If today’s health care environment can be described as a “living laboratory,” then most industry experts would agree that payment models are the experiments. The fee-for-service model that’s served us for so long is being replaced with different models, ones that typically move some of the burden of risk from payers (and employers) to care providers. This transition, sometimes called “value-based payment,” is intended to incentivize physicians and other health care providers to maintain a high quality of care as opposed to a high quantity of patients.

There are many different payment models operating in the marketplace, and each carries a different risk level for providers. New care delivery models or philosophies also emerging – patient-centered medical homes and accountable care organizations are two of the most prominent. Understanding how care models inter-relate – and how they are used in practice – will be increasingly vital as scientists in the living laboratory continue to develop hypotheses and test them.

The models and delivery systems described below will almost certainly change, but these are the most popular (and important) payment and delivery models in the health care marketplace today.

As will become clear, every payment model requiring data or risk assumption on the provider side of the equation also requires some level of coordination and technological assistance.

“The payment model has to be matched to the organizational level of the provider,” explains Dr. Burt Vanderlaan, medical director of network effectiveness at Priority Health. “As providers become more integrated and organized, then we can start to implement more of these value-based models.”



“Fee-for-service is a model that fits the way most of the system is organized today,” Dr. Vanderlaan notes.

And fee-for-service is still the most widely used payment model, although its dominance is expected to wane over time.

“Fee-for-service has been the dominant payment mechanism for decades,” says Bill Kramer, executive director for national health policy at the Pacific Business Group on Health. “The economic incentives under fee-for-service are to provide more services. The result has been that more services are provided than are necessary. There’s an enormous amount of unnecessary, inappropriate or even harmful services that are provided to patients as a result of the incentives under fee-for-service. In other words, it’s simply payment for volume of service, and there’s not a reward for higher-quality services.”

But the payment model does have its advantages, which are often overlooked.

“Although we do happen to focus on the shortcomings of fee-for-service, we shouldn’t lose sight of the fact that it does encourage and reward access, particularly in the area of primary care, where we have a lot of concerns about adequate access,” Dr. Vanderlaan says. “It’s an incentive to physicians to maintain a full schedule.”


A pay-for-reporting model is fee-for-service with a twist: Providers are paid a little bit extra to report data back to the payer, typically involving quality metrics. And it’s usually an intermediary step toward a pay-for-performance payment model.

“Pay-for-reporting is essentially just setting up the workflows to report,” says Jen Searfoss, JD, chief executive officer of the Searfoss Consulting Group. “Nothing in the National Quality Strategy is a quality outcome measure. It’s about whether you really did what you said you did – did you ask about tobacco? And nobody knows the financial benefit of pay-for-reporting. So it’s going away. We’ve sort of outgrown that, and now we’re working on more meaningful payment models.”


“Pay-for-performance models are built on the chassis of fee-for-service,” Kramer explains, “and they add a bonus or a penalty based on quality measures.”

“It’s the next real step up the ladder from fee-for-service, beginning to move along the continuum of more integrated care delivery,” Dr. Vanderlaan says. “It’s not that difficult to put into place, and now we have a fair menu, nationally, of well-agreed-upon quality measures most physicians accept.”

The readmissions reduction program introduced by the Patient Protection and Affordable Care Act is just one example.

“We know that historically, hospitals got paid twice when a patient was discharged and then readmitted to the hospital, and there were too many hospital readmissions,” Kramer says. “We knew there were readmissions that would be avoidable if hospitals provided better care, as well as better discharge and post-discharge care. Under Medicare’s fee-for-service system, there’s now a penalty for hospitals that have a high number of readmissions.”

Because it’s fairly easy to implement, pay-for-performance measures have been widely adopted by many commercial payers as well as Medicare and Medicaid.

“Both commercial payers and employers – the purchasers – feel that pay-for-performance doesn’t go far enough,” Kramer notes, “because it still builds on this rusty chassis of fee-for-service, and the underlying incentive is still to provide more services. Although they encourage physicians and hospitals to provide higher-quality services through bonuses, most ‘P4P programs don’t provide a strong enough incentive to significantly improve quality. And in a fragmented delivery system, many hospitals, physicians and medical groups are not yet able to manage and be accountable for all of the services that they provide for a particular patient. We need to get off of that chassis and move onto a 21st century model – get outta the Studebaker and into a Tesla.”

