Diagnosis-related group (DRG)

A diagnosis-related group (DRG) is a way of classifying the costs associated with an inpatient hospital stay based on specific medical conditions. It is a classification system used within the fixed-payment models used by insurers and government programs such as Medicare, which provides health insurance to American senior citizens and some disabled individuals. DRGs are intended to help make healthcare more efficient and affordable. However, some people question whether DRGs encourage providers to cut corners in order to increase profits.

Overview

DRGs were developed in the 1970s as insurers and government payers sought ways to curb rising healthcare costs, although  their widespread federal adoption and implementation by Medicare occurred only by the 1980s. Instead of paying for each individual service and supply a patient receives while in the hospital, a DRG takes into account all of the usual costs for the procedure or care the patient receives and pays one set amount. The amount is adjusted based to some degree on relative costs in the area where the facility is located, secondary diagnoses, and the age of the patient.

The system is mainly based on the diagnosis code assigned to the condition the patient has, along with other factors such as secondary diagnoses, procedures, age, sex, and discharge status. Every diagnosis has a specific code. Every procedure, test, supply, or other medical service a patient receives also has a standardized medical code. When a patient is treated, their medical claim includes both diagnosis and procedure codes from standardized coding systems used by healthcare providers. In April 2025, the Centers for Medicare & Medicaid Services (CMS) added new International Classification of Diseases, Tenth Revision, Procedure Coding System (ICD-10-PCS) procedure codes that may affect how hospital cases are grouped into DRGs. After much study, medical experts were able to identify the procedures that most often occur when a patient is in the hospital for treatment of specific diagnoses as well as a fee for the average patient being treated for that diagnosis.

DRGs were designed as a way to control healthcare costs, reduce waste, and encourage efficiency. By identifying the average costs and paying hospitals based on that average, it was intended that people would get more equal care. A person having knee replacement surgery would receive the same tests, procedures, and supplies regardless of where the procedure was performed because the hospital was being paid based on the codes usually associated with the procedure. On the other hand, supplying uniform payments to providers would help even out what hospitals were paid for providing similar services. Payments are adjusted for geographic wage differences, so hospitals in higher-cost areas may receive higher reimbursements.

Since the payment is based on averages, providers make a profit on some patients and could conceivably lose money on others. For example, one person admitted because of appendicitis might spend a single day in the hospital, whereas another patient might have a complication that requires a three-day stay, yet the hospital will be paid the same. This has led to some speculation that hospitals rush people out in order to maximize their profits. To combat this, some insurance payers have instituted financial penalties if a patient is readmitted for a related condition within thirty days of their initial discharge. Some hospitals will discharge patients to an outpatient facility in order to open up a bed and increase profits. To combat this rush in care, in the DRG system, payments are made to the hospital only for the inpatient care (and not the entire amount). The payments for post–acute care providers, such as the rehab facility or home healthcare providers or agencies, are managed through a separate payment system.

When applied as intended, DRGs encourage hospitals to make careful decisions and use resources wisely. They also help ensure a certain standard of care for all patients, regardless of where they receive treatment. DRGs are meant to give hospitals an incentive to provide quality care in the most efficient way possible. Medicare also provides additional payments through programs such as the New Technology Add-On Payment (NTAP) to support hospitals that adopt new medical technologies.

Bibliography

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Davis, Elizabeth. "DRG 101: What Is a DRG and How Does It Work?" VeryWell, 11 Aug. 2024, www.verywell.com/drg-101-what-is-a-drg-how-does-it-work-3916755. Accessed 28 Mar. 2025.

"Design and Development of the Diagnosis Related Group (DRG)." Centers for Medicaid and Medicare Service, Oct. 2019, www.cms.gov/icd10m/version37-fullcode-cms/fullcode_cms/Design_and_development_of_the_Diagnosis_Related_Group_(DRGs).pdf. Accessed 28 Mar. 2025. 

"DRG Payment and the Use of Medical Technology." Princeton University, www.princeton.edu/~ota/disk3/1983/8306/830605.PDF. Accessed 14 Mar. 2026.

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Poland, Leigh. "2026 IPPS Expands MS-DRGs, Updates Quality Programs." MedLearn, 15 Sept. 2025, medlearn.com/2026-ipps-expands-ms-drgs-updates-quality-programs. Accessed 14 Mar. 2026.​

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"What is the ICD?" SEER Training, National Cancer Institute, 3 Dec. 2018, training.seer.cancer.gov/icd10cm/intro.html. Accessed 14 Mar. 2026.