                            In the

United States Court of Appeals
              For the Seventh Circuit

No. 11-2809

A BRAHAM L INCOLN M EMORIAL H OSPITAL, et al.,

                                           Plaintiffs-Appellants,
                               v.


K ATHLEEN S EBELIUS, Secretary of Health
and Human Services,
                                       Defendant-Appellee.


           Appeal from the United States District Court
                 for the Central District of Illinois.
          No. 3:10-CV-03122—Sue E. Myerscough, Judge.



    A RGUED JANUARY 6, 2012—D ECIDED O CTOBER 16, 2012




  Before M ANION and W ILLIAMS, Circuit Judges, and
C ASTILLO, District Judge. 
  C ASTILLO, District Judge. In a ruling constituting the
final administrative decision of the Secretary of the De-



  The Honorable Ruben Castillo, United States District Court
for the Northern District of Illinois, sitting by designation.
2                                                   No. 11-2809

partment of Health and Human Services (“HHS”), the
Administrator of the Centers for Medicare and Medicaid
Services (“CMS”) disallowed the reimbursement of
Medicare expenses to a group of Illinois hospitals for
their 2004 and 2005 cost years. Specifically, the Admin-
istrator found that the amount of a tax assessment paid
by the hospitals pursuant to an Illinois statute was a
reasonable cost, but was subject to offset by any pay-
ments those hospitals received from an Illinois State
fund. Plaintiffs-appellants, nineteen hospitals (“Hospi-
tals”),1 appeal from the district court’s decision upholding



1
  Appellants consist of the following nineteen hospitals:
Abraham Lincoln Memorial Hospital; Blessing Hospital;
Blessingcare Corporation, Inc., d/b/a Illini Community Hospital;
Community Medical Center Of Western Illinois, Inc.; Gibson
Community Hospital, d/b/a Gibson Area Hospital and Health
Services; Hillsboro Area Hospital, Inc.; Hospital & Medical
Foundation of Paris, Inc., d/b/a Paris Community Hos-
pital; Kewanee Hospital; Memorial Hospital Association, Inc.;
Memorial Medical Center; Mendota Community Hospital;
Sarah Bush Lincoln Health Center; Shelby Memorial
Hospital Association, Inc.; Southern Illinois Hospital Services,
d/b/a Ferrell Hospital; Southern Illinois Hospital Services,
d/b/a Herrin Hospital; Southern Illinois Hospital Services, d/b/a
Saint Joseph Memorial Hospital; St. Joseph Hospital Of The
Hospital Sisters Of The Third Order Of St. Francis; Taylorville
Memorial Hospital; and Valley West Community Hospital. The
following seven Appellants withdrew their appeals and were
subsequently dismissed: Community Memorial Hospital;
Hardin County General Hospital, Inc.; Hoopeston Community
                                                   (continued...)
No. 11-2809                                            3

the Administrator’s decision. Because the Administrator’s
decision was not arbitrary or capricious and is sup-
ported by substantial evidence, we affirm the district
court’s well-reasoned and comprehensive opinion which
granted summary judgment in favor of the Secretary.


                  I. BACKGROUND
  The issues presented in this appeal require an under-
standing of the complex and technical Medicare and
Medicaid programs. As one of our sister circuits has
commented, the statutes and provisions in question “are
among the most completely impenetrable texts within
human experience. Indeed, one approaches them at the
level of specificity herein demanded with dread, for
not only are they dense reading of the most tortuous
kind, but Congress also revisits the area frequently,
generously cutting and pruning in the process and
making any solid grasp of the matters addressed merely
a passing phase.” Rehab. Ass’n of Va. v. Kozlowski, 42
F.3d 1444, 1450 (4th Cir. 1994). Accordingly, we begin
with a detailed discussion of the Medicare and Medicaid
programs and certain of the provisions that are relevant
to this appeal.




1
  (...continued)
Memorial Hospital; Pana Community Hospital Association;
Passavant Memorial Area Hospital Association; Richland
Memorial Hospital, Inc.; and The Methodist Medical Center
Of Illinois.
4                                                No. 11-2809

    A. Medicare
  Title XVIII of the Social Security Act, 42 U.S.C. § 1395
et seq., known as the Medicare Act, “is a federally-subsi-
dized health insurance program primarily for elderly
and disabled individuals.” Michael Reese Hosp. and Med.
Ctr. v. Thompson, 427 F.3d 436, 438 (7th Cir. 2005). The
Medicare Act divides benefits into four parts. The parties
agree that this appeal concerns Part A of the program,
which provides hospital insurance benefits for inpatient
services, and Part B, which provides supplementary med-
ical insurance benefits to cover, among other things,
outpatient services. 42 U.S.C. §§ 1395c-1395i-5 (Part A);
42 U.S.C. §§ 1395j-1395w-5 (Part B).
  Medicare “is administered, in part, through contractual
arrangements with providers of health care services.”
Adventist Living Ctrs. v. Bowen, 881 F.2d 1417, 1419
(7th Cir. 1989) (citing 42 U.S.C. § 1395cc). Under the
Medicare Act, health care providers are entitled to reim-
bursement for the “reasonable cost” of medical services
they provide to Medicare beneficiaries. 42 U.S.C.
§ 1395f(b)(1); 42 C.F.R. § 413.9(a). To obtain reimburse-
ment, health care providers submit cost reports at the
end of their fiscal year to a fiscal intermediary, detailing
the cost of services and amount of reimbursement a
participating provider believes it is due. 42 C.F.R.
§§ 413.20(b) and 413.24; Little Co. of Mary Hosp. v. Sebelius,
587 F.3d 849, 851 (7th Cir. 2009). The fiscal intermediary
then reviews the cost reports, determines the amount
of payments to be made to providers and issues a
notice of program reimbursement. 42 C.F.R. § 405.1803;
No. 11-2809                                                 5

see also Little Co. of Mary Hosp., 587 F.3d at 851. A provider
that is dissatisfied with the fiscal intermediary’s deci-
sion may request a hearing by the Provider Reimburse-
ment Review Board (“Board”), an administrative body
appointed by the Secretary. 42 U.S.C. §§ 1395oo(a), (h);
42 C.F.R. § 405.1835. Once the Board issues a ruling,
the Secretary may affirm, modify, or reverse that deci-
sion. 42 U.S.C. § 1395oo(f)(1); 42 C.F.R. § 405.1871(b)(1).
The Secretary has authorized the Administrator of CMS
to act on her behalf in reviewing Board decisions.
42 C.F.R. § 405.1875. The Administrator’s review of a
Board decision is considered the final decision of the
Secretary. Id. Providers who are unsatisfied with the
Secretary’s final decision may challenge the decision
in federal district court. 42 U.S.C. § 1395(f).
  Again, under the Medicare Act, participating health care
providers are reimbursed for the “reasonable cost”
of providing services to Medicare beneficiaries. 42 U.S.C.
§ 1395f(b)(1). “Reasonable costs” are defined as:
    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 estab-
    lishing 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[.]
42 U.S.C. § 1395x(v)(1)(A) (emphasis added). This statu-
tory definition, which explicitly requires the Secretary
to reimburse providers for the costs they “actually in-
6                                                  No. 11-2809

cur” reflects “the Medicare program’s statutory policy of
paying only for a provider’s net costs.” Abbott-Northwestern
Hosp., Inc. v. Schweiker, 698 F.2d 336, 339 (8th Cir. 1983); see
also Mem’l Hosp. of Carbondale v. Heckler, 760 F.2d 771, 781
(7th Cir. 1985) (noting that the income offset approach
“clearly serves the purpose of the Medicare Act which
limits reimbursement to costs actually incurred by the
provider”) (quoting Cheshire Hosp. v. New Hampshire-
Vermont Hospitalization Serv., Inc., 689 F.2d 1112, 1119 (1st
Cir. 1982)).
  Pursuant to her statutory authority, “[t]he Secretary
has promulgated . . . regulations establishing the
methods for determining reasonable cost reimburse-
ment.” Shalala v. Guernsey Mem’l Hosp., 514 U.S. 87, 92,
115 S.Ct. 1232, 131 L.Ed.2d 106 (1993). Consistent with
the statute, these regulations provide that “[a]ll pay-
ments to providers of services must be based on the
reasonable cost of services covered under Medicare and
related to the care of beneficiaries.” 42 C.F.R. § 413.9(a).
Reasonable costs are defined as those “necessary and
proper costs incurred in furnishing services[.]” Id. As
relevant here, the regulations address some situations
where a health care provider must account for the
receipt of any refunds, rebates, credits, or discounts
by offsetting or reducing the costs to which they relate
so as to appropriately reflect the costs actually incurred.
Specifically, the regulations provide that “refunds of
previous expense payments are reductions of the
related expense.” 42 C.F.R. § 413.98(a). Refunds are
defined as “amounts paid back or a credit allowed on
account of an overcollection.” 42 C.F.R. § 413.98(b)(3)
No. 11-2809                                                  7