Global payments and partial capitation

Global payments can be seen as somewhat similar to bundled payments – providers are given a fixed dollar amount to care for a patient’s condition – but unlike bundled payments, which focus on an episode of care, global payments focus on a patient’s chronic condition (such as diabetes). The scope of global payments is therefore significantly wider than that of bundled payments. Instead of covering all of the services around a single episode of care, providers are contracted to manage a patient’s health surrounding a chronic condition for a specific period of time.

However, doctors are quick to note that not every diabetic patient is the same. Some are better at managing their conditions or complying with medication programs than others. And some have other complicating chronic conditions. In other words, some patients are more costly to treat than others, and payers and providers are still working to ascertain how to budget correctly for each and every patient.

“The issue with global payments is predictability,” Searfoss says. “It makes sense to have bands of striation for the medium-risk and high-risk patients with certain conditions, but you can’t have a patient-specific bundle and a global payment. And there’s no physician or nurse who can say, ‘The patient has this, this and this, so our budget should be this.’ Even if the system shows them a number, we aren’t that sophisticated yet, and it’s going to be harder to crack until the systems get there. And employers aren’t sure what to think about these models because they’re not sure if it’s wasted money or not.”

Practically speaking, there isn’t much difference between global payments and partial capitation; there might be some small contractual differences in terms of who’s responsible for paying hospital-admission fees for patients in a provider’s population, but partial capitation also requires providers to assume responsibility for patients with one or more chronic conditions.

“In partial capitation arrangements, the physician and other providers take responsibility for the quality of care that’s being provided for a specific demographic of patients, or for a defined set of services, such as primary care” Kramer says. “And that can result in better care, but at a lower cost and with better patient satisfaction – and providers usually like it, too. It also requires effective care coordination among primary care physicians, appropriate specialists and, in some cases, hospitals.

“In some ways, partial capitation is easier than other payment models because it’s very focused,” he adds. “Providers only have to worry about their patients with the specified condition, like diabetes, for example. There are clinical standards of care for diabetic patients, and there are actually pretty good outcomes measures for diabetic care.”


Capitation is the payment model at the opposite end of the risk spectrum from fee-for-service.

“Under full capitation, a group of doctors and – usually – a hospital system will be paid a fixed amount for providing all the services needed for a group of enrollees,” Kramer explains.

“Compared to fee-for-service, under capitation, the provider is fully at risk for the quality, volume and intensity of services provided.”

Although there’s been a lot of talk about capitation recently, it’s not a new concept – it’s just shifted slightly over the years.

“Generally, capitation has been used in situations in which the patient enrolls in a health plan with a fixed provider network, such as Kaiser Permanente. The enrollees are fully covered for services by that provider network; they’re not covered if they go outside that network,” Kramer says. “That’s the original, pure concept. It’s evolved so that capitation is sometimes used for situations in which there’s a preferred provider network and there’s still some partial coverage outside the network.”

“A capitated contract essentially says, ‘You will be given this amount of money per patient, per month. If you exceed that budget, you will not be paid for the excess.’ The provider accepts the risk,” Searfoss says. “There is risk adjustment that happens for each patient, and the provider is given a budget for individual patients. It’s very predictable for groups that have done this well and for some time, and it’s the fastest-growing out of all the private payer models because it’s effective and predictable.”

But like any other model, there are potential problems with capitation.

“There theoretically is an incentive to skimp on the services provided to patients under a capitation arrangement, so it’s important to have quality measures to ensure that the patients are getting adequate and appropriate care and that they’re also protected from malpractice if appropriate care is not being provided,” Kramer says. “The evidence shows that in general, the best care is provided by large integrated delivery systems, many of whom are paid on a capitated or similar arrangement.”And that means capitated arrangements might not make sense in certain areas of the country where large, coordinated health care facilities are unavailable.

“Capitation will be a prevalent model,” Searfoss says, “but to say that you’re going to have a primary-care physician in the middle of nowhere in Montana on a capitated plan – there’s no way. That physician is going to stay on a fee-for-service model. Rural areas will have to look at different options, because capitation works best in urban areas where you have a large number of health care resources. The moment you try capitation in rural areas, it doesn’t work effectively.”

