The history of the Medicare reimbursement system, how it works, and issues related to fraud and abuse are discussed. The statutory charge of Medicare is to ensure adequate reimbursement through a Prospective Payment System (PPS) to cover the costs for providing a given service to Medicare beneficiaries. The PPS was introduced as a way to change hospital behavior through financial incentives that encourage cost-efficient management of resources. The system utilizes a rate of payment in which a hospital is paid a fixed amount that is expected to cover the costs of care while treating a typical patient in a particular diagnosis-related group (DRG). The PPS uses DRGs as payment categories and Major Diagnostic Categories (MDCs) for classifying the DRGs into similar groupings. One of the first steps in DRG assignment is identification of the principal diagnosis represented by an International Classification of Diseases, 9th Revision, Clinical Modification (ICD-9-CM) code. The secondary diagnoses (referred to as complications or comorbidities), presence or absence of surgery, age of the patient, and discharge status are the other pieces of information making up assignment of a specific DRG to a patient. A basic knowledge of the Medicare program will help in the understanding of how hospitals will be reimbursed for patient care, as well as how changes in Medicare payment may affect reimbursement. Medicare is one of the largest health insurance providers in the United States. A basic understanding of the Medicare system will provide valuable insights into Medicare reimbursement and the influence it has on a hospital's bottom line.