. This contention isanalogous to one refuted in Salfi.

The administrative process considered by the Supreme Court inSalfi was equally incapable of giving the relief requested. SeeAristocrat South, Inc. v. Mathews, 420 F. Supp. 23 (D.D.C. 1976).Nevertheless, the Supreme Court held that resort to theadministrative review process was required and that § 405(h)extended to "any `action' seeking `to recover on any [SocialSecurity] claim' — irrespective of whether resort to judicialprocesses is necessitated by discretionary decisions of theSecretary or by his nondiscretionary application of allegedlyunconstitutional statutory restrictions." Id. 422 U.S. at 762, 95S.Ct. at 2465, 45 L.Ed.2d at 536. The First Circuit has notedthat the administrative process is not made "inapplicable byreason of a constitutional challenge, beyond the power of theSecretary to take remedial action." Milo Community Hospital v.Weinberger, 525 F.2d 144, 147 (1 Cir. 1975).

Remedial action is not even beyond the Secretary's power. TheSecretary promulgated these challenged regulations: it is withinhis competence to provide the relief sought. The Court in Salfistressed the importance of giving the Secretary an opportunity toreview the claims made:

[T]he Social Security Act itself provides jurisdiction for constitutional challenges to its provisions. Thus the plain words of the third sentence of § 405(h) do not preclude constitutional challenges. They simply require that they be brought under jurisdictional grants contained in the Act, and thus in conformity with the same standards which are applicable to non-constitutional claims arising under the Act. The result is not only of unquestionable constitutionality, but it is also manifestly reasonable, since it assures the Secretary the opportunity prior to constitutional litigation to ascertain, for example, that the particular claims involved are neither invalid for other reasons nor allowable under other provisions of the Social Security Act.

Id. 422 U.S. at 762, 95 S.Ct. at 2465, 45 L.Ed.2d at 537. TheMedicare Act, pursuant to § 1395oo(f)(1), also provides thecourts with jurisdiction over constitutional challenges to itsprovisions. The Secretary must have an opportunity to examine theprovisions prior to such judicial review.

The Seventh Circuit discussed Salfi and its preclusionaryeffect in a case involving a constitutional challenge. TrinityMemorial Hospital v. Associated Hospital Service, Inc.,570 F.2d 660 (7 Cir. 1977). It held that 42 U.S.C. § 405(h) precluded theuse of 28 U.S.C. § 1331 as a jurisdictional basis over a dueprocess challenge to a cost accounting hearing procedure. Id.,570 F.2d at 667. The court held, however, that jurisdiction overthe constitutional issue would vest in the Court of Claims. Id.

Because of § 405(h), this Court has no jurisdiction under §1331 to entertain the Hospital Association suit.

The alternative asserted bases for jurisdiction are equallyinappropriate for the Hospital Association suit. The SupremeCourt has held that 5 U.S.C. § 702 (§ 10(a) of the AdministrativeProcedure Act) does not represent a grant of jurisdiction.Califano v. Sanders, 430 U.S. 99, 97 S.Ct. 980, 51 L.Ed.2d 192(1977).

Title 28 U.S.C. § 2201, the declaratory judgment statute, doesnot provide the plaintiff with a separate jurisdictional basis.The declaratory judgment provision may not be used to evade afailure of jurisdiction or to avoid exhausting administrativeremedies. Hills v. Eisenhart, 156 F. Supp. 902 (D.Cal. 1957),aff'd 256 F.2d 609 (9 Cir. 1958), cert. den. 358 U.S. 832, 79S.Ct. 53, 3 L.Ed.2d 70 (1958), reh. den. 358 U.S. 914, 79 S.Ct.228, 3 L.Ed.2d 235 (1958).

The allegation that the Court has jurisdiction over this casepursuant to 28 U.S.C. § 1337 is wholly unsupported. Section 1337provides that:

The district courts shall have original jurisdiction of any civil action or proceedings arising under any Act of Congress regulating commerce or protecting trade and commerce against restraints and monopolies.

Not only is there no authority for the proposition that theSocial Security Act regulates commerce, jurisdiction may not behad under § 1337 because the plaintiff has not exhausted itsadministrative remedies.

Mandamus relief under 28 U.S.C. § 1361 is similarlyunavailable. Mandamus is reserved for extraordinary situationsand "lies only to compel the performance of a legal duty which isfree from doubt." Winningham v. HUD, 512 F.2d 617 (5 Cir. 1975).The "clear, ministerial and nondiscretionary" duty which theplaintiff claims the defendants owe them is to pay the"reasonable cost" of the services which they provide to Medicarepatients. Neither the reasonable cost nor the duty to pay is freefrom doubt, so mandamus would be inappropriate. See TrinityMemorial, supra, 570 F.2d at 666, n. 9.

The Hospital Association suit is therefore dismissed for wantof subject matter jurisdiction. The other consolidated casesremain for consideration on the merits.

(2) Venue

The defendants have claimed that venue is improper as to theplaintiffs which are located in the Northern District of Indiana.All four of the consolidated cases arose out of theadministrative group appeal.

Cases No. IP 80-89-C and IP 80-272-C were filed originally inthe Southern District. Cases No. IP 80-206-C and IP 80-500-C areparallel cases to the Southern District suits. They were firstfiled in the Northern District of Indiana, Hammond Division, asNos. H 80-77 and H 80-218 and were transferred to this districtby Judge McNagney in 1980, pursuant to 28 U.S.C. § 1404(a), whichprovides:

For the convenience of parties and witnesses, in the interest of justice, a district court may transfer any civil action to any other district or division where it might have been brought.

The question raised by the transfers is whether they areimproper because they do not fall within the category of actionswhich "might have been brought" in the Southern District. Theplaintiff list for each of these four cases is identical. Some ofthe plaintiff hospitals are located in the Northern District,others in the Southern. The defendants contend that claims of theSouthern District plaintiffs could not have been broughtoriginally in the Southern District and that therefore thetransfers were wrongful. The defendants have moved either to haveall four of these cases transferred to the District of Columbia,or for the Northern District plaintiffs' claims (as representedby Nos. IP 80-206-C and IP 80-500-C) to be returned to theNorthern District. The defendants base this claim on the venueprovision which all parties agree is applicable,42 U.S.C. § 1395oo(f)(1), which states, in pertinent part:

Such action [to obtain judicial review over decisions by the PRRB or the Secretary] shall be brought in the district court of the United States for the judicial district in which the provider is located or in the District Court for the District of Columbia . . . .

