Sources and Math Underlying the Penalties

Table A. Readmission Penalties, Paid by Hospitals, for Six Conditions

Column A. Each "Penalty" is the cost of Initial Treatment in Column B multiplied by the US ratio of admissions to readmissions (Column D). 

1. A Congressional agency, MedPAC, confirms that the penalty per excess readmission [Col A]= "Payment rate for the initial DRG [Col B] ... ×  [Col D] 1 / national readmission rate for the condition" (p.99). 
   
2. The law and Medicare's explanation have more complex wording, but are equivalent to this multiplication. An example is in this spreadsheet.
3. Congress told Medicare how much to penalize hospitals which have "excess" readmissions, and told Medicare to decide which treatments would face penalties. Medicare chose to apply penalties to the conditions in Table A (see timing). "Excess" readmissions means above the US average, adjusted for patient mix. 

Column B. The "Average Base Payment" is an average of Medicare's detailed payments, by diagnosis from October 2012 to September 2013 (FY 2013). There are different payment levels for patients with and without other unrelated illnesses, and the average payment here is weighted by the number of patients having each payment level.

Column C. "US Average Readmissions" above were updated in Hospital Compare 16 July 2015. (The rule published 31 July 2015 no longer includes these rates as in previous years.)

1. Unscheduled readmissions of Medicare patients, for almost any reason at most Medicare and VA hospitals count in the readmission rate of the hospital where the initial visit happened.
2. Penalties are only charged at hospitals with 25 or more admissions for a condition
3. Some types of admissions are excluded, which exempts them from penalties.

Column D. "US Ratio of Admit to Readmit" is one divided by Column C.

1. American Hospital Association thinks penalties are so large that using Admit as the numerator must be a "technical error" (p.4), but they agree that is what the law says. 

Column E. "Each Condition" is the total of Medicare's counts of admissions, by diagnosis

Note F. Medicare does not provide as much detail as this table, but its data support an estimate of $52,000 average penalty per excess readmission in 2016, $36,000 in 2014 and $40,000 in 2013:

1. $227 million total penalties in 2014, divided by 6,300 excess readmissions per year, since there were 18,902 total penalties in the 3 base years they show
2. $280 million total penalties in 2013, divided by 7,000 excess readmissions per year--20,947 in 3 years shown
3. Difference  between 2013 and 2014 is budget inaccuracy, not real change
4. $420 million total penalties in FY2016 (p.2064), divided by 8,051 excess readmissions per year -- 24,153 in 3 years shown (at 2,666 hospitals, p.2064)

Note G. Medicare adjusts readmission rates for patient mix at each hospital, to level the playing field, but the adjustments have a very poor fit, explaining only 3-5% of the variation in readmissions.

Note H. MedPAC looked at the multipliers (shown in Column D), and recommended the law should change to: 

1. Make all the multipliers 1, not 4 to 21, so each penalty would be smaller, but 
2. Set the standard at fewer readmissions than the national average.
3. If MedPAC's recommendation is adopted, more hospitals and more readmissions would be penalized, and total penalties would be the same (p.101). 
4. With Congress polarized on the healthcare law, amendments seem unlikely.

Note I. Medicare has an interesting map of readmission rates by county and race. Choose readmissions under "measure."