(emphasis added). The regulations further clarify that
the true cost of goods or services “is the net amount
actually paid for them” and that “refunds of previous
expense payments are clearly reductions in costs and
must be reflected in the determination of allowable
costs.” 42 C.F.R. § 413.98(d).
   In addition to the regulations, the Secretary also pub-
lishes the Provider Reimbursement Manual (“Manual”)
which provides guidance in interpreting the regulations.
Mem’l Hosp. of Carbondale, 760 F.2d at 772; Guernsey Mem’l
Hosp., 514 U.S. at 101-02, 115 S.Ct. 1232 (referring to the
Manual provisions as interpretive rules). While the
Manual “is entitled to ‘considerable deference’ as a
general matter[,]” Daviess Cnty. Hosp. v. Bowen, 811 F.2d
338, 345 (7th Cir. 1987) (citing Bedford Med. Ctr. v.
Heckler, 766 F.2d 321, 323 (7th Cir. 1985)), it is not strictly
binding on the Secretary and “we will uphold a decision
despite certain variations from the [M]anual.” Paragon
Health Network, Inc. v. Thompson, 251 F.3d 1141, 1147 (7th
Cir. 2001).
  At the time the Hospitals submitted their cost reports
to the Intermediary, the Manual provided that “[t]he
general rule is that taxes assessed against the provider . . .
are allowable costs.” Manual § 2122.1 (Rev. 205).2
The Manual also provides a list of taxes that are not


2
  The Manual currently provides that, as a general rule, “taxes
assessed against the provider . . . are allowable costs to the
extent they are actually incurred and related to the care of
beneficiaries.” Manual § 2122.1 (Rev. 448).
8                                                   No. 11-2809

allowable as costs, such as sales taxes or taxes on prop-
erty that are not used in rendering covered services.
Manual § 2122.2 (Rev. 215).3 Notably, health care
provider taxes were not, and are not currently in-
cluded, among the list of taxes that are not allowed.
  Consistent with the regulations, the Manual provides
that “refunds of previous expense payments are reduc-
tions of the related expense.” Manual § 800 (Rev. 450). The
Manual further instructs that “[d]iscounts, allowances,
refunds, and rebates . . . should be used to reduce the
specific costs to which they apply[.]” Manual § 804
(Rev. 45).4 The Manual defines refunds as “amounts
paid back by the vendor generally in recognition of dam-
aged shipments, overpayments, or returned purchases.”
Manual § 802.31 (Rev. 450). The Manual also defines
“Applicable Credits” as “[t]hose receipts or types of
transactions which offset or reduce expense items that
are allocable to cost centers as direct or indirect costs.


3
  The Manual currently indicates that the list is not exhaustive.
Manual § 2122.2 (Rev. 448) (“These taxes include:”). At the
time the Hospitals submitted their cost reports to the Inter-
mediary, however, the Manual read as follows: “These taxes
are[.]” Manual § 2122.2 (Rev. 215) (emphasis added).
4
  In December 2011, CMS clarified the language of § 804 to
read: “Discounts, allowances, refunds, and rebates are not to
be considered a form of income but rather a reduction of the
specific costs to which they apply in the accounting period
in which the purchase occurs. The true cost of goods and
services is the net amount actually paid for the goods
or services.” Manual § 804 (Rev. 450).
No. 11-2809                                                9

Typical examples of such transactions are: purchase
discounts, rebates, or allowances; recoveries or indemnities
on losses; sales of scrap or incidental services; adjustments
of overpayments or erroneous charges; and other
income items which serve to reduce costs.” Manual
§ 2302.5 (Rev. 336).


  B. Medicaid
  Title XIX of the Social Security Act, 42 U.S.C. § 1396
et seq., known as the Medicaid Act, “is a cooperative
federal-state program that provides federal funding for
state medical services to the poor.” Frew ex rel. Frew v.
Hawkins, 540 U.S. 431, 433, 124 S.Ct. 899, 157 L.Ed.2d
855 (2004). Medicaid is jointly financed by the Federal
and State Governments, but is administered by the
States. 42 C.F.R. § 430.0. While participation is voluntary,
once a State elects to participate, it must comply with
requirements imposed by the Medicaid Act and regula-
tions promulgated by the Secretary. Wilder v. Va. Hosp.
Ass’n, 496 U.S. 498, 502, 110 S.Ct. 2510, 110 L.Ed.2d 455
(1990). One such requirement is that every participating
State must submit a State plan, i.e., a Medicaid Plan, to
CMS describing the nature and scope of its Medicaid
program and affirming that it will be administered in
conformity with Title XIX’s requirements. 42 U.S.C.
§ 1396a(a); 42 C.F.R. §§ 430.10 and 430.12(b). Any
proposed amendments to a State plan must also be sub-
mitted to CMS for approval. 42 C.F.R. § 430.12(c).
  Where a State establishes a State plan that satisfies the
requirements of Title XIX, the Federal Government shares
10                                               No. 11-2809

in the cost by reimbursing a participating State for
patient care costs on the basis of a federal medical assis-
tance percentage (“FMAP”). 42 U.S.C. § 1396b(a)(1); 42
C.F.R. § 433.10(b); Harris v. McRae, 448 U.S. 297, 308, 100
S.Ct. 2671, 65 L.Ed.2d 784 (1980). The FMAPs are used in
determining the amount of federal matching funds,
known as federal financial participation (“FFP”), partici-
pating States receive. The federal government typically
pays between 50% and 83% of the costs incurred by the
participating State for patient care. 42 C.F.R. § 433.10(b).
   Prior to 1991, States “began to take advantage of a
‘loophole’ in the Medicaid program that allowed states
to gain extra federal matching funds without spending
more state money.” Protestant Mem’l Med. Ctr., Inc. v.
Maram, 471 F.3d 724, 726 (7th Cir. 2006). Specifically, States
would make payments to hospitals, collect the federal
matching funds, and then recover a portion of the pay-
ments made to hospitals through the collection of a
health care related tax imposed on the hospitals. See
generally id. (discussing loophole). Under these arrange-
ments, States essentially raised revenue for their
Medicaid programs while shifting program costs away
from themselves and to the Federal Government.
  In 1991, Congress enacted the Medicaid Voluntary
Contribution and Provider-Specific Tax Amendments
of 1991 (“1991 Amendments”), Pub. L. No. 102-234 § 2,
105 Stat. 1793, 1793-99 (effective Jan. 1, 1992) (codified
at 42 U.S.C. § 1396b(w)). In the 1991 Amendments, Con-
gress instructed that the amount of federal matching
funds provided to a State should be reduced by the
No. 11-2809                                                  11

amount of any revenues received by the State through
a health care related tax that was not broad-based and
that contained a hold harmless provision. 42 U.S.C.
§ 1396b(w)(1)(A)(ii)-(iii); see also Protestant Mem’l Med. Ctr.,
Inc., 471 F.3d at 726. Thus, where a health care related tax
is broad-based and does not contain a hold harmless
provision, a State does not lose any matching federal
contributions.
  “A health care related tax is either a tax that treats
providers or purchasers of health care items or services
differently from other individuals on whom the tax
falls, or it is a tax in which at least eighty-five percent
of the tax burden falls on those who provide or pur-
chase health care items or services.” Protestant Mem’l
Med. Ctr., Inc., 471 F.3d at 726 (citing 42 U.S.C.
§ 1396b(w)(3)(A)). “A health care related tax contains a
‘hold harmless provision’ when it provides some sort
of payment to the taxpayer that is tied to the amount of
the health [care] related tax paid.” Id. (citing 42 U.S.C.
§ 1396b(w)(4)). For instance, where a health care related
tax “provides a direct [or indirect] payment to the
taxpayer based on either the amount of the tax paid or
the difference between the amount of the tax paid and
the amount the taxpayer receives as payments under the
State’s Medicaid plan,” that constitutes a hold harmless
provision. Id. (citing 42 U.S.C. § 1396b(w)(4)(A)); 42
C.F.R. § 433.58(f)(1). Additionally, hold harmless provi-
sions are found where a health care related tax provides
that “payments that the taxpayer receives under the
state’s Medicaid program are tied to the total health care
related tax paid.” Id. (citing 42 U.S.C. § 1396b(w)(4)(B));
12                                              No. 11-2809

42 C.F.R. § 433.68(f)(2). “Lastly, if the state promises to
hold the taxpayer harmless for a portion of the cost of
the tax through a direct payment or exemption from the
tax, that promise also constitutes a ‘hold harmless provi-
sion.’ ” Id. (citing 42 U.S.C. § 1396b(w)(4)(C)); 42 C.F.R.
§ 433.68(f)(3).