The essence of the defendants' claims is that since some of theplaintiffs are located in the Northern District, they do not meetthe requirement of § 1395oo(f)(1) that actions must be brought inthe "judicial district in which the provider is located."Therefore, they assert that 28 U.S.C. § 1404(a), the transfer ofvenue statute, does not authorize a transfer to this court.

A critical issue which has not been treated by the parties isone of whether, in enacting § 1395oo(f)(1), Congress consideredthe issue of cases which had been consolidated for purposes ofthe administrative appeals. The defendants, pursuant to theSecretary's regulation 42 C.F.R. § 405.1837, allowed theseplaintiffs to pursue their claims through the entireadministrative process as one case.

Now the government, based upon the venue statutes, asserts thatthe plaintiffs may not proceed with their claims in the groupwhich the defendants allowed before.

It is obvious that the Congress, in enacting § 1395oo(f)(1),did not anticipate the possibilities of group appeals pursuant tothe regulations. 42 C.F.R. § 405.1837. Rather than invalidatingthe regulation which promotes the efficient use of scantyadministrative resources in the resolution of disputes of thiskind, it is more appropriate for this Court to construe thelanguage of § 1395oo(f)(1) to accomplish the result Congresswould most likely wish to achieve if it were to consider thisproblem.

This was a group appeal throughout the administrative appellateprocess. The same issues are presented now for judicial review.It is most sensible to construe thesingular term "provider" in § 1395oo(f)(1) loosely, to encompassthe entire group. Therefore, since many of the group members arelocated in the Southern District, the group could have broughtsuit here. The transfers of venue under 28 U.S.C. § 1404(a) wereappropriate.

As a practical matter, it would be a waste of judicialresources to send roughly half of these plaintiffs to theNorthern District. The consolidated suit is ripe for a decisionon the merits. There is no reason, given chronically crowdedcourt dockets, to have another district court in the SeventhCircuit wrestle with these issues. If an appeal is to be made,the Seventh Circuit can render its decision on the basis of thismemorandum of decision. Therefore, the defendants' motionsrelating to severance and venue are denied.

(3) Return on Equity Capital

The return on equity issue has been raised in several othercourts. The hospitals' basic contention is that they should bereimbursed by the Medicare program for a reasonable rate ofreturn on their net assets used in the treatment of Medicarepatients. The plaintiffs rest their argument on the followinggrounds: (A) the Deputy Administrator had no power to reverse thePRRB's decision to grant these plaintiffs return on equity costs,therefore the PRRB's decision is final, (B) great deferenceshould be given to PRRB's decision, (C) a return on equity is a"reasonable cost" of providing services under42 U.S.C. § 1395x(v)(1)(A), (D) the denial of reimbursement for these costsconstitutes a violation of the just compensation clause of theFifth Amendment, and (E) since proprietary (for-profit) hospitalsare given a return on net assets reimbursement, these plaintiffs,nonproprietary hospitals, are being denied their rights to equalprotection.

In order to understand the plaintiffs' arguments, it isnecessary to review some background and legislative history ofthe Medicare program. The terms "return on equity," "return onequity capital," "return on net assets," and "imputed interest"are all used to describe the hospitals' claims of entitlement toreimbursement for the opportunity cost of capital used in thetreatment of Medicare patients. Under Part A of the Medicare Act,42 U.S.C. § 1395c-1395i-2, which provides hospital insurancebenefits to qualified elderly and/or disabled recipients,hospitals are reimbursed for the "reasonable cost" of providingservices to these recipients. The thrust of the plaintiffs'position in this case is that a return on equity is a reasonablecost under the Act and should be reimbursed. Title42 U.S.C. § 1395x(v)(1)(A) initially defines reasonable cost, for providerreimbursement purposes, as:

(v)(1)(A) The reasonable cost of any services shall be the cost actually incurred, excluding therefrom any part of incurred cost found to be unnecessary in the efficient delivery of needed health services, and shall be determined in accordance with regulations establishing the method or methods to be used, and the items to be included, in determining such costs for various types or classes of institutions, agencies, and services; . . . .

The section further provides the following principle which is tobe used to determine whether costs are or are not reimbursablereasonable costs:

Such regulations shall (i) take into account both direct and indirect costs of providers of services . . . in order that, under the methods of determining costs, the necessary costs of efficiently delivering covered services to individuals covered by the insurance programs established by this subchapter will not be borne by individuals not so covered, and the costs with respect to individuals not so covered will not be borne by such insurance programs . . . .

The gist of the "necessary costs" requirement is that hospitalswill be reimbursed for costs, either direct or indirect, whichare attributable to Medicare patients. The Medicare Program isnot to be responsible for costs incurred on behalf ofnon-Medicare patients. If indirect costs are attributable to bothMedicare and non-Medicarepatients, the provider will be reimbursed for the proportionateshare of such indirect costs as are incurred for the benefits ofthe Medicare patients. 42 C.F.R. § 405.451(b)(1) and (c)(3).

The Secretary of Health and Human Services has theresponsibility for administering the Medicare Program. 42 U.S.C. § 1395kk.The Secretary is authorized by Congress to "prescribesuch regulations as may be necessary to carry out theadministration of the insurance programs under this title."42 U.S.C. § 1395hh. These regulations are found in the Code ofFederal Regulations, Subchapter B, Part 405 of 42 C.F.R. ChapterIV.

The regulations further delineate the types of costs which willbe allowable under the Program. These regulations flesh out thegeneral principles laid down in 42 U.S.C. § 1395x(v)(1)(A). Oneregulation which is at issue in this case, at least indirectly,is 42 C.F.R. § 405.429, which specifically authorizes aproportionate reimbursement for return on equity in the case ofproprietary (for profit) hospitals.

§ 405.429 Return on equity capital of proprietary providers.

(a) Principle. (1) A reasonable return on equity capital invested and used in the provision of patient care is allowable as an element of the reasonable cost of covered services furnished to beneficiaries by proprietary providers. . . .

(2) For the purposes of this subpart, the term "proprietary providers" is intended to distinguish providers, whether sole proprietorships, partnerships, or corporations, that are organized and operated with the expectation of earning profit for the owners, from other providers that are organized and operated on a nonprofit basis.

(b) Application — (1) Computation of equity capital. Proprietary providers generally do not receive public contributions and assistance of Federal and other governmental programs in financing capital expenditures. Proprietary institutions historically have financed capital expenditures through funds invested by owners in the expectation of earning a return. A return on investment, therefore, is needed to avoid withdrawal of capital and to attract additional capital needed for expansion. . . .

