Using observation services

Hospitals often struggle to achieve compliance with CMS regulations for determining whether a patient should be classified as an inpatient or an outpatient with observation services.

Hospitals often struggle to achieve compliance with CMS’ regulations for determining whether a patient should be classified as an inpatient or an outpatient with observation services. The tendency is to overutilize observation services, which is problematic for both the hospital and for the patient.

Observation patients who remain in observation for more than 24 hours often have higher out-of-pocket costs than they would have if they had been admitted as an inpatient. In addition, the hospital is reimbursed significantly less for these observation patients. Regardless of the payment implications, hospitals and physicians should work together to determine the level of care that is appropriate for each patient's medical condition.


The Medicare Benefit Policy Manual describes observation care as “a well-defined set of specific, clinically appropriate services,” although most hospitals would not agree that the rules are clear. Observation services include ongoing short-term treatment, assessment, and reassessment that are furnished while clinicians decide whether patients will require further treatment as inpatients or if they are able to be discharged. Observation services are commonly ordered for patients who present to the emergency department and who then require a significant period of treatment or monitoring before a decision about their admission or discharge can be made.

Observation services are covered only when provided by the order of a physician or another individual authorized by state licensure law and hospital staff bylaws to admit patients to the hospital or to order outpatient services.

Observation services must also be reasonable and necessary to be covered by Medicare. Only in rare and exceptional cases do reasonable and necessary outpatient observation services span more than 48 hours. In the majority of cases, the decision whether to discharge a patient from the hospital following resolution of the reason for observation care or to admit the patient as an inpatient can be made in less than 48 hours, usually in less than 24 hours.

The Medicare beneficiary must be in the care of a physician during the period of observation, as documented in the medical record by outpatient registration, discharge, and other appropriate progress notes that are timed, written and signed by the physician. According to the Medicare Benefit Policy Manual, the medical record must include documentation that the physician explicitly assessed patient risk to determine that the patient would benefit from observation care.

Take the example of a 67-year-old patient seen in the emergency department with gradual onset of chest pain over the last two hours, a normal EKG and an elevated troponin level. Because the cardiac enzymes are elevated, inpatient admission is appropriate. However, in the case of a 64-year-old patient seen in the emergency department with chest pain, slight ST-segment elevation on EKG, and negative cardiac enzymes, classification as an outpatient with observation services is appropriate. The physician could observe serial enzymes and EKG in outpatient observation. If the physician later determined that acute inpatient care was necessary, he or she could always admit the patient, documenting the change clearly in the physician orders.

A physician should not automatically admit a patient because 24 hours have elapsed. There must be a medical need for an inpatient admission.