  C. Illinois’ Hospital Provider Funding Legislation
  In 2004, Illinois enacted Hospital Provider Funding
Legislation (“Legislation”) imposing a tax (“Tax Assess-
ment”) on hospital providers, except for certain cate-
gories of exempt hospitals, for fiscal years 2004 and
2005. 305 Ill. Comp. Stat. 5/5A-2(a) (2004); 305 Ill. Comp.
Stat. 5/5A-3(b) (2004) (listing exempt hospitals); Protestant
Mem’l Med. Ctr., Inc., 471 F.3d at 727. The Tax Assess-
ment was equal to $84.19 for each “occupied bed day,”
meaning the total number of days that each hospital
bed was occupied by a patient during calendar year 2001.
305 Ill. Comp. Stat. 5/5A-2(a) (2004); see also Protestant
Mem’l Med. Ctr., Inc., 471 F.3d at 727.
  The Illinois Department of Public Aid (now known as
the Illinois Department of Healthcare and Family Ser-
vices) (“Department”), was charged with the responsi-
bility of collecting the Tax Assessments, along with ad-
ministering and enforcing the Legislation. 305 Ill. Comp.
Stat. 5/5A-7 (2004); Protestant Mem’l Med. Ctr., Inc., 471
F.3d at 725-26. The Department was required to deposit
all Tax Assessment moneys received from hospitals into
a Hospital Provider Fund (“Fund”). 305 Ill. Comp. Stat.
5/5A-6 (2004). In addition to the Tax Assessment moneys,
No. 11-2809                                               13

the Fund consisted of: (1) all federal matching funds
received by the Department as a result of expenditures
it made that were attributable to money deposited in
the Fund; (2) interest and penalties levied in conjunction
with the statute; (3) money transferred from another
fund in the State treasury; and (4) any other money re-
ceived for the Fund from any other source, including
earned interest. 305 Ill. Comp. Stat. 5/5A-8(c) (2004).
  Pursuant to Section 5A-12 of the Legislation, the Depart-
ment was required to make hospital access improve-
ment payments (“Access Payments”) to non-exempt
hospitals with money from the Fund. 305 Ill. Comp. Stat.
5/5A-12(a) (2004). The Access Payments were additional
Medicaid payments. See Protestant Mem’l Med. Ctr., Inc.,
471 F.3d at 727 (noting that the Access Payments “provided
payments to hospitals above the basic rate for inpatient
hospital services, including a ‘Medicaid inpatient utiliza-
tion rate adjustment’ ” and citing 305 Ill. Comp. Stat. 5/5A-
12). In addition to disbursements for Access Payments,
the Legislation permitted the Department to disburse
money from the Fund for a number of other reasons,
including for payment of administrative expenses in-
curred by the Department in performing activities
under the Legislation and for transfers to the State’s
Medicaid Trust Fund or other State funds. 305 Ill. Comp.
Stat. 5/5A-8(b) (2004) (listing eight reasons for disburse-
ments from the Fund).
  The Access Payments were “not due and payable” until:
(1) approval by the Federal Government in a State plan
amendment; (2) a determination was made that the Tax
14                                              No. 11-2809

Assessment was a permissible tax under Medicaid; and
(3) the Tax Assessment took effect. 305 Ill. Comp. Stat.
5/5A-12(a) (2004). For fiscal year 2004, the Access Payments
were to be made on or before June 15, 2004. Id. As to the
Tax Assessments for fiscal year 2004, they were due on
June 18, 2004. 305 Ill. Comp. Stat. 5/5A-4(a) (2004). For
fiscal year 2005, the Access Payments were to be made
in four installments on or before July 15, 2004, October 15,
2004, January 14, 2005, and April 15, 2005. 305 Ill. Comp.
Stat. 5/5A-12(a) (2004). The Tax Assessments for fiscal
year 2005 were required to be paid in four installments
and were due on July 19, 2004, October 19, 2004, Janu-
ary 18, 2005, and April 19, 2005. 305 Ill. Comp. Stat. 5/5A-
4(a) (2004). Importantly, a hospital’s payment of the Tax
Assessment was contingent upon: (1) actual receipt of the
Access Payments; (2) approval by CMS of the Access
Payments under Section 5A-12; and (3) CMS’s waiver of
Medicaid’s broad-based requirement for health care
related taxes as it pertained to the Tax Assessment. 305
Ill. Comp. Stat. 5/5A-4(a) (2004).
  In the event the Access Payments were not eligible
for federal matching funds under Medicaid, the Legisla-
tion provided that the Tax Assessment “shall not take
effect or shall cease to be imposed, and any moneys
remaining in the Fund shall be refunded to hospital
providers[.]” 305 Ill. Comp. Stat. 5/5A-10(a)(3) (2004).
Furthermore, if the Tax Assessment was determined to
be an impermissible tax under Medicaid, the Tax Assess-
ment “[would] not take effect or [would] cease to be
imposed[.]” 305 Ill. Comp. Stat. 5/5A-10(b) (2004).
No. 11-2809                                              15

    D. State Plan Amendments to Illinois’ Medicaid Plan
  In 2004, Illinois submitted two State plan amendment
(“SPA”) requests to CMS for approval of adjustments to
the payment methodologies for inpatient and outpatient
hospital services. Illinois also requested that CMS grant
a waiver of the broad-based requirement for the Tax
Assessment under 42 C.F.R. § 433.68(e)(1).5 Illinois re-
quested the waiver because some hospitals were exempt
from paying the Tax Assessment. Upon review of the
proposed SPAs, CMS noted that the proposed SPAs
conditioned payment on approval of the waiver request
and requested that Illinois remove this conditional lan-
guage. Illinois removed the conditional language from
the proposed SPAs, although the language of the Legis-
lation remained intact. CMS then approved the SPAs
and granted the waiver request.


    E. The Administrator’s Decision
  During fiscal years 2005 and 2006, the Hospitals sought
reimbursement for services provided to Medicare patients
on a reasonable cost basis. See 42 U.S.C. § 1395f(b)(1). In
their cost reports, the Hospitals included the Tax Assess-



5
   Pursuant to Medicaid regulations, permissible health care
related taxes must be broad-based, uniformly imposed, and
may not violate the hold harmless provisions of the regula-
tions. 42 C.F.R. § 433.68(b). States may nonetheless request
a waiver from CMS of the broad-based requirement. 42
C.F.R. § 433.68(c)(3).
16                                           No. 11-2809

ments they paid as a reasonable cost to be reimbursed
under Medicare. The fiscal intermediary (“Intermediary”)
disallowed the Tax Assessment payments as costs and
made audit adjustments reducing the Hospitals’ Medi-
care reimbursement by all or a portion of the Access
Payments the Hospitals received. The Hospitals appealed
the Intermediary’s decisions to the Board, which consoli-
dated the appeals into one group appeal. The Board
reversed the Intermediary’s decisions, holding that the
Tax Assessment was an allowable cost under Medicare
and further concluding that the Tax Assessment was a
permissible tax under Medicaid and that the Access
Payments were not a refund of the Tax Assessment.
  The Intermediary sought review of the Board’s deci-
sion, and the CMS Administrator reversed. The Adminis-
trator held that although the Tax Assessment was an
allowable tax, the Access Payments were properly treated
as refunds of the Tax Assessment. The Administrator
reasoned that the statutory language of the Legislation
evinced a link between the Tax Assessments and the
Access Payments. The Administrator therefore con-
cluded that the Tax Assessment payments were properly
offset against the amount of Access Payments each of
the Hospitals received, such that the allowable tax was
properly calculated as the amount of the Tax Assessment
less the amount refunded by Illinois in the form of
Access Payments. The Administrator further concluded
that whether the Tax Assessment met Medicaid’s hold
harmless provision was not pertinent to whether the
refund should be offset under Medicare principles to
determine the amount of necessary and reasonable tax
expenses.
No. 11-2809                                                 17

  The Hospitals then brought suit in the Central District
of Illinois, contending that the Administrator’s decision
violated the Administrative Procedure Act (“APA”). In
a thorough and detailed opinion granting summary
judgment to the Secretary and denying summary judg-
ment to the Hospitals, Judge Myerscough upheld the
Administrator’s decision, finding that the Secretary’s
interpretation of the Medicare statutes and regulations
“was not arbitrary, capricious, or contrary to law, and
is supported by substantial evidence.” Abraham Lincoln
Mem’l Hosp. v. Sebelius, No. 10-3122, 2011 WL 2293233,
at *7-*10 (C.D. Ill. June 8, 2011).


                     II. DISCUSSION
  We review the district court’s decision denying the
Hospitals’ motion for summary judgment and granting
summary judgment to the Secretary de novo. Mt. Sinai
Hosp. Med. Ctr. v. Shalala, 196 F.3d 703, 707 (7th Cir. 1999).
At the outset, however, we note that our review of the
Secretary’s decision is limited. Loyola Univ. of Chi. v.
Bowen, 905 F.2d 1061, 1066 (7th Cir. 1990). Our review
of the Secretary’s decision on reimbursement matters
is governed by 42 U.S.C. § 1395oo(f)(1), which in-
corporates the standard of review from the APA. Thomas
Jefferson Univ. v. Shalala, 512 U.S. 504, 512, 114 S.Ct. 2381,
129 L.Ed.2d 405 (1994); Hinsdale Hosp. Corp. v. Shalala, 50
F.3d 1395, 1399 (7th Cir. 1995). The APA commands
reviewing courts to “hold unlawful and set aside” agency
action where it is “arbitrary, capricious, an abuse of
discretion, or otherwise not in accordance with law; . . . [or]
18                                              No. 11-2809