Presumably for the reasons expressed in subsection (b), above,the Secretary has made no analogous provision for a return oninvestment costs in the cases of nonproprietary providers. Theplaintiffs in this case are challenging the Secretary'sdisallowance of a proportionate share of their return on equitycosts, primarily on the basis of their perception of the generalspirit of 42 U.S.C. § 1395x(v)(1)(A) and on some legislativehistory.

The first Medicare Regulations, issued by the Secretary in1966, authorized a reimbursement of an additional 2% of totalallowable costs for nonproprietary facilities as compensation forotherwise unspecified costs. One of the costs included in the 2%was a return on equity capital. (See Proposed HEW Regulations, §§405.402(e) and 405.428(b) (1966); statements of the Commissionerof Social Security, Robert M. Ball in the Hearings onReimbursement Guidelines for Medicare Before the Senate Committeeon Financing, 89th Congress, 2d Sess., at 55-56 (1966), R.0501-2; and Mr. Ball's comments in the 1966 Hearings at 72 [R.0508].) Proprietary hospitals were only given a 1-to-1 1/2%additional reimbursement. The regulation expressly recognizedthat proprietary hospitals had already been given a return onequity capital reimbursement under § 1395x(v)(1)(B) and42 C.F.R. § 405.429. 42 C.F.R. § 405.428 (formerly 20 C.F.R. § 405.428).

It is clear that the nonproprietary providers' 2% allowance didinclude a return on equity capital: it is equally clear thatCongress heard discussion of the return on equity issue beforethese regulations were passed. The problems at issue for thenonproprietary hospital plaintiffs began in June, 1969, when theSecretary dropped both the 2% and the 1 1/2% allowances. 34Fed.Reg. 9927 (June 27, 1969). As a result, the nonproprietaryproviders are left with only the "reasonable cost" definitionfoundin 42 U.S.C. § 1395x(v)(1)(A). Proprietary providers may still bereimbursed for return on equity capital costs pursuant to42 C.F.R. § 405.429, the regulatory counterpart of § 1395x(v)(1)(A).

The plaintiffs in this case now contend that a return on equityis a "reasonable cost" and that it is anomalous to grant a returnon equity capital reimbursement to proprietary but not tononproprietary providers. The arguments which shore up theircontention that Congress intended that all providers bereimbursed for return on equity expenses are based primarily onpostenactment legislative history and on more generalizedarguments that this expense is a "reasonable cost" within themeaning of 42 U.S.C. § 1395x(v)(1)(A).

(a) Authority of the Secretary

It is necessary to dispense with two minor arguments made bythe plaintiffs before reaching the merits of the return on equitycapital issue. The hospitals contend that great deference shouldbe given to the PRRB's decision in favor of the hospitals on thereturn on equity issue. The decision in favor of the providerswas reversed by the Deputy Administrator.

Title 42 U.S.C. § 1395oo(f) states that:

(f) A decision of the Board shall be final unless the Secretary, on his own motion, and within 60 days after the provider of services is notified of the [Provider Reimbursement Review] Board's decision, reverses, affirms or modifies (adversely to such provider) the Board's decision. In any case where such a reversal or modification occurs the provider of services may obtain a review of such decision by a civil action commenced within 60 days of the date he is notified of the Secretary's reversal or modification. Such action shall be brought in the district court of the United States for the judicial district in which the provider is located or in the District Court for the District of Columbia . . . .

The Secretary delegated the power to review PRRB decisions tothe Administrator of the Health Care Financing Administration, 42Fed.Reg. 57351 (Nov. 2, 1977). That delegation specificallyanticipated the possibility of redelegation, stating that "[t]heauthority in Section 1878(f) [42 U.S.C. § 1395oo(f)] . . . mayonly be redelegated to the Deputy Administrator." On September 5,1979, the Administrator redelegated his authority to review PRRBdecisions to the Deputy Administrator.

The hospitals contend that these delegations were against thewill of Congress, since Congress had authorized the Secretary toreview the Board's decisions. Therefore, they state, the decisionof the PRRB is final and the Court has no jurisdiction over thismatter. The cases cited by the plaintiff are not on point.

The usual concern of courts in situations of delegation is thatimportant quasi-judicial final decisions not be made by minorsubordinates. This is not the case here. First, it is ludicrousto suppose that the Secretary of Health and Human Services couldreview all PRRB decisions personally. Second, the DeputyAdministrator is not a minor official. Third, the very statuteupon which the plaintiffs rely, 42 U.S.C. § 1395oo(f), providesfor judicial review of the Secretary's decisions.

The Ninth Circuit Court of Appeals has held delegations underHHS's earlier, but analogous, organizational structure to beproper:

Under the Medicare Act, it is the Secretary who may reverse or modify a decision of the PRRB. 42 U.S.C. § 1395oo(f). However, section 8.D of HEW's "Statement of Organization, Functions and Delegations of Authority," 33 Fed.Reg. 5836 (1968), delegates the functions of the Secretary under the Medicare Act to the Commissioner of Social Security. The District Court correctly found that this was a proper delegation, and was properly exercised in this case.

Pacific Coast Medical Enterprises v. Harris, 633 F.2d 123 (9 Cir.1980).

The delegations of authority to review PRRB decisions by theSecretary to the Administrator, then to the Deputy Administratorwere valid. This Court may review the decision, albeit made bythe Deputy Administrator. The reversal of the PRRB must be viewedas the Secretary's own decision. Not only was the review of thePRRB's decision pursuant to a valid exercise of authority, butthe Secretary's decision to deny reimbursement for return onequity must be given a great degree of deference.

(b) Standard of Review

The standard of review of § 1395oo(f) decisions is specified tobe that established by the Administrative Procedure Act (APA),5 U.S.C. § 701-706. Section 706 of the APA provides that "thereviewing court shall decide all relevant questions of law, [and]interpret constitutional and statutory provisions," and that thecourt "hold unlawful and set aside agency action, findings andconclusions found to be . . . arbitrary, capricious, an abuse ofdiscretion, or otherwise not in accordance with law; . . ."5 U.S.C. § 706.