But overall, most industry experts agree that many of the payment models on the risk spectrum are stepping stones toward capitated arrangements.

“The evidence in terms of quality is that capitation, as long as it’s combined with these other quality assurance features, has been shown to actually deliver better care than fragmented fee-for-service,” Kramer says.


Because new payment models require effective and seamless care coordination among providers, new methods of delivering care have also been experiments in the living laboratory. Two in particular have become especially prominent.

Medical homes

“A primary care medical home, or PCMH, is an arrangement in which a primary care physician or group accepts accountability for most of the care being provided to their patients,” Kramer explains. “The purpose is to encourage greater coordination between primary care physicians and the specialists a person might need. There are many different models that have been tested; some are focused on general patients, and some are focused on patients with multiple chronic conditions and have high risks for visits to specialists and emergency rooms. The payment models vary. Some simply build on fee-for-service but pay an extra amount for care coordination; this is usually combined with bonuses for high quality outcomes. Others are structured as a partial capitation. And for primary care and certain specialty services, they might or might not be responsible for hospital care.”

“A strong primary care base is really essential to quality improvement and cost efficiency when delivering care,” Dr. Vanderlaan notes. “A patient-centered medical home helps to reimburse and incentivize primary care and maximize the primary care physician as really being the key coordinator and manager of the care for the population.”

“It’s a good model for coordinating care, in contrast to a situation in which the primary care physician might not even be aware of all the specialists that a patient is seeing,” Kramer says. “In many cases, specialists will give different and conflicting advice about how certain conditions should be treated. And often, the primary care physician is in the best place to sort out all that’s going on with a patient and what they need.”

“Patient-centered medical homes are doing care coordination,” Searfoss acknowledges, “and they’re often paid a per-member, per-month care coordination amount, but they do not carry any risk and they aren’t capitated. Payers are just paying the PCMH to do more coordination.”

“We have three forms of payment to our medical homes,” Dr. Vanderlaan explains. “We pay the medical homes on a fee-for-service basis; in addition to that, we pay a care management fee based on the number of members we have in the home. That’s money made available to them to both coordinate and manage care and do things that they otherwise would not be able to do — and also to help them build the infrastructure, hire care managers and physician extenders, and to cover pay for pharmacists to do medication reconciliation.

“The third piece besides fee-for-service and the care management payment is the incentive payment,” he continues. “About 15 percent of our total payments to primary care now are earned through our incentive program, which is a menu of well-accepted measures around preventive care and management of chronic disease, such as diabetes or hypertension. The preventive measures are ones that would be familiar to any of us — screenings, childhood immunizations, those types of measures.

“We have a high-performing network at Priority, and we set our targets at the 90th percentile of national performance. When medical homes or primary care physicians meet those measures, they’re compensated for that,” Dr. Vanderlaan concludes.


Although the term “accountable care organization” or “ACO” is relatively new, organizations that take on a great deal of risk for all of their members have been around for decades.

“The ultimate ACOs are the large integrated delivery systems like Kaiser Permanente that coordinate the care – inpatient, outpatient, pharmacy, lab, radiology – and are structured to accept the financial risk under a capitation payment,” Kramer says. “They’re fully accountable for the cost and the quality of the care being provided.”

However, companies like Kaiser aren’t built overnight; they develop over many years, with a great deal of trial and error.

“In recent years, there have been ACOs created that were built upon some of the same basic concepts as HMOs, but are not exactly the same structure,” he adds. “A good example of this is the ACO created by CalPERS. Several years ago, CalPERS contracted with Dignity Health System for hospital care and Hill Physicians Group for primary care, and the plan was administered by Blue Shield of California. It used a fixed-price contract for a defined set of patients, and it was very successful in terms of cost and quality. It didn’t require Dignity Health System, Hill Physicians and Blue Shield to do a de-facto merger, but there was a lot of collaboration between those groups to make it work. It’s a good example of a commercial ACO.”

Medicare also launched an ACO program under the mandates outlined by the PPACA, but because Medicare can’t restrict patient choice, the success of those ACOs has varied.

