Today's regulatory environment poses risks and challenges to hospitals and the physicians who serve them.
Many hospitals throughout the country are struggling financially due to a confluence of several factors, including, most notably: a new reimbursement structure which rewards a decrease in hospital utilization and penalizes re-admission; the usage of bundled or capitated rates; and the shift toward community and clinic-based chronic care management. Naturally, for any hospital, maintaining relationships with physicians is essential to preserving a hospital's viability. Likewise, physician groups have an incentive to support the continued sustainability of their local facility. These two salient facts provide a basis for a new economic model for how hospitals can deliver effective and cost efficient medical services. Legal challenges exist, but the obstacles are surmountable with deft legal structuring.
Co-Managed Hospitals
A potential solution to the problem is for hospital owners to consider managing a facility jointly with a physician-led management group. Hospitals which are co-managed by physician-led organizations and healthcare executives have shown a propensity to manage care and services more efficiently and effectively. Although such management relationships can produce profitable, effective and efficient care, the arrangements are also fraught with legal risks and liability for both the hospital and the physician-managed group.
Co-managed facilities can, by agreement, assign tasks in myriad ways, but one would expect to see direct involvement of hospital management (perhaps at the board or C-suite level), as well as an agreement with a Physician-led group. The hospital facilitates physician management by setting up a separate management services organization (MSO) owned by a doctor. Often, the owner of the MSO owns a physician group that is also currently or expected to be tasked with staffing and covering hospital services. This presents both the hospital and the MSO with some challenges as the arrangement implicates the federal Anti-Kickback Statute (AKS), Stark Law and the False Claims Act (FCA). These Federal Statutes are pertinent because there is potential for the physician owner of the MSO to promote increased hospital utilization by his physician group in order to improve revenues and profitability and thereby increase the MSO's perceived management value (including a higher management fee). The management company, as a creditor, will also want to ensure revenues are available from inpatient and outpatient hospital services in order to collect its management fee. To meet these potential challenges it is necessary for hospitals and MSOs to insulate themselves from liability by seeking legal advice.
Fair market value
Hospitals and MSOs should structure agreements to fit cleanly into a federal AKS safe harbor or Stark Law exception. It is particularly important to prospectively evaluate fair market value (FMV) when an arrangement is being negotiated, as opposed to having an analysis prepared to justify an existing agreement. Safe harbor protections will not likely be available where a hospital and MSO have failed to determine FMV before an agreement.
The IRS cares too
Complying with a safe harbor provision or exception is not enough. In light of a hospital's probable nonprofit status, the parties must also comply with applicable IRS regulations. Revenue Procedure 97–13 ("RP 97-13") governs the provisions of co-management agreements, including structuring management fees; length of term of the agreement; and termination. A hospital's failure to adhere to RP 97-13 would impair its 501(c)(3) status and associated benefits nonprofits receive with Medicare and Medicaid rates. Further complicating matters, the IRS adheres to conventional theories of FMV interpretation and management fee structure, which differ from methods used by the federal authorities concerned with healthcare kickbacks and Stark. Any agreement should carefully coordinate these competing definitions.
Financing the hospital
A potential advantage to a co-managed hospital is the ability of the MSO to lend money to the hospital under a one-time loan payment memorialized by a promissory note or through a line of credit or similar on-demand financing. Such funding can provide financial stability to the hospital. It would be challenging for such a loan to meet a Stark exception, as it is not evident that the government views a secured financing attributable to physicians as an ownership interest in the hospital. The financing could also be unsecured, which creates its own business and legal issues. If the loan is unsecured its structure must adhere to an existing compensation exception for the loan. The criteria used to determine the exemption include; (i) return on the investment should be set in advance in accordance with Stark Law standards and (ii) should be made pursuant to a negotiable promissory note, or be subject to a similar mechanism to ensure payment even in the event of default or hospital bankruptcy.
Third party guaranty
The repayment of the loan, however, can be guaranteed by a third party, such as the hospital's district if appropriate under the circumstances. The parties to and terms of such a guaranty would need to be analyzed, as a guaranty creates a compensation arrangement between the guarantor and the debtor which may itself be subject to AKS and Stark analysis.