This "arbitrary, capricious, abuse of discretion" standard isnot the equivalent of a de novo review. A recent Ninth Circuitcase dealt with the nature of judicial review of a decision bythe Secretary of Health, Education and Welfare in the context ofa Medicare reimbursement dispute. The Secretary's decisioninterpreted the reasonable return on equity regulation,42 C.F.R. § 405.429. Pacific Coast Medical Enterprises v. Harris,633 F.2d 123 (9 Cir. 1980). The court, after setting out the standard ofreview contained in the APA (5 U.S.C. § 706, above), stated:

The primary question before us is whether the Secretary may interpret and apply the Medicare regulations above as he has done in denying PCME's claims. [Footnote omitted.] Generally, when a meaning of a provision within the expertise of an agency is involved, the courts will afford deference to that agency's construction. In such cases, the agency's expertise make [sic] it particularly suited to interpret the language. This is especially true when an agency's own regulation is involved, and ordinarily its construction will be affirmed if it is not clearly erroneous or inconsistent with the regulation. [Citations omitted.]

The deference which a reviewing court is to afford to an agency's interpretation of its regulations is not total, however. . . . As where courts review an agency's construction of a statute which the agency administers, "the deference owed to an expert tribunal cannot be allowed to slip into a judicial inertia. . . ." [Citations omitted.] Even though the Medicare reimbursement area is complex, and to a great degree left to the Secretary to structure, [footnote omitted] his interpretations are nonetheless subject to our examination.

Id. at 130-31.

The Court in this instance must give deference to the way inwhich the Secretary interprets his own regulations. However,there is no obligation for the Court to defer to the agency insuch matters as challenges to the constitutionality of theMedicare regulatory or statutory scheme. If, for example, aregulation or a construction thereof conflicts with theauthorizing congressional statutes or policies underlying thosestatutes, deference to the Secretary's opinion comes to a halt.Id., at 131-32. The same APA standard of review applies tojudicial review of decisions of the PRRB. Good SamaritanHospital, Corvallis v. Mathews, 609 F.2d 949, 951 (9 Cir. 1979).

The plaintiffs have suggested that the ordinary degree ofdeference to the Secretary's expertise be lessened in this casebecause the Secretary reversed the PRRB on the issue of return onequity capital. The government has pointed out that the PRRB nowhas decided to follow the Secretary's position on the return onequity issue. At this point in the proceedings it does not matterwhat the PRRB has done.

The Secretary has ultimate responsibility and decision-makingauthority over the Medicare program. It is his decision (theDeputy Administrator's) that the Court is called upon to review.As noted inAmerican Medical International, Inc. v. Secretary of Health,Education and Welfare, 466 F. Supp. 605 (D.D.C. 1979), anotherMedicare reimbursement case:

Plaintiffs, however, suggest that this Court deviate from the normal rule of deference in this case because the decision of the Provider Reimbursement Review Board differed in substantial part from the Secretary's final decision. As noted, review by this Court shall be "pursuant to the applicable provisions [of the Administrative Procedure Act]." 42 U.S.C. § 1395oo(f). [Footnote omitted.] It is well settled that, under the APA, final responsibility for rendering the decision lies in the agency itself, not in any subordinate hearing officers. This is because it is the agency, not any subordinate officers such as the Provider Reimbursement Review Board, that is charged with the responsibility for implementing and administering the agency's program.

Id., 466 F. Supp. at 611. In essence, once the Secretary, or inthis case the Deputy Administrator of the Health Care FinancingAdministration, makes his decision, it is immaterial what thePRRB did. This Court is reviewing, in accordance with APAguidelines, the decision of the Secretary.

(c) Is a Return on Equity Capital a Reasonable Cost for Nonproprietary Providers Under 42 U.S.C. § 1395x(v)(1)(A)?

The stance of the Department of Health and Human Services onthis issue is that nonproprietary providers may not recoup anyMedicare funds for a return on equity. The rationale of theDeputy Administrator is that there is no regulation thatauthorizes the reimbursement, so if the hospitals are to recoverthese amounts, it must be done as a reasonable cost under §1395x(v)(1)(A). The Department's analysis of this statute and itsconclusions is set out in the Deputy Administrator's opinion inthe group appeal now before the Court:

It would appear that if a return on equity capital were paid to non-profit hospitals, Medicare would be paying a disproportionate share of provider costs. This is because the return is a profit rather than a cost. Under Section 1861(v)(1)(A) of the Act and the supporting regulations, Medicare reimburses all of a provider's reasonable costs in caring for Medicare beneficiaries. This includes a proportionate share of the cost of capital investment related to patient care such as a building or equipment.

In this case, the Board found that nonprofit providers need the funds from the return on equity capital for capital investment purposes, and to cover the costs of bad debts and charity allowances. However, under these circumstances, Medicare would be paying an amount in excess of its share of reasonable cost. This excess would be used to satisfy the burden of non-Medicare patients. This is contrary to the mandate in Section 1861(v)(1)(A) of the Act and the Board's finding in this regard is clearly erroneous.

Based on the specific wording of Section 1861(v)(1)(B) of the Act and 42 C.F.R. § 405-429, and the Congressional comments, the Deputy Administrator finds that a return on equity capital is not an element of reasonable cost for non-profit providers. It is not an out-of-pocket cost and was not the type of cost contemplated as reasonable, either direct or indirect, when Section 1861(v)(1)(A) was enacted. Section 1861(v)(1)(B) was enacted because under Section 1861(v)(1)(A) alone a return on equity capital could not be paid to proprietary providers. Therefore, the Board's reliance on Section 1861(v)(1)(A) in this regard is erroneous.

The Secretary's position in regard to 42 C.F.R. § 405.429(quoted above, concerning return on equity for proprietaryhospitals) is correct. The terms of this statute are explicit inthe distinction between proprietary and nonproprietary providersinsofar as the return on equity issue is concerned. (In accord,Valley View Community Hospital v. United States, 679 F.2d 857(U.S.Ct.Cl. 1982), ¶ 31,978, CCH Medicare and Medicaid Guide.)The rationale for the distinction expressed in the regulation isthat proprietary providers must raise capital through fundsinvested by owners in theexpectation of earning a profit. Alternatively, nonproprietaryhospitals have other sources of funding, i.e., publiccontributions and governmental programs. Id., ¶ 31,978 Medicareand Medicaid Guide, at 9748. The plaintiffs have not broughtforward any regulations which affirmatively authorize a return onequity for nonprofit hospitals. They are relegated to the verygeneral reasonable cost standard defined in § 1395x(v)(1)(A).

