On July 27 a decision in Covenant Medical Center v. Kennedy vacated the CMS 1115 Exclusion Rule. This is a major Medicare DSH ruling for hospitals serving large Medicaid and Section 1115 waiver populations.
Several months ago, GDS noted that Covenant could become a "re-win" for providers after the Fifth Circuit vacated the Baylor All Saints case on procedural—not substantive—grounds. The court never rejected Baylor's legal analysis; it held only that the hospital first had to exhaust the Medicare administrative process.
Today, that procedural defect was cured. The Northern District of Texas again ruled for the hospital.
The court granted summary judgment for Covenant, holding that CMS's 2023 Exclusion Rule conflicts with the Medicare statute governing the Medicaid fraction used to calculate Medicare DSH.
Specifically, 42 C.F.R. § 412.106(b)(4)(iii) now stands as unlawful. The Exclusion Rule is vacated. CMS cannot exclude qualifying Section 1115 demonstration project patient days where the statute and existing Fifth Circuit precedent require their inclusion.
The court reached the same conclusion it did in Baylor—this time after the jurisdictional issue identified by the Fifth Circuit had been resolved.
Relying on Forrest General Hospital v. Azar, the court reaffirmed that once the Secretary approves a Section 1115 demonstration project, qualifying patient days belong in the Medicaid fraction.
The Judge noted: "The Secretary exercised his discretion when he approved Texas's plan. No take-backs."
The Medicare DSH percentage can materially affect reimbursement and may also influence eligibility for the 340B Drug Pricing Program.
CMS may appeal. But today's ruling substantially strengthens the procedural posture of the providers' position by resolving the jurisdictional issue that prevented appellate review of the merits in Baylor.
Hospital leaders should be asking:
Should Section 1115 waiver days be in current Medicare DSH filings?
How should organizations respond to adverse audit adjustments?
Which historical cost report years remain actionable?
If you have questions regarding Medicare DSH reimbursement or Section 1115 waiver days, feel free to contact me at:
adamblackwell@govdataservices.com