All Eyes On Physician-Hospital Arrangements

Lew Lefko, for HealthLeaders Media , January 24, 2008
Financial relationships between hospitals and physicians have come under scrutiny recently--due to a rise in whistleblowers reporting violations in hospitals and stricter enforcement of Stark Law, the anti-kickback statute, and the False Claims Act (FCA). This makes it more important than ever to conduct formal evaluations of "commercial reasonableness" and fair market value (FMV), which should be one of the first steps to demonstrating that agreements with and payments to physicians aren't going to lead to legal troubles.

Risk areas for hospitals abound--medical director and professional services/on-call agreements, space and equipment leases, employment agreements, management agreements, physician practice acquisitions, and other arrangements that may incur scrutiny of whether Medicare and Medicaid patients are referred in exchange for a fee.

Federal regulatory agencies and prosecutors are committed to protecting the integrity of the federal health programs and aim to prevent and punish improper financial relationships between hospitals and physicians that induce overutilization, adversely impact physicians' judgment, and/or result in funds being spent for unnecessary and expensive hospital services.

Begin with commercial reasonableness
When judging commercial reasonableness, agencies look to see that the arrangement is a sensible, prudent transaction or business situation that serves legitimate, reasonable, and necessary purposes. If your financial arrangement doesn't meet this basic test, there's no need to determine fair market value or take further steps to set up the arrangement.

To ensure your arrangements are ready, start by asking a few basic questions:

  • What is the specific purpose of the arrangement? Why is the item or service necessary from this physician? How do the items or services relate to business or clinical plans or strategies? Is the arrangement essential to the functioning of the hospital?
  • Is there a formal written contract or agreement addressing the terms of the arrangement?
  • Is the arrangement duplicative of other arrangements or requirements?
  • Is there a potential for fraud, waste, or abuse? What features, controls and/or safeguards exist to eliminate or reduce such risks?
  • Is there a formal process for executive management and legal counsel to review and approve the arrangement?
  • Is there monitoring and auditing to determine the item or service was actually provided or performed, the total amount spent for the items or service, and a demonstrable outcome resulting from the arrangement?
  • Is there a regular assessment or evaluation of the arrangement clearly showing the arrangement is effective and there is a bona fide need for continuing/renewing the arrangement?

For example, consider medical director agreements and how the government's expert in a recent case evaluated the hospital's justification of the arrangements. The expert used some of the following questions and answers to make a determination:

Do the size of the hospital, number of patients, patient acuity levels and patient needs support sound business reasons for the arrangement? A small facility (fewer than 35 beds) with a relatively low patient census should need only one medical director to cover medical direction, meet licensure requirements, physician staff needs and patient care requirements.

Are the medical staff officers and committees active and involved in the direction of the hospital, or are medical directors needed to supplement the medical staff's work? Duties and responsibilities of medical directors should not be the same or similar to active staff members' requirements under the medical staff bylaws. Medical directors should not be paid for meeting attendance or work that is commonly performed by active staff members.

How many hospital committees and meetings require physician attendance? Other than meetings of the entire medical staff, the medical staff/hospital committee meetings and other meetings should require only one medical director to attend. It is questionable why a hospital needs multiple medical directors to attend committee meetings when one medical director will suffice.

Is the need for medical directors warranted if the hospital is part of a hospital chain or system that has developed patient care protocols and mechanisms to coordinate disciplines at its other hospitals? The need for numerous medical directors is not warranted in hospitals that are part of a hospital chain or system that has effective patient care management and interdisciplinary coordination mechanisms.

Are ongoing assessments of medical directors' performance conducted, and are the assessments used to evaluate whether medical director agreements should be renewed or hours reduced? Approval of monthly time sheets is insufficient as an ongoing assessment of a medical director's performance. Oversight and evaluation are ineffective if the hospital does not react to a medical director's lack of compliance or absence of need for continuing his services.

Assess fair market value
If the arrangement is deemed commercially reasonable, it must also meet FMV requirements, which can be complicated due to the affiliation of the parties through referral relationships and their economic interests.

Stark directs hospitals and physicians to determine price or compensation as if bona fide negotiations were occurring by well-informed parties "who are not otherwise in a position to generate business for the other party." Hospitals and physicians are to consider contemporaneous comparable arrangements occurring in the market "where the price or compensation has not been determined in any manner that takes into account the volume or value of anticipated or actual referrals."

Now that CMS has repealed the hourly rate determinations that were deemed FMV, you can use any evidence that demonstrates comparability to other arms-length transactions in the market. Using external salary surveys of physician specialties remains a CMS-recommended method of FMV determination, as do independent valuations/appraisals. However, any comparables that involve physicians in a position to refer and/or take into account the value or volume of referrals will not serve as a valid comparable.

The OIG is prohibited from addressing whether a particular arrangement occurred at FMV, so it has dealt broadly with FMV issues. Suspect and disfavored compensation methods include:

  • Discounts below fully-loaded costs and discounts compared to prices given to others for similar items/services but where there was no potential for referrals.
  • Per patient, per order, "per click" and percentage-based compensation.
  • Availability of items/services from a non-referral source at a cheaper rate or under more favorable terms.
  • Direct or indirect ties between compensation and the amount of federal healthcare program reimbursement received.
  • Unreasonable, nonuniform or undocumented calculations.
  • Comparables based on distorted market rates; e.g., if all providers of the purchased item/services in the market are physicians.
  • Compensation not commensurate with physician's skill level and experience.
Hospitals may need to review their compliance documentation, controls and audits to verify they have complied with the FMV and commercial reasonableness tests of the Stark and anti-kickback laws. With new reporting responsibilities arising, hospitals should have the information on physician arrangements compiled to reduce the response burden.
Lew Lefko is a Dallas-based health law attorney for Haynes and Boone, LLP with more than 30 years of experience in health law and health planning. He may be reached at
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