As noted above, the Secretary's position is that the intent ofCongress, as set forth in § 1395x(v)(1)(A), in light of itslegislative history, is that a return on equity is not areasonable cost. This is also the position of the courts whichhave viewed this issue.

The legislative history of the return on equity issue has beenquoted exhaustively by both parties to this litigation. It hasalso been summarized in Hospital Authority of Floyd County,Georgia v. Schweiker, 522 F. Supp. 569 (N.D.Ga. 1981).

The plaintiffs' argument that a return on equity is areasonable cost under § 1395x(v)(1)(A) is not borne out by thelegislative history. The bulk of the plaintiffs' authority istestimony from the transcript of the 1966 Senate FinanceCommittee hearings on the issue of reimbursement guidelines.These hearings were held nearly a year after the Medicare Act waspassed by Congress. "Such post-enactment history is not thesurest guide of the legislative intent in initially passing theAct. Cf. Rogers v. Frito-Lay, Inc., 611 F.2d 1074 (5th Cir. 1974)[cert. den. Moon v. Roadway Express, Inc., 449 U.S. 889, 101S.Ct. 246, 66 L.Ed.2d 115 (1980)]. Nevertheless, the testimony ofthe witnesses and the remarks of the Senators are quiteinstructive." Floyd County, supra, 522 F. Supp. at 569.

The plaintiffs have placed great stock in statements made byRobert Ball, the Commissioner of Social Security, who agreed withthe policy of including a return on equity factor in the 2%allowance, because giving a return on equity solely toproprietary hospitals would foster the "anomalous result" of"reimbursing a profitmaking organization more than a nonprofitorganization for rendering exactly the same service — solely byreason of allowing return on investment in one case but not theother." Reimbursement Guidelines for Medicare: Hearing before theCommittee on Finance, United States Senate, 89th Cong., 2d Sess.(Comm. Print, May 25, 1966), at 56 (hereinafter "Hearings"). Mr.Ball and Mr. Willcox, the General Counsel of Social Securityagreed that a return on investment was "some bit of this 2%item." Id., at 107. "The Senate Committee, in short, was beingtold by the Commissioner [Mr. Ball] that no return on equitycapital was allowed explicitly, but that a return on equitycapital was discreetly included in the 2% allowance." FloydCounty, supra, at 572.

The idea that even the proponents of a return on equity capitalclassified it as a portion of the 2% allowance rather than as anautomatic "reasonable cost" is significant. Shortly after thehearings Congress amended the Act to provide explicitly for areturn on equity to proprietary facilities. Title42 U.S.C. § 1395x(v)(1)(B), the statutory counterpart of42 C.F.R. § 405.429, provides:

(B) Such regulations in the case of extended care services furnished by proprietary facilities shall include provision for specific recognition of a reasonable return on equity capital, including necessary working capital, invested in the facility and used in the furnishing of such services, in lieu of other allowances to the extent that they reflect similar items [i.e., the 2% allowance]. . . .

Section 1395x(v)(1)(B) and 42 C.F.R. § 405.429 remained after the1969 decision to discontinue the 1 1/2% and 2% allowances. Thefollowing lengthy portion of the Floyd County analysis of thelegislative history reveals that the understanding of theCongress was that a return on equity was not provided in theoriginal Act and that it was not within the ambit of a §1395x(v)(1)(A) reasonable cost:

Having traced the footprints on the trail of legislative enactment, the Court concludes that it was not the intent of Congress to provide an allowance for a return on equity capital to all facilities. In reading the transcript of the Senate hearing, it is apparent that the Committee basically approved the Secretary's proposal to table the issue of providing such an allowance. This is what the Health Insurance Benefits Advisory Council recommended, and this recommendation was passed on to the Committee. The decision to amend the Act in October, 1966 to provide for the allowance for proprietary facilities evidences Congressional intent to reverse the former policy of simply obscuring the allowance as a "bit" of the 2% allowance.

The exchanges at the Hearing between various Senators and Mr. Ball and other administrative officials make it quite unequivocal that the Senate Committee members believed that a return on equity capital was not, and should not, be provided. For example:

THE CHAIRMAN [Sen. Russell B. Long]. But did you have the impression anywhere that the congressional intent was that we should have allowed imputed interest on capital?

MR. MYERS [Chief Actuary, Social Security Administration]. No. In making the cost estimates, I had no thought that that would be done.

THE CHAIRMAN. What we are talking about is an item neither you nor we had any idea of allowing. I never had an idea we were going to allow imputed interest. Nobody, so far as I know, in your Department — did your Department have any idea that we were going to allow imputed interest?

MR. BALL. No, Mr. Chairman. And I think one of the main reasons that the staff resisted the tendency of the Health Insurance Benefits Advisory Council to move to this position was not necessarily on the merits of the economic argument, but the fact that it had not been considered, and that it therefore ought to be postponed. That was the thought there.

MR. BALL. Senator, I think the language of the law "reasonable cost" is open to a great variety of interpretations. The discussion, the legislative history, the committee report, pinned that down considerably. . . . I was answering literally the question of whether the term "reasonable cost" could have included such things [e.g. return on equity capital].

But I don't think it would have been reasonable to so interpret the term in the light of the discussions and the legislative history.

SENATOR WILLIAMS. In computing the costs incurred, how can you get an estimate for interest which is not owed, not paid? How can you get an allowance for an interest charge not owed and not paid, if you are going to stick to the formula of actual costs incurred?

MR. BALL. We did not accede to this argument for allowing an interest return on equity capital.

Hearings, 49-51.

MR. COHEN [Under Secretary]. I think the point, Senator, is that Congress did, in setting up the concept of reasonable cost, intend for us to reflect what the economic cost of hospital care was. And as Mr. Gordon says, if you were going to pay for the interest on borrowing the money it seems to us to be reasonable to try to reflect in the cost what is actually the incurred cost of a hospital when it has to operate. So while it was not discussed in those specific terms, I think it is absolutely consistent with the intent of Congress that what the program should pay should really reflect what the economic cost is for a hospital in providing these services.

SENATOR ANDERSON. I just could not disagree with you more. We discussed this over and over and over again, and rejected that in the committee. I just call your attention to the committee report, page 33:

The cost of hospital services varies widely from one hospital to another, and the variations reflect differences in quality and cost. The same thing is true with respect to the cost of services provided. The provision in this bill for the payment of reasonable cost of services is intended to meet the actual cost.

"Actual." This is not economic or fanciful or anything else. We put it in there so they could not bring in the various things you are talking about now. How do you get around this?