“Medicare is also encouraging the creation of ACOs, using a somewhat different model. The underlying Medicare law allows patients to see any provider they want and that provider then bills Medicare, and Medicare will pay the bill,” Kramer says.

“If a Medicare ACO has a patient assigned, and the patient wants to go to the most expensive orthopedic surgeon to get their knee surgery, there’s nothing that ACO can do,” Searfoss confirms. “And the organizations in Medicare’s Pioneer program, people who thought they were already doing this and doing it well, found they had already squeezed the easy money out of the system.”

And there are other subspecialty care models that take the ACO concept and apply it to specialized health care when a comprehensive care model doesn’t make as much sense for a patient’s particular condition. One example is an end-stage renal disease seamless care organization.

“DaVita has participated in risk-based reimbursement models that are a little bit different from ACO models but have some similarities,” explains Dr. Robert Provenzano, vice president of medical affairs at DaVita. “ESCOs are in a very, very early stage. “A proposed [Centers for Medicare & Medicaid Services] shared-savings risk model is ESRD seamless care organizations, ESCOs, which are in an early stage of development.”

“DaVita is prepared to work with payers to determine the best models of care to deliver renal services,” he adds. “ESCOs would include accepting risk of care for both dialysis and non-dialysis costs, so a bundle of services is rendered to the patient, and it shifts them away from a volume-based service to a value-based service.”

One big, obvious difference between an ACO and an ESCO such as DaVita is the patient population.

“An ACO identifies a general population of patients,” Dr. Provenzano says. “That includes the healthy, the sick, the short and the tall – everybody. It’s a very broad population-based management process that is very different than a specialty focused process such as the ESCO model. ACOs deal with mostly healthy people, and a big focus is keeping people healthy.

“A subspecialty care model recognizes that there are a group of people with specific diseases, and the risk for managing those patients should be turned over to the sub-specialists who know that disease best,” he continues. “Therefore, an ACO could ask an ESCO to manage the care of its renal patients. The ACOs get what they are looking for, expert management of a chronic disease; and the nephrologists get what they want, to manage the patients they’re best suited to manage. And, most importantly, the patients get what they need, which is the right doctor with the right patient offering the right care.”

In a proposed bundle payment system, the “bundle” is based on the historic cost of the care for both dialysis and non-dialysis care. A dollar amount is allocated to each patient, and if the ESCO can provide high-quality care at a lower cost than that dollar amount, they share the savings with the government. If their costs are higher, the ESCO is responsible for those losses.

Naturally, there are challenges involved in creating an ACO or an ESCO.

“This is an untried process with many stakeholders,” Dr. Provenzano says. “Hospitals, dialysis providers and physicians must collaborate in coordinating the care of disparate groups of patients. This can be very difficult at times, and we have much to learn.

“And another challenge is determining the appropriate reimbursement for care,” Dr. Provenzano explains. “In a shared risk model, an ACO or ESCO, there will be upfront costs for restructuring the current care model. For example, retooling emergency rooms, physician offices and patient care pathways – just to start – will be expensive.”

And like other care and payment models beyond strict fee-for-service, there’s a great deal of coordination involved with ESCOs – and much of the infrastructure necessary for that coordination is nonexistent.

“The government has proposed to lift the current onerous regulatory barriers in place that make collaboration difficult,” Dr. Provenzano says. “And they have not been lifted, and that is a continued challenge. For example, many patients may miss dialysis appointments because they don’t have transportation. It’s currently not possible for a care provider to also provide for transportation. And there are many other examples of regulatory barriers to integrated care that will need resolution in order to make these programs a success.”

Bundled payments

“Bundled payments are an intermediate step between fee-for-service and capitation,” Kramer explains. “Usually bundled payments are applied for an episode of care around a particular procedure. Bundled payment lends itself for procedures or events rather than chronic care. They require coordination of care on both the inpatient and outpatient sides.”

For example, health plans might use bundled payments to reimburse providers for services such as maternity care or orthopedic surgery. In a maternity-care bundled payment, typically the bundle includes prenatal care for the mother, the delivery of the baby and any follow-up appointments. A hip replacement would include the initial evaluation, pre-operative tests, the surgery to replace the hip, hospitalization for recovery and follow-up care, including rehabilitation.

