OBJECTIVES: To examine the variation in outlier payments across U.S. hospitals and the extent to which the variation is explained by patient and hospital factors, including quality of care. METHODS:   Using the National Medicare Claims database for 2002, we examined outlier payments in patients undergoing coronary artery bypass grafting (CABG) (n=165,226), lower extremity bypass surgery (n=43,886) and colectomy (n=101,345).  We then categorized hospitals performing these procedures according to their outlier payment rates. Using multiple logistic regression, we explored the relationships between hospital outlier payment rates, patient case mix and hospital quality, as reflected by risk-adjusted mortality rates. RESULTS:   For all three procedures, the proportion of patients associated with outlier payments varied from 10% (colectomy) to 14% (CABG). Average outlier payments were considerable, ranging from $18,000 to over $24,000 per patient. The most consistent risk factors for outlier payments included race and admission acuity. Higher hospital and surgeon volumes and teaching status were associated with lower rates of outlier payments. There was a negative correlation between risk-adjusted mortality rates and outlier payments. For all three procedures, the proportion of outlier payments varied widely across hospitals from less than 5% to greater than 20%. Measurable patient and hospital factors explained a small proportion of variation across hospitals. CONCLUSIONS: Outlier payments are an important component of medical costs for inpatient surgery. Although explained in part by quality, the reasons for a wide variation in outlier payments across hospitals remain to be clarified.