MR. COHEN. Well I think this is the actual cost. I think when you are talking about economic costs —

SENATOR ANDERSON. Just one more question from page 37 of the report which I think should have some importance to you. I really believe when a committee goes to the extent of preparing a report, and filing it, and telling the Congress and the people that this is what they mean, it is wrong to try to reinterpret it some other way.

In paying reasonable cost, it should be the policy of the insurance program to so reimburse a hospital or other provider that an accounting may be made at the end of each cost period for costs actually incurred.

Not beneficiarily incurred, or anything else — "actually incurred." And if you don't pay interest on a debt, that is not a cost that it actually incurred.

id. at 69-70.

At the outset of the hearing, Senator Long, the Chairman, outlined the various topics to be discussed:

Three. Can the reasonable cost include a return on investment for proprietary institutions without a similar payment to the nonprofit facilities. And that is a fair question to be raised. It seems to me that it was intended that there should be a return on investment to proprietary institutions — and that there is no similar requirement that they be made to public or nonprofit groups.

id. at 43.

In addition, when the Act was amended in October, Congressman John W. Byrnes of Wisconsin stated, "[Under existing law] the amount that will be paid to the individual nursing home or facility — shall be, and I quote, `the reasonable cost' of furnishing such care. In other words, as the law now stands, fundamentally all the Social Security Administration can pay are the costs, with no allowance for profits or a return on the invested capital." 112 Cong.Rec. 28220 (1966). Senator Long made a similar statement to the Senate. "As the proposed Medicare regulations stood [an investor] would only have been reimbursed for the actual costs of providing services with no specific return given on his investment." 112 Cong. Rec. 27608 (1966).

Floyd County, supra, at 572-74.

This Court concludes, as did the district court for theNorthern District of Georgia, id., at 575, that a payment for areturn on equity capital is not within the scope of §1395x(v)(1)(A). The plaintiffs have brought forward no caseswhich stand as authority for the proposition that a return onequity is a § 1395x(v)(1)(A) reasonable cost. Rather, they haverelied on: (1) the PRRB's decision, (2) general policy statementswhich assert that a policy of nonreimbursement for nonproprietaryproviders would violate the mandate of § 1395x(v)(1)(A) in thata heavier share of costs would be borne by non-Medicare patients,and (3) analogies to indirect costs which are reimbursed (i.e.,straight line depreciation, 42 C.F.R. § 405.415, the 1966-1969 2%allowance, 20 C.F.R. § 405.428, interest on some loans,42 C.F.R. § 405.417(c)(2), and return on net assets to proprietaryhospitals, 42 C.F.R. § 405.429).

None of these arguments addresses the critical question: didthe Secretary misconstrue the statute in denying a return onequity? Given the legislative history quoted above, it is clearthat not only did Congress not consider a return on equity whenit passed the Medicare Act, it specifically viewed this itemduring the 1966 Hearingsas an expense which did not fall within the purview of §1395x(v)(1)(A). When the 2% allowance, some "bit" of which was areturn on equity, was abandoned in 1969, the expense, as tononproprietary providers, returned to its status as anonreimbursable expense. In light of its legislative history,42 U.S.C. § 1395x(v)(1)(A) cannot be stretched to cover this item ofcost.

Another district court which has considered the issue ofwhether a return on equity is a reasonable cost was recentlyupheld by the Court of Appeals for the District of ColumbiaCircuit. American Medical International, Inc. v. Secretary ofHealth, Education and Welfare, 466 F. Supp. 605 (D.D.C. 1979),aff'd 677 F.2d 118 (D.C.App. 1981). In American MedicalInternational the court discussed return on equity capitalbecause the plaintiffs had analogized it to the stock maintenancecosts for which they sought reimbursement. The district courtstated:

Plaintiffs argue that stock maintenance costs, though related to investment, should be reimbursed because Medicare allows proprietary providers a return on equity capital. 42 U.S.C. § 1395x(v)(1)(B). [Footnote omitted.] By allowing this payment, plaintiffs contend, the Medicare program expressly recognized that costs related to investment may be reimbursed. This argument assumes that the return on equity capital in § 1395x(v)(1)(B) is a reasonable cost within the meaning of § 1395x(v)(1)(A). However, this return on equity provision was added subsequent to the passage of the Medicare Act and it constitutes the sole exception to the basic Medicare principle that reimbursement be limited to those costs actually incurred in providing patient care services. It is clear from the purpose behind the return on equity provision (§ 1395x(v)(1)(B), its legislative history, and the provision itself that the return on equity capital provision cannot be used by plaintiffs to support the position that reasonable costs under 42 U.S.C. § 1395x(v)(1)(A) was meant to include costs for investment.

Id., 466 F. Supp. at 613. (In accord, Valley View, supra.)

Therefore, the Secretary did not misinterpret § 1395x(v)(1)(A),nor do the regulations conflict with the statutory scheme.Although the plaintiffs' policy arguments might have beenconvincing during the initial stages of legislative debate on theMedicare legislation, they were not accepted by Congress. It isbeyond the province of the Court to do more than discern the willof Congress on this issue. A return on equity was not within thedefinition of reasonable cost originally. Since Congress has donenothing to change the statute in the 13 years since the demise ofthe 2% allowance, this Court cannot proclaim a return on equitycapital to be a § 1395x(v)(1)(A) reasonable cost.

(d) Does the Statutory or Regulatory Scheme Violate the Just Compensation Provision of the Fifth Amendment?

The plaintiffs contend that if the statutory or regulatoryschemes deny a return on equity to nonproprietary providers, theyare constitutionally infirm. The hospitals urge that suchprovisions would violate the Fifth Amendment's mandate that"private property . . . [not] be taken for public use withoutjust compensation." The plaintiffs have presented the Court withno cases which support this position. They urge that being deniedcompensation for the opportunity cost of the assets used infurnishing care to Medicare patients is unjust compensation. Ifthe United States does not pay them for the opportunity cost, theplaintiffs claim that the government is not compensating themsufficiently for property it has taken.

These opportunity cost arguments go to the compensation elementand do not need to be answered since the "taking" element of thejust compensation clause has not been violated. The plaintiffshave stated that the hospitals are in positions akin to those ofpublic utilities. (Relying on Smyth v. Ames, 169 U.S. 466, 18S.Ct. 418, 42 L.Ed. 819 (1898).) The basic principle of Smyth, asstated by the plaintiffs, is that when abusiness dedicates a portion of its property to activities deemedto be affected with a public interest, the Constitutionguarantees that the property will not be used for the publicbenefit without just compensation being paid for the servicesrendered.