unsupported by substantial evidence . . . .” 5 U.S.C.
§ 706(2); Hinsdale Hosp. Corp., 50 F.3d at 1399; Thomas
Jefferson Univ., 512 U.S. at 512, 114 S.Ct. 2381. Under
both the “arbitrary and capricious” and “substantial
evidence” standards, the scope of review is narrow and
a court must not substitute its judgment for that of the
agency. Motor Vehicles Mfrs. Ass’n v. State Farm Mut. Ins.
Co., 463 U.S. 29, 43, 103 S.Ct. 2856, 77 L.E.2d 443 (1983).
  To the extent the Secretary’s decision is based on an
interpretation of the statutory language, the Court owes
Chevron deference. See Chevron, U.S.A., Inc. v. Natural Res.
Def. Council, Inc., 467 U.S. 837, 842, 104 S.Ct. 2778, 81
L.Ed.2d 694 (1984) [hereinafter Chevron]. Under Chevron,
courts engage in a two-step inquiry. First, we must deter-
mine “whether Congress has directly spoken to the
precise question at issue.” Id. at 842, 104 S.Ct. 2778.
Where Congress’ intent is clear, we must give effect to
Congress’ unambiguously expressed intent. Id. at 842-43,
104 S.Ct. 2778. Where the statute is silent or ambiguous,
however, we must examine “whether the agency’s [inter-
pretation] is based on a permissible construction of the
statute.” Id. at 843, 104 S.Ct. 2778.
  When the construction of an administrative regula-
tion is at issue, it is well-established that the Secretary’s
interpretation of her own regulations is entitled to sub-
stantial deference. Thomas Jefferson Univ., 512 U.S. at 512,
114 S.Ct. 2381. “Our task is not to decide which among
several competing interpretations best serves the regula-
tory purpose. Rather, the agency’s interpretation must
be given controlling weight unless it is plainly erroneous
or inconsistent with the regulation.” Id. (internal citations
No. 11-2809                                                19

and quotation marks omitted). This substantial degree
of deference is “particularly warranted when, as here,
the Secretary is interpreting regulations ‘issued pursuant
to the complex and reticulated Medicare Act[.]’ ” Hinsdale
Hosp. Corp., 50 F.3d at 1399 (quoting Adventist Living
Ctrs., 881 F.2d at 1420-21); see also Thomas Jefferson Univ.,
512 U.S. at 512, 114 S.Ct. 2381.
  The Medicare Act “gives the Secretary wide latitude
in developing methods of determining costs.” St. Mary’s
Hosp. Med. Ctr. v. Heckler, 753 F.2d 1362, 1367 (7th Cir.
1985) (citing 42 U.S.C. § 1395x(v)(1)(A)). That said, the
“Medicare statute specifically circumscribes the Secretary’s
discretion to define reasonable cost.” Little Co. of Mary
Hosp., 587 F.3d at 853 (quotation marks omitted) (citing
St. James Hosp. v. Heckler, 760 F.2d 1460 (7th Cir. 1985); St.
Francis Hosp. Ctr. v. Heckler, 714 F.2d 872 (7th Cir.
1983); Northwest Hosp., Inc. v. Hosp. Serv. Corp., 687 F.2d
985 (7th Cir. 1982); St. John’s Hickey Mem’l Hosp., Inc. v.
Califano, 599 F.2d 803 (7th Cir. 1979)). More specifically,
the Medicare Act directs that the regulations shall “take
into account both direct and indirect costs,” so that,
under the methods of determining costs, the costs of
providing services to Medicare patients is not borne
by non-Medicare patients, and vice versa. 42 U.S.C.
§ 1395x(v)(1)(A); see also St. John’s Hickey Mem’l Hosp.,
Inc., 599 F.2d at 813 n.17 (regulations must . . . take into
account both direct and indirect costs and must avoid
shifting costs to non-Medicare patients); see also Loyola
Univ. of Chi., 905 F.2d at 1067.
  Finally, “[t]he fact that the [Board] and the Secre-
tary may have reached different conclusions does not
20                                              No. 11-2809

diminish the deference due the Secretary’s final decision:
‘[f]inal responsibility for rendering decisions rests with
the agency itself, not with subordinate hearing offi-
cers.’ ” Adventist Living Ctrs., 881 F.2d at 1421 (quoting
St. Francis Hosp. Ctr., 714 F.2d at 874).
   The Hospitals urge us to reverse the Secretary’s final
decision on the basis of five separate arguments. First, the
Hospitals contend that the Administrator’s decision
(“Decision”) is arbitrary and capricious, contrary to law,
and not supported by substantial evidence because
the Administrator misapplied the regulatory term “re-
fund” in concluding that the Access Payments con-
stituted a refund of the Tax Assessments. Second, the
Hospitals argue that the Decision misapplied Medicare’s
statutory standard as to whether the Tax Assessment
costs were “actually incurred.” Third, the Hospitals urge
us to set aside the Decision on the basis that CMS previ-
ously determined that the Access Payments did not
constitute refunds. Fourth, the Hospitals argue that the
Decision must be set aside as an arbitrary and capricious
reversal of long-standing policy. Finally, the Hospitals
stress that the Decision must be set aside because
it establishes a new rule that fails to comply with the
APA. We address each argument in turn.


  A. The Administrator’s Decision did not misapply
     the regulatory definition of the term “refund” and
     was supported by substantial evidence
  The Hospitals first argue that the Decision, finding that
the Access Payments to the Hospitals were inextricably
No. 11-2809                                              21

linked to the Tax Assessments and constituted a refund, is
contrary to law, arbitrary and capricious, and
not supported by substantial evidence. According to
the Hospitals, the Decision misapplied the regulatory
definition of the term “refund” and ignored facts in the
record showing no link between the Tax Assessments
the Hospitals paid and the Access Payments they received.


    1.   Whether the Administrator misapplied the regu-
         latory definition of the term “refund”
  We find that the Administrator’s Decision to treat the
Access Payments as refunds and therefore offset the
Access Payments against the Tax Assessments is in
keeping with the statutory and regulatory directives and
is not arbitrary, capricious, or contrary to law. Under
the Medicare Act, health care providers may only be
reimbursed for their “reasonable costs,” 42 U.S.C.
§ 1395f(b)(1), meaning those costs that are “actually
incurred.” 42 U.S.C. § 1395x(v)(1)(A). Consistent with
this statutory directive, the corresponding regulations
and Manual provisions require that a health care pro-
vider’s costs be offset to account for the receipt of
refunds, rebates, credits, or other discounts by offsetting
the costs to which they relate. 42 C.F.R. § 413.98; Manual
§ 804 (Rev. 45). Pursuant to the Secretary’s regulations,
refunds of previous expense payments are to be treated
as reductions of the related expense. 42 C.F.R. § 413.98(a);
Manual § 800 (Rev. 450).
  A plain reading of the Legislation evidences that
the Access Payments clearly served to reduce related
22                                              No. 11-2809

expenses, i.e., the Tax Assessments, and therefore were
appropriately offset against the Tax Assessments.
Pursuant to the terms of the Legislation, the full Tax
Assessment was not an incurred cost as the Illinois
statute made clear that no installment of the Tax Assess-
ment was “due and payable” until the Hospitals actually
received the Access Payments. 305 Ill. Comp. Stat. 5/5A-
4(a)(ii) (2004). So, for fiscal year 2004, Access Payments
were to be made on or before June 15, 2004, and the
Tax Assessment was due three days later on June 18,
2004. 305 Ill. Comp. Stat. 5/5A-12(a) (2004); 305 Ill. Comp.
Stat. 5/5A-4(a) (2004). Similarly, for fiscal year 2005,
Access Payments were to be made in four installments
on or before July 15, 2004, October 15, 2004, January 14,
2005, and April 15, 2005, yet the Tax Assessments were
not due until July 19, 2004, October 19, 2004, January 18,
2005, and April 19, 2005. 305 Ill. Comp. Stat. 5/5A-12(a)
(2004); 305 Ill. Comp. Stat. 5/5A-4(a) (2004). The Legisla-
tion further provided that the Access Payments were
“not due and payable” until the Tax Assessment took
effect, 305 Ill. Comp. Stat. 5/5A-12(a) (2004), and in the
event the Access Payments were not eligible for federal
matching funds under Medicaid, the Tax Assessment
would not take effect and any money in the Fund would
be refunded to the Hospitals. 305 Ill. Comp. Stat. 5/5A-
10(a)(3) (2004). In other words, if the Federal Govern-
ment declined to provide the State with federal matching
funds for the Access Payments, any Tax Assessment
moneys collected would be returned to the Hospitals.
The plain language of the Legislation shows a clear rela-
tionship between the Access Payments and the Tax Assess-
No. 11-2809                                            23

ments. To simply ignore the Access Payments, while
recognizing the Tax Assessments in full in determining
the Hospitals’ reimbursable costs, as the Hospitals essen-
tially request, would violate the statutory and regulatory
directives that health care providers should be reim-
bursed only for the costs they have actually incurred,
i.e., their net costs. This is especially so where the Tax
Assessment moneys were deposited into the same
Fund from which the Access Payments were disbursed.
  Nonetheless, the Hospitals contend that the Access
Payments were not computed based on the amount of
the Tax Assessment the Hospitals paid and therefore
the Access Payments could not possibly have constituted
a “refund” of the Tax Assessments. According to the
Hospitals, the Access Payments do not fit within the
technical definition of a refund, which is defined as
an “amount[ ] paid back or a credit allowed on account
of an overcollection.” 42 C.F.R. § 413.98(b)(3). By the
Hospitals’ logic, however, any amount of money that
they might pay out, but which is then returned to them
for any reason and is not directly calculated off of the
amount of money they paid is not subject to an offset.
To borrow an example from the Fifth Circuit, this is akin
to arguing that if a thermometer manufacturer sold
the Hospitals a thermometer for $100 and then, pursuant
to a separate agreement, voluntarily gave the Hospitals
$75 of that money back, the Hospitals would be able to
be reimbursed $100 by the Medicare program, without
any offset, because the $75 was not directly computed off
of the $100 purchase price. Sta-Home Health Agency, Inc.
v. Shalala, 34 F.3d 305, 309-10 (5th Cir. 1994) (rejecting
24                                             No. 11-2809

similar argument raised by provider that certain em-
ployee salary contributions “were not refunds because
they were not paid back ‘on account of an overcollec-
tion’ ”). As in Sta-Home Health Agency, the guiding
principle is the statutory and regulatory language,
which instructs that reimbursement is allowed only for
costs “actually incurred,” such that refunds must be
accounted for when determining the amount of reim-
bursable expenses. 34 F.3d at 310. We find that the Secre-
tary’s interpretation of the regulations and Manual pro-
visions pertaining to “refunds”, which are intended to
guide her interpretation of what costs are actually in-
curred, was not plainly erroneous or inconsistent, and
therefore the Administrator’s Decision was not arbitrary,
capricious, or contrary to law.