“One great example of this is the Employers Center for Excellence at Pacific Business Group on Health,” Kramer notes. “We’ve identified the best places in the country to go to for hip and knee replacements. We negotiated a bundled payment with those health systems; the payment includes pre-operative and post-operative care as well as the surgery and hospitalization. The centers of excellence we selected have taken responsibility for ensuring that they get good quality outcomes at a fixed, negotiated price.”

“Bundled payments have a lot of theoretical attractiveness,” Dr. Vanderlaan notes. “The appeal is that you define what’s in the bundle, you define all the services included, and then you establish the fixed price. But the physicians or delivery systems entering into a bundled payment arrangement have to be more organized than the disorganized system we have. They’re going to need some data capabilities, and they’re going to need to understand how they’re performing when it comes to their bundle.

“Bundled payments are also extremely administratively complex,” Vanderlaan continues, “and it can be a laborious process to get everyone to agree on what’s in the bundle, where it starts and where it ends.”

“The predictability of budget is really helpful,” Searfoss says. “You just need one number for the bundle; you can’t have 16 budget numbers. That simplicity is a big deal, and some health plans are running into problems when their claims don’t match up to physician claims. They can’t all do that well. The systems haven’t matured enough.”

“The success of bundled payments and managing episodes of care requires physicians and hospitals to work together – and historically, that works in some places, but not in others,” Kramer says. “They not only have to coordinate the care. They also have to coordinate the way the bundled payment itself gets divided up. There needs to be some kind of entity that receives the money and distributes it appropriately to everyone who’s been involved with the episode of care.”

And the lack of technological coordination in the health care system can lead to problems with these experimental payment models.

“Providers can’t get data across the systems,” Searfoss explains, “so they can’t see when the hospital across the street has admitted someone who’s in your bundle. They have to be able to get real-time or near-time data, because if they don’t know, the next day that a patient who’s their responsibility is in a different hospital, they’re not going to be able to respond.

“It really comes down to a culture change,” she adds. “Bundled payments aren’t capitation, because the fee-for-service element is still there, so providers are not accepting full risk – but there is still risk associated with bundled payments.”

And bundled payments probably won’t be the key to ending the insane health care expenditures in this country, either.

“Unless you can control the number of bundles, you can’t control total costs,” Dr. Vanderlaan explains. “You can bundle hip replacements into one fee, but if the number of hip replacements continues to rise, then the cost of health care will continue to rise.”

Reference pricing

“Reference pricing is the only employer-based model that’s out there today,” Searfoss says.

Reference pricing refers to the practice of researching cost data surrounding specific procedures at various institutions in order to determine what a reasonable cost might be for the given specific procedure. After the employer (or, in some cases, the payer) has looked at the cost range for the procedure, the reference price is selected. Then, when an employee or insured member needs that specific procedure as a patient, he or she is informed that the employer or health plan will only pay the reference price (or below) for the procedure. If the patient decides to go to a provider or delivery system that charges more than the reference price for the procedure, then the patient is responsible for paying the difference between the reference price and their bill for the procedure.

“The benefit of reference pricing is the transparency and predictability of the model – because there’s always a benefit to the patient,” Searfoss says. “And if there’s a procedure you’re really worried about and you have a physician you trust, and you want to go to that physician and pay the higher out-of-pocket cost because you think it’s a higher-quality procedure, that’s fine. I do think it promotes consumerism.”

Of course, reference pricing, too, has its shortcomings as a payment model.

“It becomes more difficult when Safeway has one policy, and Wal-Mart has another, and Target has another, and Kroger has another,” Searfoss notes. “Then the question is raised about whether one of those companies is being a cheapskate and jeopardizing the health of their employees. And if there’s an expansive adoption, it can become a problem. But the publication of transparency data that’s expected to come out over the next few years will make it less of a problem.

“It makes sense for certain groups that are having really big spends in certain areas,” Searfoss adds. “For those groups, it’s time well spent, but that’s going to be more of your large employers.”

And like bundled payments, reference pricing is best applied to predictable episodes – knee and hip replacements or colonoscopies, for example – and doesn’t work very well when applied to chronic conditions or certain acute conditions, like pneumonia.