There has been no taking in this case. The utilities casesrelied upon by plaintiffs are analogous to the case at bar, butthere are important distinctions which prevent the application ofthe just compensation clause to this issue. Smyth was a case inwhich the state regulated railroad charges. The parties in Smythwere railroads and stockholders of railroads, which werefor-profit corporations. The plaintiffs in the instant case arenonprofit hospitals: the payment distinctions on the return onequity issue are made on the basis of the differences betweenprofit-making and nonprofit organizations (see42 C.F.R. § 405.429 and the equal protection discussion below).

The Court identified as unconstitutional takings of property inwhich property is "wrested" from its owner for the benefit ofanother or for the public. Id., 169 U.S. at 524-25, 18 S.Ct. at425, 42 L.Ed. at 841. The prohibition was against "a tariff ofrates which is so unreasonable as to practically destroy thevalue of property of companies engaged in the carrying business. . . ." Id., 169 U.S. at 525, 18 S.Ct. at 425, 42 L.Ed. at 841.This "wresting away" and "practically destroying the value of theproperty" has evolved into a standard which demands at a minimumsome loss of use.

The plaintiffs in this case have not demonstrated this type ofloss. They have volunteered to participate in the Medicareprogram. They can terminate their participation now. They maysell their physical plant at any time.

A district court for the Eastern District of New York recentlydealt with the just compensation clause's "taking" requirement ina similar case involving Medicaid reimbursement provisions.Hempstead General Hospital v. Whalen, 474 F. Supp. 398 (E.D.N Y1979), aff'd without opinion, 622 F.2d 573 (2 Cir. 1980). Theplaintiffs in that case challenged federally approved statelimitations on capital cost reimbursements to potentialpurchasers of health care facilities. They contended that thesecapital reimbursement limitations constituted a taking becausethey eliminated many potential buyers of health care facilities.The Medicaid regulations at issue limited capital reimbursementof purchasers to the net depreciated value of the property ratherthan to either the purchase price or the fair market value. Afterreviewing the recent just compensation cases, the Court held thatthere was no taking in spite of the fact that there was a greatlylessened market for hospital facilities and the regulations"impose upon plaintiffs a constantly diminishing potential saleprice." Id., 474 F. Supp. at 411.

The reasoning of the Hempstead court for the finding of notaking is that critical elements of governmental invasion weremissing:

As before, plaintiffs have full right to use the medical center property. The challenged regulations impose no direct legal restraint upon the property or upon its use. There has been no physical entry by the state, no ouster of the owner, no legal interference with plaintiffs' physical use, possession or enjoyment of the medical center, nor any legal interference with the owner's power of disposition of the property.

Id., at 410-11.

The New York court held that the regulations did not constitutea de facto taking, which requires a "physical entry by thecondemnor, a physical ouster of the owner, a legal interferencewith the physical use, possession or enjoyment of the property ofa legal interference with the owner's power of disposition of theproperty." Id., at 410, citing City of Buffalo v. J.W. ClementCompany, 28 N.Y.2d 241, 253; 321 N.Y.S. 345, 356; 269 N.E.2d 895,902 (1971). Neither did the regulations come within the ambit ofthe cases which deal with unconstitutional regulation ofutilities since the plaintiffs "have not lost any existing rightof property or contract." Hempstead, supra, at 410. Within thecontext of theutility overregulation cases, the court set forth the followingrule:

Many kinds of legislative and administrative action affect property values, but, without some diminution in the owner's right of use, do not constitute a taking within the purvue of the Fourteenth Amendment. Chacon v. Granata, 515 F.2d 922, 925 (CA5 1975), cert. denied, 423 U.S. 930, 96 S.Ct. 279, 46 L.Ed.2d 258 (1975).


The instant case also lacks elements necessary for a taking.The return on equity rules may not be what the hospitals woulddesign for themselves, but since these plaintiffs retain fullrights and control over their net investment, the statutoryscheme is not constitutionally deficient.

(e) Does the Statutory or Regulatory Scheme Violate the Equal Protection Clause of the Fifth Amendment?

The plaintiffs claim that the Fifth Amendment is violated ifthe Medicare statutes and regulations allow or disallow a returnon equity solely on the basis of whether a provider isproprietary or nonproprietary. This equal protection argument canonly be proved under the Fifth Amendment if the discrimination is"so unjustifiable as to be violative of due process." Shapiro v.Thompson, 394 U.S. 618, 642, 89 S.Ct. 1322, 1335, 22 L.Ed.2d 600,619 (1969); Schneider v. Rusk, 377 U.S. 163, 168, 84 S.Ct. 1187,1190, 12 L.Ed.2d 218, 222 (1964). Therefore, the due processclause of the Fifth Amendment guarantees equal protection. UnitedStates Department of Agriculture v. Moreno, 413 U.S. 528, 533n. 5, 93 S.Ct. 2821, 2825 n. 5, 37 L.Ed.2d 782, 787 n. 5 (1973).

The plaintiffs have attempted to support its claims that thisdistinction is discriminatory with statements by Robert Ball (the"anomalous result" testimony from the Hearings, quoted above), a1966 Memorandum of the Comptroller General of the United Statesin favor of the 2% allowance and unsupported assertions that thedistinction between proprietary and nonproprietary providers isneither rational nor reasonable insofar as the return on equityissue is concerned.