     2.   Whether there is substantial evidence to sup-
          port the Administrator’s Decision
  Despite the Legislation’s language to the contrary,
the Hospitals also argue that the Decision is not sup-
ported by substantial evidence in that it ignored facts
in the record showing no link between the Tax Assess-
ments and the Access Payments the Hospitals received.
“Substantial evidence is ‘such relevant evidence as a
reasonable mind might accept as adequate to support
a conclusion.’ ” Loyola Univ. of Chi., 905 F.2d at 1066-67
(quoting Richardson v. Perales, 402 U.S. 389, 401, 91 S.Ct.
1420, 1427, 28 L.Ed.2d 842 (1971)).
  In concluding that the Access Payments were properly
treated as refunds of the Tax Assessments and should
be offset against the Tax Assessments because they
No. 11-2809                                             25

were inextricably linked, the Administrator relied on the
language of the Legislation, communications between
providers and the State, and the timing of the Tax Assess-
ments and the Access Payments. Specifically, the Ad-
ministrator took into account the fact that health care
providers did not have to pay any portion of the Tax
Assessment until the Access Payments were received,
letters from the State to providers informing them of
the date they should expect to receive the Access Pay-
ments and the dates their Tax Assessment was due, as
well as the sheer timing of the Access Payments and
the Tax Assessments. The fact that the Access Payments
were integrally related to the Tax Assessments was not
a mystery to the Administrator, who recognized that
“but for the [T]ax [A]ssessment there would have been
no Fund payment and likewise without the Fund pay-
ment there would have been no [T]ax [A]ssessment.”
  According to the Hospitals, the Administrator placed
undue weight on the “superficial timing issue” while
ignoring other facts in the record. For instance, they
contend that Illinois removed conditional language
from the SPAs during the SPA review process, thereby
making it clear that the Access Payments would be
made regardless of whether CMS found the Tax Assess-
ment permissible. While it is true that Illinois removed
the conditional language from the SPAs, the Hospitals
ignore the fact that the State did not remove such
language from the Legislation which continued to make
clear that the Access Payments were “not due and pay-
able” until the Tax Assessment took effect, among other
requirements. 305 Ill. Comp. Stat. 5/5A-12(a)(1) (2004). If
the Tax Assessment failed to take effect, Illinois was not
26                                              No. 11-2809

obligated to make the Access Payments to the Hospitals
per the terms of the Legislation.
  The Hospitals also ignore the language in the Legisla-
tion making it clear that the Hospitals did not need to
pay the Tax Assessment until after they received the
Access Payments. According to the Hospitals, this
should be disregarded as a mere “superficial timing”
issue. We disagree, in light of the fact that any Tax Assess-
ment moneys would be refunded to the Hospitals if
the State did not receive federal matching funds for the
Access Payments. Finally, the Hospitals also ignore the
fact that the Access Payments were disbursed out of the
same Fund that the Tax Assessment moneys were
paid into. Because the Administrator’s decision is sup-
ported by substantial evidence, we decline to reverse it.


  B. The Administrator’s Decision applied the correct
     statutory standard requiring that allowable costs
     must be “actually incurred”
  The Hospitals’ second contention on appeal is that
the Decision failed to apply the correct statutory standard
that costs must be “actually incurred” in determining
the allowability of the Tax Assessment, and incorrectly
determined that the Hospitals did not actually incur
the cost of the Tax Assessment. The Secretary counters
that the term costs “actually incurred” found in the
Medicare Act, requires her to assess costs “as they are.”
According to the Secretary, this necessarily includes
accounting for offsets for anything that defrays part of
the nominal costs health care providers pay.
No. 11-2809                                            27

   1.   Whether the Decision applied the wrong statu-
        tory standard
   The Hospitals assert that the Decision hinges on the
premise that because the Access Payments were “inextri-
cably linked” to the Tax Assessments, the Access Pay-
ments must be offset against the cost of the Tax Assess-
ments when determining the amount of a health care
provider’s reimbursable costs. According to the Hospitals,
the Administrator’s use of a “linkage” concept was inap-
propriate and under the statutory language of the
Medicare Act, the correct standard is whether the costs
were “actually incurred.” Relying on Charlotte Memorial
Hospital v. Bowen, 860 F.2d 595, 598 (4th Cir. 1988), the
Hospitals argue that a cost is “actually incurred” when
a provider’s liability accrues, regardless of when the
liability is paid.
  Again, under the Medicare Act, health care providers
are reimbursed for their reasonable costs. 42 U.S.C.
§ 1395f(b)(1). The Medicare Act defines reasonable
costs as the costs “actually incurred” and directs the
Secretary to promulgate regulations establishing the
methods to be used, and items to be included, in deter-
mining such costs. 42 U.S.C. § 1395x(v)(1)(A). Pursuant
to her statutory authority, the Secretary has promulgated
regulations and rules to clarify that in determining
the actual cost of goods, the true cost is the net amount
actually paid for them, such that discounts, allowances,
refunds, and credits must be reflected in the deter-
mination of allowable costs. 42 C.F.R. § 413.98. Ac-
cordingly, the regulations and related Manual provi-
28                                               No. 11-2809

sions employ a net cost approach for determining the
amount of reimbursable expenses and provide that
refunds are reductions, or offsets, of a related expense.
42 C.F.R. § 413.98(a); Manual § 800 (Rev. 450). The
Manual provisions pertaining to applicable credits also
employ this same net cost approach. “Applicable Cred-
its” are defined in the Manual as those “types of transac-
tions which offset or reduce expense items” and ex-
amples of such transactions generally include “income
items which serve to reduce costs.” Manual § 2302.5
(Rev. 336).
  Here, the Administrator did not manufacture a “ ‘linkage’
standard out of whole cloth” as the Hospitals assert.
Rather, in determining the costs actually incurred, the
Administrator looked at the economic impact of the
Hospitals’ receipt of the Access Payments to determine
the Hospitals’ net Tax Assessment costs. In so doing, the
Administrator assessed whether the Access Payments
served to reduce a related expense, such that they consti-
tuted a refund of the Tax Assessments, and concluded
that the Access Payments were indeed intended to
reduce the cost of the Tax Assessment. The Hospitals’
reliance on Charlotte Memorial Hospital is unavailing, as
the question presented there was when a hospital
incurred a reimbursable cost for services and not whether
a hospital’s costs should be offset. 860 F.2d at 598.6 Accord-



6
  The Hospitals also argue that the Tax Assessments paid by
the Hospitals are not different from other kinds of allowable
                                                (continued...)
No. 11-2809                                               29

ingly, we find that the Secretary’s construction of
costs “actually incurred” is based upon a reasonable
interpretation of the statutory term and was not
arbitrary, capricious, or contrary to law.


    2.   Whether the Tax Assessment costs were “actu-
         ally incurred”
  The Hospitals also argue that they incurred the full
cost of the Tax Assessment, as they were billed by the
State of Illinois for the Tax Assessment and they wrote
checks to the State to pay for the Tax Assessment. There-
fore, they contend, the Administrator’s Decision that
they did not actually incur the cost of the Tax Assessment
is incorrect, as the statutory language requires that they
be reimbursed for the reasonable costs they actually
incurred.7



(...continued)
taxes that are paid into a State’s general revenue fund and
used to fund Medicaid payments. According to them, CMS
has previously determined that health care related taxes
“may be considered an allowable cost for purposes of develop-
ing Medicaid reimbursement rates’ for hospitals, without
any requirement that the Medicaid payments received be
offset against the amount of the tax.” The problem with this
argument, however, is that we are concerned here with
Medicare reimbursement and not with whether taxes should
be offset for purposes of determining Medicaid reimbursement.
7
  The Hospitals contend that the word “incurred’ does not
involve a highly technical Medicare regulation requiring
                                               (continued...)
30                                               No. 11-2809

  While the Hospitals are correct that the Secretary
must assess the costs “actually incurred,” their argument
does not recognize that the Secretary’s regulations
require that reimbursable costs must necessarily take
into account any amounts that defray a health care pro-
vider’s costs. 42 C.F.R. §§ 413.5(c), 413.98. In determining
allowable costs, the Secretary should not look at costs in
a vacuum, but must look at the totality of the circum-
stances. The Hospitals’ argument ignores the real net
economic impact of the Access Payments.
  The Hospitals also assert that CMS’s position that the
Hospitals did not “actually incur” the costs of the
Tax Assessment within the meaning of 42 U.S.C.
§ 1395x(v)(1)(A) “runs counter to the intent of Congress,
reflected in 42 U.S.C. § 1396b(w)(4), that permissible
provider tax arrangements, such as the one at issue in
this case, shall not be a basis to deny reimbursement.”
The fundamental error with the Hospitals’ argument,
however, is that the Hospitals cite to the Medicaid
statute to show Congress’s intent as it relates to reim-
bursable expenses under Medicare. While the Medicaid
provision the Hospitals rely upon ensures that States
are properly reimbursed for patient care costs under
Medicaid, it does not address whether a health care


(...continued)
CMS’s expertise, and therefore the Decision is not entitled to
any deference. Under Chevron, however, we must give effect to
an agency’s regulation containing a reasonable interpreta-
tion of an ambiguous statutory term. 467 U.S. at 843, 104
S.Ct. 2778.
No. 11-2809                                            31

provider incurs an allowable cost under Medicare. The
Hospitals’ reliance on HHS’s position that permissible
tax arrangements under § 1396b(w)—a Medicaid provi-
sion—somehow demonstrates that “the funds received by
the providers are ‘protected reimbursement for cost of
Medicaid services,’ ” Medicaid Program; Health Care-
Related Taxes, 73 Fed. Reg. 9685, 9690-91 (Feb. 22, 2008)
(emphasis added), also suffers from the same error. In
short, the Hospitals’ arguments fail to address the key
differences between Medicaid and Medicare.


