BACKGROUND: Adjustment for differing risks among patients is usually incorporated into newer payment approaches, and current risk models rely on age, sex, and diagnosis codes. It is unknown the extent to which controlling additionally for disease severity improves cost prediction. Failure to adjust for within-disease variation may create incentives to avoid sicker patients. We address this issue among patients with chronic obstructive pulmonary disease (COPD). METHODS: Cost and clinical data were collected prospectively from 1202 COPD patients at Kaiser Permanente. Baseline analysis included age, sex, and diagnosis codes (using the Diagnostic Cost Group Relative Risk Score) in a general linear model predicting total medical costs in the following year. We determined whether adding COPD severity measures-forced expiratory volume in 1 second, 6-Minute Walk Test, dyspnea score, body mass index, and BODE Index (composite of the other 4 measures)-improved predictions. Separately, we examined household income as a cost predictor. RESULTS: Mean costs were $12,334/y. Controlling for Relative Risk Score, each (1/2) SD worsening in COPD severity factor was associated with $629 to $1135 in increased annual costs (all P<0.01). The lowest stratum of forced expiratory volume in 1 second (<30% normal) predicted $4098 (95% confidence interval, $576-$8773) additional costs. Household income predicted excess costs when added to the baseline model (P=0.038), but this became nonsignificant when also incorporating the BODE Index. CONCLUSIONS: Disease severity measures explain significant cost variations beyond current risk models, and adding them to such models appears important to fairly compensate organizations that accept responsibility for sicker COPD patients. Appropriately controlling for disease severity also accounts for costs otherwise associated with lower socioeconomic status.