Commercial reasonableness
Even where there are no referrals made to the hospital by the related physician group, the parties must demonstrate that the loan is commercially reasonable. Where there is already existing financing due to the hospital being severely leveraged, any subordinated unsecured financing could be determined not to expect an actual return and be classified as a substantial monetary gift to the hospital. A reasonable expectation of repayment under the financing must be demonstrated. If management cannot wholly achieve profitability through more efficient management and cost reduction, there is a temptation to increase admissions and the provision of services by leveraging the physician group relationship and referral-based marketing arrangements. It is this incentive that leads many hospitals and physician groups to run afoul of the law.
Cost containment
Another significant question is whether any price containment measures would result in a productivity bonus to the MSO. So-called "gainsharing" would be at issue under both AKS and Stark. The term typically refers to an arrangement in which a hospital offers to share with individual physicians a portion of the cost savings achieved by the hospital in the provision of patient care services that are attributable, at least in part, to the efforts of physicians. Gainsharing can be accomplished if certain safeguards are instituted. For example, the parties should implement policies meant to hedge against underutilization contrary to the medical indication.
Financing advanced imaging equipment
In some instances, a hospital may want assistance acquiring an MRI or other advanced imaging equipment, and it seems a natural fit for the group to participate in the financing. A physician group may view its funding as a "win-win" since it will want to use the equipment for its private practice. To share the equipment in its private practice, an independent physician practice would have to comply with certain Stark law exception criteria that necessitate that it render non-Stark law related services on a regular basis in the same building as the equipment. While this requirement can be met, one major obstacle is the need for a physician group to rent the equipment from the hospital. For example, block periods of exclusive use by the practice could not be safely established if the hospital would need ready and immediate access to the machine in the event of a patient emergency.
Throughout Stark's regulatory history, regulators, commentators, and practitioners have grappled with which Stark exception should apply to timeshare arrangements - in particular among groups and hospitals. Case history opened up the possibility of a shorter term block lease of equipment where a licensor of equipment was not ordering or referring tests the licensee performed. However, the government recently established an express timeshare exception to Stark for physician groups, allowing the use of shared space with a hospital for E&M services and certain associated diagnostic testing. Unfortunately, it mandated as part of the exception that the equipment cannot be advanced imaging, radiation therapy, or clinical or pathology laboratory equipment (other than for CLIA-waived laboratory tests) which strongly suggests that the government would enforce Stark against a shared use MRI, CT or PET arrangement that does not have a reasonable period of exclusive practice use.
A balancing act
Rural hospitals and MSOs have an opportunity to create a new working model for financially sound hospitals by co-managing the facilities. The benefits of streamlining management and eliminating inefficiency are great, but the dangers of opening oneself up to liability are considerable. The ability to increase effective care with more efficient utilization rests on the parties' abilities to navigate the regulatory minefield of medical reimbursement. With proper legal advice and structure, both hospitals and physicians can safely reach the other side with the knowledge they have properly served their communities.
Mark H. Zafrin
Mark Zafrin leads Michelman & Robinson, LLP's (M&R's) Health Care Transactional Practice Group. With over 30 years of experience, Mr. Zafrin advises a vast array of health care providers on regulatory compliance, response to civil investigations and enforcement, and health care business matters. He can be reached at mzafrin@mrllp.com.
Michael Hatchett
Michael Hatchett represents M&R's Corporate & Securities Department. He focuses on corporate transactions, including private placements, mergers and acquisitions, joint ventures, real estate investments, and debt and equity financing transactions. He can be reached at mhatchett@mrllp.com.
Ron Lebow
A member of M&R's Health Care Department, Ron Lebow focuses his practice on business, contract, corporate and regulatory matters. He has extensive experience drafting and negotiating agreements and structuring operations and business arrangements for ambulatory surgery centers, urgent care centers, hospitals and clinical laboratories. He can be reached at rlebow@mrllp.com.