 C. Significance of CMS’s determination that the Ac-
    cess Payments were not a hold harmless arrange-
    ment
  The Hospitals’ third contention on appeal is that the
Decision must be set aside in light of CMS’s approval of
the SPAs. The Hospitals argue that CMS’s approval of
the SPAs demonstrates that CMS previously determined
that the Access Payments and Tax Assessment did not
constitute a hold harmless arrangement. According to
the Hospitals, “[t]he nature of the Medicaid payments
to the Hospitals—already determined by CMS not to be a
repayment of the provider tax but, rather, needed pay-
ments for services to Medicaid patients—does not
change when the Medicare program confronts those
facts.” In support, the Hospitals rely on Michael Reese
Physicians and Services, S.C. v. Quern, 606 F.2d 732, 736-
37 (7th Cir. 2002). There, however, we stated that in ap-
proving the Illinois Medicaid plan, HHS had determined
that the State plan was in compliance with Medicaid’s
32                                              No. 11-2809

statutory and regulatory requirements. Nowhere in
Michael Reese Physicians and Services did we note that
HHS’s determinations as they pertained to Medicaid,
were controlling on HHS’s Medicare determinations.
  The Hospitals also fail to point to any statutory
language in the Medicare Act suggesting that an interpre-
tation of the Medicaid Act is controlling when inter-
preting provisions of the Medicare Act. While both
Medicare and Medicaid are federally sponsored
programs, they are two entirely distinct programs with
fundamentally different rules governing eligibility for
federal funds. Univ. of Wash. Med. Ctr. v. Sebelius, 634
F.3d 1029, 1031 (9th Cir. 2011) (explaining the different
funding mechanisms). Most notably, Medicare is a fed-
erally funded program whereas Medicaid is jointly fi-
nanced by the States and the Federal Government
with precise rules for determining the amount of federal
matching funds a participating State will receive.
Because the two programs are independent of one
another, CMS’s decisions with respect to a State’s
Medicaid program are not controlling on how CMS
interprets the application of Medicare provisions. See
Cmty. Health Ctr. v. Wilson-Coker, 311 F.3d 132, 137 (2d Cir.
2002) (finding that Secretary’s definition of “ ‘reasonable’
or ‘reasonably related’ under Medicare” need not have
the same meaning that those terms have for Medicaid
purposes); Roe v. Norton, 522 F.3d 928, 933 n.5 (2d Cir.
1975) (assuming that Medicare has a “medical necessity”
requirement, courts should not infer that Medicaid has
an analogous requirement).
No. 11-2809                                             33

  The Hospitals further argue that the purpose of the
hold harmless provision in the Medicaid statute is the
same as the purpose of the reasonable cost provision in
the Medicare statute, which is to ensure that CMS only
reimburses an entity for the costs it has actually
incurred and therefore the two provisions should not
be interpreted inconsistently. According to them, by
prohibiting, in the Medicaid context, the payment of
federal matching funds in those circumstances where a
State refunds taxes back to the providers that originally
paid them, the Medicaid Act was essentially employing
the same payment restriction as found in the Medicare
regulations and Manual provisions pertaining to refunds.
The Hospitals contend that by disregarding the fact that
CMS approved the SPAs, thereby concluding that the
Access Payments did not constitute a refund of the Tax
Assessment, the Decision interpreted the Medicaid and
Medicare Acts inconsistently. In support, the Hospitals
rely on Adena Regional Medical Center v. Leavitt, 527 F.3d
176, 180 (D.C. Cir. 2008) [hereinafter Adena].
  The Hospitals’ reliance on Adena is misplaced. There,
the District of Columbia Circuit reviewed a provision in
the Medicare Act that expressly refers to the Medicaid
statute, 42 U.S.C. § 1395ww(d)(5)(F)(vi)(II), and also uses
the phrase “medical assistance.” 527 F.3d at 180. In ap-
plying the principle that courts should presume that
“identical words used in different parts of the same act
are intended to have the same meaning,” the Adena court
held that the phrase “medical assistance” in the
Medicare Act should have the same meaning as that
applied in the Medicaid Act. Id. Here, however, the
34                                             No. 11-2809

Hospitals point to no such language appearing in
both the Medicare and Medicaid Acts that should be
subject to this canon. Accordingly, Adena is inapplicable.
In sum, because Medicare and Medicaid are two
separate and independent programs, we cannot conclude
that CMS’s decisions under Medicaid necessarily control
her decisions under Medicare, such that the Decision
at issue here was arbitrary, capricious or contrary to law.


 D. The Decision that the Access Payments were re-
    funds was not an arbitrary and capricious reversal
    of long-standing policy
  The Hospitals’ fourth contention on appeal is that the
Decision should be set aside as arbitrary and capricious
because it constitutes a reversal of long-standing policy.
In support, the Hospitals rely on United States v. Mead
Corp., for the proposition that courts consider a host of
factors in assessing the weight that a final agency
decision is due. 533 U.S. 218, 228, 121 S.Ct. 2164, 150
L.Ed.2d 292 (2001) [hereinafter Mead]. Without further
elaboration, the Hospitals assert that consistency is
one of the most important factors and that where an
agency’s interpretation of a relevant provision is incon-
sistent with the agency’s earlier interpretation, it must
be set aside as arbitrary and capricious.
  The Hospitals’ reliance on Mead merits discussion. There,
the Supreme Court merely expanded upon its prior
decision in Chirstensen v. Harris County, 529 U.S. 576, 120
S.Ct. 1655, 146 L.Ed.2d 621 (2000), and held that tariff
classification rulings issued by the United States Customs
No. 11-2809                                               35

Service, while not deserving of Chevron deference, de-
served respect proportional to their “power to persuade”
under Skidmore v. Swift & Co., 323 U.S. 134, 140, 65 S.Ct.
161, 89 L.Ed. 124 (1944). In Christensen, the Supreme
Court clarified that agency interpretations contained in
formats such as opinion letters, policy statements, agency
manuals, and enforcement guidelines (as opposed to an
interpretation arrived at after a formal adjudication
or notice-and-comment rulemaking) were entitled to
respect under Skidmore, but only to the extent that those
interpretations had the power to persuade. 529 U.S. at
587, 120 S.Ct. 1655. In Christensen, the Supreme Court
continued to recognize that under Chevron courts “must
give effect to an agency’s regulation containing a rea-
sonable interpretation of an ambiguous statute.” Id. (citing
Chevron, 467 U.S. at 842-44, 104 S.Ct. 2778). Under Skidmore,
the Supreme Court declared that the weight of an ad-
ministrative ruling “will depend upon the thoroughness
evident in its consideration, the validity of its reasoning,
its consistency with earlier and later pronouncements,
and all those factors which give it power to persuade, if
lacking power to control.” 323 U.S. at 140, 65 S.Ct. 161.
Mead discussed the Skidmore factors, such as an agency’s
consistency, in the context of denying Chevron deference
to the tariff classification ruling therein at issue because
such rulings are more akin to policy statements and
agency manuals. 533 U.S. at 228-231, 121 S.Ct. 2164. The
interpretation at issue here, however, was arrived at
after a formal adjudication and therefore the Skidmore
factors are inapplicable. The more appropriate standard
to apply is the standard enunciated in Thomas Jefferson
36                                               No. 11-2809

University, requiring substantial deference of an
agency’s interpretation of its regulations such that
the agency’s interpretation is controlling unless plainly
erroneous or inconsistent with the regulation. 512 U.S.
at 512, 114 S.Ct. 2381; see also Christensen, 529 U.S. at 588,
120 S.Ct. 1655 (noting that an agency’s interpretation of
its own regulation is entitled to deference where the
language of the regulation is ambiguous).
  While we need not look at the Skidmore factors here,
where an agency has changed course it is “obligated to
supply a reasoned analysis for the change beyond that
which may be required when an agency does not act in
the first place.” Motor Vehicles Mfrs. Ass’n, 463 US. at 42,
103 S.Ct. 2856. Were HHS to have abandoned a long-
standing policy and taken a new direction, we would
require a reasoned analysis of its reasons for doing so.
The Administrator’s Decision, however, does not con-
stitute such a change in course. Prior to this case, HHS
had not issued any construction of the statute or
applicable regulations that was in tension with the ap-
plication here of the regulatory provisions at issue.