The standard to be applied in cases in which theconstitutionality of a social welfare program is challenged isthe same low level of scrutiny that is applied to legislationregulating business. Weinberger v. Salfi, 422 U.S. 749, 771-72,95 S.Ct. 2457, 2469-70, 45 L.Ed.2d 522, 542-43 (1975). Salficited with approval social welfare legislation cases (Richardsonv. Belcher, 404 U.S. 78, 92 S.Ct. 254, 30 L.Ed.2d 231 (1971);Dandridge v. Williams, 397 U.S. 471, 90 S.Ct. 1153, 25 L.Ed.2d491 (1970); and Flemming v. Nestor, 363 U.S. 603, 80 S.Ct. 1367,4 L.Ed.2d 1435 (1960)) which "establish that a statutoryclassification violates due process only if it is `patentlyarbitrary . . ., utterly lacking in rational justification.' 363U.S. at 611, 80 S.Ct. at 1372. They establish that aclassification violates equal protection only if it lacks areasonable basis: there is no violation merely because theclassification is `imperfect,' or `"not made with mathematicalnicety or because in practice it results in some inequality."'397 U.S. at 485-86 [90 S.Ct. at 1161-62]." Caylor-NickelHospital, Inc. v. Califano, Civil No. F 77-83 (N.D.Ind. Sept. 10,1979) ¶ 30,718, CCH Medicare and Medicaid Guide. InCaylor-Nickel, Judge Eschbach, with specific reference to thereturn on equity provisions, held that the regulations which"provide for profit institutions but not to nonprofitinstitutions" are sufficiently rationally based to satisfy Salfi.Id., ¶ 30,718, Medicare and Medicaid Guide at 9098. The reasonsfor this finding of sufficient rationality to sustain theconstitutionality of the statutory and regulatory scheme arethat:

It is certainly rational that profit institutions receive this advantage when nonprofit institutions receive numerous other advantages, such as various grants and contributions, and tax-exempt status. The purpose and rationality of this classification is made clear in 42 U.S.C. § 1395x(v)(1)(A) and in the legislative history. . . . The distinction drawn between profit and nonprofit institutions violates nothing in the fifth amendment. See Am. Med. Int'l, Inc. v. Sec. of H.E.W., 466 F. Supp. 605, 615 (D.C.Dist.Columb. 1979).

Other cases which have accepted the rationality of thedistinction between proprietary and nonproprietary providers inthe context of equal protection challenges are Valley View,supra; Stevens Park Osteopathic Hospital, Inc. v. United States,633 F.2d 1373 (Ct.Cl. 1980); and Floyd County, supra. Anotherexplanation of the rationality of this distinction, which reliesupon the section of Judge Eschbach's opinion quoted above,states:

Both the Senate Finance Committee staff report and G.A.O. report outline various reasons why profit and nonprofit institutions should be treated differently. Nonprofit institutions have various benefits which are unavailable to proprietary institutions: tax benefits, Hill-Burton grants, charitable donations, and numerous other advantages created by the state and federal governments.

Floyd County, supra, 522 F. Supp. at 575-76.

The plaintiffs have brought forward no cases which refute thesefindings of rationality. The Court must agree that thedistinction between proprietary and nonproprietary providers isrationally based.

All of the plaintiffs' return on equity capital claims fail. Asto these issues, the Court must grant the defendant's motion forsummary judgment.

(4) Bad Debts and Charity Costs

The hospitals ask the Court either to declare a regulation withrespect to bad debts, charity, and courtesy allowances to beinconsistent with the "reasonable cost" requirement of §1395x(v)(1)(A), or to rule that it violates the due processclause of the Fifth Amendment. The hospitals claim that becausebad debts and charity not attributable to Medicare patients arecategorized by accountants as economic costs of running ahospital, the Medicare program should reimburse them for aproportionate share of these costs.

The Secretary has great leeway to formulate standards for thedetermination of which are "reasonable costs" under42 U.S.C. § 1395x(v)(1)(A). In 1966, the Secretary promulgated the followingregulation, now challenged by the plaintiffs:

§ 405.420 Bad debts, charity, and courtesy allowances.

(a) Principle. Bad debts, charity, and courtesy allowances are deductions from revenue and are not to be included in allowable cost; however, bad debts attributable to the deductibles and coinsurance amounts are reimbursable under the program.

(b) Definitions — (1) Bad debts. Bad debts are amounts considered to be uncollectible from accounts and notes receivable which were created or acquired in providing services. "Accounts receivable" and "notes receivable" are designations for claims arising from the rendering of services, and are collectible in money in the relatively near future.

(2) Charity allowances. Charity allowances are reductions in charges made by the provider of services because of the indigence or medical indigence of the patient.

(3) Courtesy allowances. Courtesy allowances indicate a reduction in charges in the form of an allowance to physicians, clergy, members of religious orders and others as approved by the governing body of the provider. Employee fringe benefits, such as hospitalization and personnel health programs, are not considered to be courtesy allowances.

(c) Normal accounting treatment: Reduction in revenue. Bad debts, charity, and courtesy allowances represent reductions in revenue. The failure to collect charges for services rendered does not add to the cost of providing the services. Such costs have already been incurred in the production of the services.

(g) Charity allowances. Charity allowances have no relationship to beneficiaries of the health insurance program and are not allowable costs. The cost to the provider of employee fringe-benefit programs is an allowable element of reimbursement.

From the above it will be noted that plaintiffs arespecifically allowed to collect every penny of bad debtsattributable to the deductibles and coinsurance amounts whichMedicare patients fail to pay. In other words, payments arereduced in the first instance by applicable deductibles andcoinsurance amounts, 42 U.S.C. § 1395e; 42 C.F.R. § 405.110(b).Notwithstanding such fact, the amount of these reductions iseventually paid to plaintiffs to the extent that plaintiffs arenot otherwise able to collect the same. 42 C.F.R. § 405.420(a).Since the exact amount of the bad debts incurred by Medicarepatients in the foregoing areas is reimbursed, it is logical todeny reimbursement, either directly or as an item of overhead, ofsimilar losses of revenue attributable to non-Medicare patients,in keeping with the Congressional policy as expressed in42 U.S.C. § 1395x(v)(1)(A).

With respect to charity allowances, this Court has previouslyheld, in a case which would apply to a great many of theplaintiffs in this action, that the cost of services furnished toindigents because of the free care obligation imposed by thereceipt of Hill-Burton Act funds are indirect costs within themeaning of the Medicare legislation and as such areproportionately reimbursable. Johnson County Memorial Hospital,et al. v. Schweiker, 527 F. Supp. 1134 (S.D.Ind. 1981). Beyondthat, however, it is difficult to find a justification for theplaintiffs' position.

The Congress has said that costs attributable to non-Medicarepatients are not to be borne by the Medicare program. All of theitems excluded by 42 C.F.R. § 405.420(a) are just such costs or,more accurately, lack of revenue. The challenged regulationappears to be in complete harmony with both the letter and thespirit of the statute, and the decision of the Board with respectthereto is correct.

To summarize, the motion for partial summary judgment ofplaintiff Indiana Hospital Association, Inc. is denied. Themotion of the defendants to dismiss Cause No. IP 76-522-C forlack of subject matter jurisdiction will be granted. The finaldecision of the Secretary is affirmed, and summary judgment willbe rendered in favor of the defendants in the consolidated cases.

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