     1.   Whether the Administrator’s actions are inconsis-
          tent with long-standing policy
  According to the Hospitals, CMS has not previously
taken the position that taxes paid by hospitals must be
offset by Medicaid or other State funds received for
services that were funded by the taxes. Rather, the Hospi-
tals assert that CMS has allowed Medicare reimburse-
ment of these taxes consistent with Manual Section 2122
No. 11-2809                                               37

without any offset for a provider’s receipt of such
funds. On reply, and as discussed at oral argument,
however, the Hospitals concede that “CMS has not previ-
ously promulgated a regulation that expressly stated
provider taxes were not to be offset by Medicaid pay-
ments.” The Hospitals nonetheless attempt to point to
prior Board decisions that demonstrate an implicit policy.
  As evidence of the alleged past policy, the Hospitals
cite to five prior Board decisions involving the reimburse-
ment of taxes, two CMS decisions (Kindred Hosp. v. Wiscon-
sin Physician Servs., 2009 WL 6049415, at *1 (H.C.F.A.
Sept. 29, 2009); Florida Group Appeal-Indigent Tax v. Blue
Cross and Blue Shield Ass’n, Inc., PRRB Dec. Nos. 90-D61
and 90-D62, CCH Medicare and Medicaid Guide ¶ 38,934
(Sept. 20, 1990), aff’d, HCFA Admr. Dec. (CCH) ¶ 38,935
(Nov. 20, 1990)), and an Office of Inspector General report
regarding the Missouri provider tax program. According
to the Hospitals, these cases demonstrate that “ ‘refunds’
do not include Medicaid payments to the Hospitals
for patient services in situations where there is also
present a provider tax that is used to fund the payments.”
   The handful of prior Board decisions the Hospitals rely
upon to purportedly show HHS’s long-standing policy
are not determinative. Our precedent instructs that Board
decisions are not the decisions of the Secretary or her
Administrator and are not authoritative. Cmty. Care
Found. v. Thompson, 318 F.3d 219, 227 (7th Cir. 2003) (“There
is no authority for the proposition that a lower component
of a government agency may bind the decision making
of the highest level.”). While such decisions may offer
38                                                No. 11-2809

guidance to providers, they “carr[y] no more weight on
review by the Secretary than any other interim decision
made along the way in an agency where the ultimate
decision of the agency is controlling.” St. Francis Hosp. Ctr.,
714 F.2d at 874 (quoting Homan & Crimen, Inc. v. Harris,
626 F.2d 1201, 1205 (5th Cir. 1980)). “Final responsibility
for rendering a decision lies in the agency itself, not
with subordinate hearing officers . . . .” Id. Furthermore,
the Board decisions relied upon by the Hospitals did not
directly address the issue of offsets. In Florida Group
Appeal, the Administrator affirmed a Board decision
addressing the question of the appropriate fiscal year
in which Florida hospitals could claim an indigent care
tax assessment as a reimburseable expense. PRRB Dec.
Nos. 90-D61 and 90-D62, CCH Medicare and Medicaid
Guide ¶ 38,934 (Sept. 20, 1990), aff’d, HCFA Admr. Dec.
CCH Medicare and Medicaid Guide ¶ 38,935 (Nov. 20,
1990). Florida Group Appeal did not involve a question as
to the amount of costs the Florida hospitals actually
incurred. The line of cases discussing the Minnesota
provider taxes are also distinguishable in that the Minne-
sota statute therein at issue did not involve payments
of any kind to offset the amount of taxes paid by the
hospitals. Because none of the cases involve the precise
issue that was before the Administrator in this case,
the Administrator’s Decision was not inconsistent.
  The Hospitals’ reliance on Kindred Hospitals is similarly
unhelpful. The issue in Kindred Hospital involved the
proper treatment of payments providers received from
a privately-administered pooling arrangement in which
certain Missouri hospitals participated. 2009 WL 6049415,
No. 11-2809                                                 39

at *4. The providers in Kindred Hospitals were Medicare-
certified providers in Missouri that were subject to a
State tax and were also participants in the pooling ar-
rangement. Id. at *5. On their Medicare cost reports,
the providers reported their tax payments, listed the
pool payments they received as Medicaid revenue, and
claimed the amount of the tax as an allowable expense.
Id. The Administrator concluded that the pool payments
must be used to offset the tax, and that the actual costs
incurred were properly determined with respect to the
tax payment once the related pool payment was recog-
nized and offset. Id. at *8.
  On appeal to the district court, the Western District of
Missouri affirmed the Administrator’s decision. Kindred
Hospitals East, LLC v. Sebelius, No. 10-00073-CV-W-HFS,
2011 WL 4729735, at *9 (W.D.Mo. Oct. 5, 2011). In affirming
the Administrator’s decision, the district court relied on
Sta-Home Health Agency, Inc., 34 F.3d at 305-09, and ex-
plained that contrary to the provider’s suggestion, “actual
cost cannot be computed by merely ‘following the
money’ or isolating the accounting events. Instead, the
courts have allowed the Administrator to scrutinize
the substance of the transaction to determine cost
actually incurred.” 2011 WL 4729735, at *6.8 Nonetheless,


8
  The Eighth Circuit recently affirmed the district court’s
conclusion and held that the Administrator had acted within
her “statutory authority to scrutinize the substance of the
relationship between the [State] tax and the pool payments to
determine whether there was a Medicare reimbursable cost.”
                                                 (continued...)
40                                               No. 11-2809

the Hospitals argue that Kindred Hospitals helps their
case because although the intermediary did offset the
pool payments the hospitals received, it did not offset
Medicaid payments that the hospitals received directly
from the State against any amount of the provider tax.
This amounts to an argument that because HHS might
have also challenged other aspects of the Missouri tax
program, but did not, HHS’s decision not to chal-
lenge those aspects amounts to an agency policy that the
unchallenged aspects of the Missouri tax program
comply with Medicare. A federal agency does not estab-
lish policy by not taking administrative action, how-
ever. See Cooper Indus., Inc. v. Aviall Servs., Inc., 543 U.S.
157, 170, 125 S.Ct. 577, 160 L.Ed.2d 548 (2004) (“Ques-
tions which merely lurk in the record, neither brought
to the attention of the court nor ruled upon, are not to
be considered as having been so decided as to con-
stitute precedents.”).
  In sum, the Administrator’s decision here was not
inconsistent with a prior policy statement. Even if it
were arguably inconsistent, the Administrator was
not required to explain a departure from previous inter-
pretations. See Pre-Fab Transit Co. v. United States, 595
F.2d 384, 387 (7th Cir. 1979) (noting that “[a]dministrative
agencies are not bound by the doctrine of stare decisis”
and that courts may not reverse an agency determina-



8
  (...continued)
Kindred Hosps. East, LLC v. Sebelius, No. 11-3555, 2012 WL
2012 WL 3965925, at *3 (8th Cir. Sept. 12, 2012).
No. 11-2809                                              41

tion simply because the agency determination may argu-
ably be inconsistent with prior agency decisions) (citing
Sawyer Transport, Inc. v. United States, 565 F.2d 474, 477
(7th Cir. 1977)).


    2.   Whether CMS’s policy clarification fails to refute
         its “prior position” that provider taxes are allow-
         able without offset
  In May 2010, shortly after the Administrator’s Decision
was issued, CMS published a “Proposed Clarification
of Payment Policy for Provider Taxes” in the Federal
Register, 65 Fed. Reg. 23,852, 24,018-19 (May 4,
2010), which was adopted as final without change in
August 2010. 75 Fed. Reg. 50,042, 50,362-64 (Aug. 16, 2010).
The Hospitals assert that CMS’s policy clarification was
intended to bolster CMS’s litigating position in this case
and is an effort to gloss over changes in Medicare reim-
bursement policy, and therefore it is deserving of
no deference.
  In the Final Rule, CMS noted that there was confusion
relating to the determination of whether a tax is an al-
lowable tax, and that much of the confusion had arisen
because it was possible to read sections 2122.1 and 2122.2
of the Manual “as permitting all taxes assessed on a
provider by a State that are not specifically listed in
Section 2122.2 to be treated as allowable costs.” 75 Fed.
Reg. at 50,362-63. CMS proposed to amend the Manual
“[i]n situations in which payments that are associated
with [an] assessed tax are made to providers specifically
to make the provider whole or partly whole for the
42                                              No. 11-2809

tax expenses,” so that Medicare only recognized the net
expense incurred by the provider. Id. at 50,363.
  While it is clear that “[d]eference to what appears to
be nothing more than an agency’s convenient litigating
position would be entirely inappropriate,” Bowen v.
Georgetown Univ. Hosp., 488 U.S. 204, 213, 109 S.Ct. 468,
102 L.Ed.2d 493 (1988), here, the Secretary has not taken
such a position. The Secretary has not relied on the
policy clarification to justify its denial of the Hospitals’
claims. See Gonzales v. Reno, 325 F.3d 1228, 1350 (11th
Cir. 2003) (noting that “[a]n after-the-fact rationaliza-
tion of agency action—an explanation developed for
the sole purpose of defending in court the agency’s acts—is
usually entitled to no deference from the courts,” but
concluding that the agency’s position, developed in
the course of administrative proceedings before litiga-
tion commenced is not such a justification). Importantly,
while the policy clarification was issued a few months
after the Administrator’s Decision, HHS issued the pro-
posed clarification before the Hospitals filed this action
in district court. Accordingly, the Secretary’s position
is in no sense “a post hoc rationalization[ ]” advanced
by an agency seeking to defend its actions against at-
tack. Georgetown Univ. Hosp., 488 U.S. at 212.


  E. The Decision did not establish a new rule that fails
     to comply with the APA
  The Hospitals’ final contention on appeal is that the
Decision must be set aside because it establishes a new
substantive legal standard for Medicare reimbursement
No. 11-2809                                                43

that is invalid because it was not adopted in compliance
with the APA’s notice and comment requirements, and
because it cannot be retroactively applied.9 As an
initial matter, and as discussed above, the Decision did
not constitute a departure from a previous position. See
Homemakers North Shore, Inc. v. Bowen, 832 F.2d 408, 413
(7th Cir. 1987) (court’s conclusion that Secretary had not
changed positions necessarily disposed of providers’
contention that Secretary’s change to regulatory language
required Secretary to follow APA’s notice and comment
requirements prior to making change). Even if it had,
however, we find that the Decision properly qualifies as
an adjudication and therefore the Secretary was not
required to follow the APA’s notice and opportunity
for comment requirements.
  Under the APA, an administrative agency must
publish in the Federal Register “substantive rules of
general applicability . . . and statements of general policy
or interpretations of general applicability formulated
and adopted by the agency” as well as “each amend-


9
  In support of their argument that the Decision creates a
substantive change in Medicare reimbursement law, the
Hospitals rely on the testimony of an expert witness, Sheree
Kanner. Ms. Kanner testified that she was not aware of any
prior case where hospitals were required to offset Medicaid
revenues received from States against provider tax assessments
for purposes of claiming Medicare allowable costs. As the
Secretary points out however, Ms. Kanner only claimed expert
status on Medicaid and not on Medicare reimbursements, the
focus of this appeal. Accordingly, we discount her testimony.
44                                                 No. 11-2809

ment, revision, or repeal of the foregoing.” 5 U.S.C.
§ 552(a)(1)(D)-(E); 5 U.S.C. § 553(b) (requiring agencies
to publish “[g]eneral notice of proposed rule making”);
see also Bd. of Trs. of Knox Cnty. Hosp. v. Shalala, 135 F.3d
493, 500 (7th Cir. 1998). A rule is defined as “the whole
or a part of an agency statement of general or particular
applicability and future effect designed to implement,
interpret, or prescribe law or policy or describing the
organization, procedure, or practice requirements of an
agency . . . .” 5 U.S.C. § 554(4).
  An adjudication, in contrast to rulemaking, “means
agency process for the formulation of an order[.]” 5 U.S.C.
§ 554(7). Under the APA, all interested parties in an
adjudication must have the opportunity for “the sub-
mission and consideration of facts, arguments, offers
of settlement, or proposals of adjustment[.]” 5 U.S.C.
§ 554(c)(1). “Adjudications typically ‘resolve disputes
among specific individuals in specific cases, whereas
rulemaking affects the rights of broad classes of unspeci-
fied individuals.’ ” City of Arlington, Tex. v. F.C.C., 668 F.3d
229, 242 (5th Cir. 2012) (quoting Yesler Terrace Cmty. Counsel
v. Cisneros, 37 F.3d 442, 448 (9th Cir. 1994)). “[B]ecause
adjudications involve concrete disputes, they have an
immediate effect on specific individuals (those involved
in the dispute). Rulemaking, in contrast, is prospective,
and has a definitive effect on individuals only after the
rule subsequently applied.” Yesler Terrace Cmty. Counsel,
37 F.3d at 448.
 Here, the Decision has the hallmarks of an adjudication.
The Medicare Act provides that providers of services
No. 11-2809                                                45

contesting the amount of reimbursement due as deter-
mined by an intermediary may request a hearing before
the Board, and it further instructs that a Board
decision “shall be based upon the record made at such
hearing.” 42 U.S.C. §§ 1395oo(a), (d). The Decision
utilized the hearing procedures outlined in the Medicare
Act, it involved a concrete dispute between the parties
and had an immediate, concrete effect on the parties to
the dispute. Furthermore, the Decision did not affect a
broad class of unspecified individuals. See Yesler Terrace
Cmty. Counsel, 37 F.3d at 448. We therefore conclude
that the Decision was an adjudication.
  Furthermore, it is well-established that “[a]n agency is
not precluded from announcing new principles in an
adjudicative proceeding rather than through notice-and-
comment rule-making.” Negrete-Rodriguez v. Mukasey,
518 F.3d 497, 503 (7th Cir. 2008); see also City of Arlington,
Tex., 668 F.3d at 240. “Nor is there any basis for sug-
gesting that the Secretary has a statutory duty to promul-
gate regulations that, either by default rule or by specifi-
cation, address every conceivable question in the
process of determining equitable reimbursement.” Guern-
sey Mem’l Hosp., 514 U.S. at 96, 115 S.Ct. 1232. As
the Supreme Court has noted, the Secretary has issued a
set of comprehensive and detailed regulations, which
consume hundreds of pages of the Code of Federal Reg-
ulations. Id. “As to particular reimbursement details
not addressed by her regulations, the Secretary relies
upon an elaborate adjudicative structure which in-
cludes the right to review by the [Board], and, in some
instances, the Secretary, as well as judicial review in
46                                                No. 11-2809

federal district court of agency action.” Id. “The APA
does not require that all the specific applications of a rule
evolve by further, more precise rules rather than by
adjudication.” Id. In our view, the Secretary’s method of
determining that the Tax Assessments must be offset
by the Access Payments via an adjudication is a proper
exercise of her statutory mandate. See id.
  The Hospitals’ reliance on American Federation of Gov-
ernment Employees, AFL-CIO, Local 3090 v. Federal Labor
Relations Authority, 777 F.2d 751, 752 (D.C. Cir. 1985), is not
on point. There, the Federal Labor Relations Authority
(“FLRA”) dismissed a complaint and ignored the plain
language in regulations pertaining to when the filing
of exceptions stayed an arbitration award. American
Federation of Government Employees, AFL-CIO, Local 3090,
777 F.2d at 752-53. In vacating the FLRA’s order, the
District of Columbia Circuit reasoned that “[w]ere the
Authority’s approach proper, administrative agencies
could effectively repeal legislative rules and abandon
longstanding interpretations of statutes indirectly, by
adjudication, without providing affected parties any
opportunity to comment on the proposed changes, and
without providing any significant explanation for their
departure from established views.” Id. at 759. This is
simply not what happened here.
  The Hospitals also rely on Alaska Professional Hunters
Association, Inc. v. Federal Aviation Administration, where
the District of Columbia Circuit held that although an
agency may give its regulation an interpretive rule
without offering the opportunity for notice and comment,
No. 11-2809                                                47

“ ‘[o]nce an agency gives its regulation an interpreta-
tion, it can only change that interpretation as it would
formally modify the regulation itself: through the
process of notice and comment rulemaking.’ ” 177 F.3d
1030, 1033-34 (D.C. Cir. 1999) (quoting Paralyzed Veterans
of Am. v. D.C. Arena, 117 F.3d 579, 586 (D.C. Cir. 1997)).
But, Alaska Professional Hunters Association, Inc. conflicts
with the APA’s rulemaking provisions, which exempt
all interpretive rules from notice and comment, and
with our own precedent and is therefore not persuasive.
5 U.S.C. § 553(b)(3)(A); Metro. Sch. Dist. of Wayne Twp,
Marion Cnty., Ind. v. Davila, 969 F.2d 485, 488-89 (7th Cir.
1992) (noting that an interpretive rule “does not trigger
the APA’s notice and comment requirement”); Bd. of Trs.
of Knox Cnty. Hosp., 135 F.3d at 501 (noting that “an agency
is not bound by the APA’s procedural requirements
when announcing ‘interpretive rules, general statements
of policy, or rules of agency organization, procedure, or
practice’ ”); cf. Paragon Health Network, Inc., 251 F.3d at
1147 n.4 (declining to consider the District of Columbia
Circuit’s position expressed in Alaska Professional Hunters
Association, Inc., 177 F.3d at 1033-34, that an agency
must follow notice and comment procedures to change
a previous interpretation of a regulation).
  The Hospitals also argue that even if CMS’s change
in position were considered a non-substantive change in
interpretation, it is still arbitrary, and rely on Continental
Web Press, Inc. v. National Labor Relations Board, 742 F.2d
1087, 1093 (7th Cir. 1984). In Continental Web Press, the
Board had succeeded in developing a clear policy
through a course of adjudications “and to discard the
48                                             No. 11-2809

policy without explanation was arbitrary.” Id. at 1094.
Unlike Continental Web Press, however, here, a clearly
developed policy had not been created through a series
of Board opinions and therefore it is inapplicable. Indeed,
as we noted in Continental Web Press, where the Board
applies the common law technique to its adjudications,
“[f]inding distinctions is not reversing course; it is not
like first deciding that cars must be equipped with
airbags and then that they need not be; it calls for no
special explanation.” 742 F.2d at 1093.
  The Hospitals’ final argument is that the rule
announced cannot be retroactively applied. Because we
find that no such new rule was announced, however,
we decline to address this argument.


                   III. CONCLUSION
  For the foregoing reasons, we affirm the thoughtful
and carefully drafted opinion of the district court.




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