Stark II, Phase II: Implications for Health Care Providers

Introduction and Background. On March 26, 2004, the Centers for Medicare & Medicaid Services ("CMS") published the second part of the final rule ("Phase II") implementing certain provisions of the federal physician self-referral prohibition or "Stark law." Phase II comes more than three years after "Phase I," and more than a decade after the original Stark law was amended and expanded in "Stark II". Phase II was published as an Interim Final Rule with 90-day comment period, and will be effective on July 26, 2004.

Phase II continues CMS's stated intent to interpret the Stark law's prohibitions narrowly and the exceptions broadly, and to provide "bright lines" relating to this highly complex law. It addresses statutory provisions not previously dealt with, creates new obligations and modifies select provisions of Phase I.

The Stark law essentially prohibits physicians from making referrals for certain health care services -- called "designated health services" ("DHS") -- to organizations with which the physician or a family member has a financial relationship. Unless an exception applies, a referring physician and the entity receiving the referral are prohibited from billing Medicare for the services, Medicare is prohibited from paying for the services, and refunds are required for payments already made. Stark law violations can also result in penalties (up to $15,000 per claim plus twice the reimbursement claimed, and $100,000 for schemes to circumvent the Stark law), False Claims Act liability and program exclusion. As a result, even relatively small dollar Medicare claims can result in big dollar losses.

The final rule has been awaited with significant anticipation and trepidation because Stark law issues can arise in a wide variety of settings and relationships. Phases I and II comprise more than 200 pages of Federal Register text addressing both high-level concepts and highly technical aspects of this complex law.

This article summarizes some of the Phase II final rule's implications for physicians, hospital and other health care providers.

Deals in Process and the Effective Date Conundrum. Phase II and its changes to Stark II will be effective July 26, 2004, yet Stark II has been the law of the land since 1995. As a result, nearly every physician, hospital and other health care entity that orders, delivers and bills for DHS has in place lease, service, employment and numerous other relationships that have been crafted to comply with the body law that existed before Phase II was published.

Because Phase II makes many significant changes to the body of rules governing Stark law compliance, existing arrangements developed based on pre-Phase II interpretations create a compliance conundrum for individuals and organizations that are subject to the law. Must providers now modify every arrangement that doesn't comply squarely with the new requirements of Phase II? The conservative answer is yes, given that the Stark law punishes even unintentional violations, but the magnitude of such an undertaking for many providers would be significant.

Relief for Temporary Non-Compliance. Because the Stark law imposes strict liability, significant penalties are possible even for mere "technical" violations. A technical violation could occur, for example, if a lease between a physician and hospital lapses, and the physician does not vacate the premises before a new lease is executed. Under these circumstances, the physician's referrals to the hospital would arguably be prohibited, and the hospital would be barred from billing or receiving Medicare payments involving the "tainted" referrals.

CMS released a new exception in Phase II for certain arrangements involving "temporary non-compliance" such as the example above. Under this new exception, an organization such as a hospital or a physician group may submit a claim or bill for DHS furnished as a result of an otherwise non-compliant referral for up to 90 days if:

• The financial relationship was fully compliant for 180 days immediately preceding the date on which the arrangement became non-compliant;
  
• The non-compliance was beyond the organization's control, and the organization promptly took steps to remedy the problem; and
  
• The relationship doesn't violate the anti-kickback statute or other federal or state laws and rules.

The practical utility of this exception has yet to be determined. It may only be used once every three years with respect to the same physician, and it cannot be used to exclude non-compliance with certain Stark law exceptions. Moreover, this new exception does not appear to provide protection where an organization newly discovers a financial relationship that was previously unknown.

Physician Recruitment. For hospitals, one of the most anticipated sections of Phase II is the exception governing physician recruitment arrangements. As expressed in the Stark law, this exception allows hospitals to pay remuneration to induce a physician to relocate to the hospital's geographic area and become a medical staff member. Both the 1995 final rule governing Stark I, and the 1998 proposed rule governing Stark II imposed additional requirements, including that the recruited physician must "relocate" to the hospital's geographic area.

The Phase II final rule adopts most of the requirements in the 1995 and 1998 provisions referenced above, but also elaborates on them and offers some new twists. Specifically, the Phase II recruitment exception can now be used by hospitals and Federally Qualified Health Centers ("FQHCs"), but not by other organizations such as physician practices (although medical group practices have other exceptions that can generally be used to promote recruitment goals).

Phase II clarifies that the recruit's medical practice, and not his/her residence, must be relocated. Under Phase II a recruit's practice will be deemed to have been relocated if its physical location is moved at least 25 miles, or if at least 75% of the recruited physician's revenues are provided to "new" patients who were not seen at the previous practice site. The geographic service area is defined as the lowest number of contiguous zip codes from which the recruiting hospital derives at least 75% of its inpatients. The recruitment exception has also been modified to clearly indicate that recruits cannot be prohibited from establishing privileges at a hospital other than the recruiting hospital.

The most significant change on the recruitment front is that the Phase II rule now provides a narrow exception for recruitment arrangements into existing medical practices. Since publication of Phase I in 2001, hospitals, physicians and medical practices commonly relied on regulatory "sleight of hand" interpretations under Phase I to allow recruitment deals with medical practices. Specifically, they would rely on Phase I's definition of what does and does not constitute an "indirect compensation arrangement" to allow recruitment support to be paid to a medical practice, without implicating the Stark law.

The physician recruitment provision under Phase II eliminates the ability to argue that the Stark law is not implicated, but now explicitly provides an exception for recruiting arrangements with medical practices. Specifically, Phase II now includes a narrow exception for compensation under recruitment arrangements that is paid to a physician other than the recruit, or to a medical practice. Key requirements of this practice-affiliated recruitment exception include:

• Written agreements executed by the recruit and the recipient of the payments (e.g., the other physician or the medical practice);
  
• Payments to the practice or physician other than the recruit are limited to the incremental costs incurred due to the recruited physician;
  
• No direct or indirect consideration of referrals in determining the amount of recruitment support;
  
• Prohibitions on the imposition of other restrictions (e.g., non-compete provisions) by the practice; and
  
• The recruitment arrangement must not violate the anti-kickback law.

In bottom line terms, when it comes to physician recruitment, Phase II clarifies some of the uncertainty that previously existed due to the absence of a final rule. It also provides an exception that can be relied upon to provide recruitment support through established medical practices.

Leases and Personal Service Agreements. The Phase II rule adopted most of the provisions of the 1998 proposed rule relating to space and equipment leases, and personal service arrangements. Importantly, the new rule incorporates provisions that arguably make the law a bit more forgiving, by allowing for holdover leases for up to six months after the lease's expiration. The new rule also allows for without cause termination clauses, provided no new arrangement is entered into for the remainder of the original (minimum one year) term.

Unfortunately, one of the uncertain provisions of the new rule in the context of leases relates to the requirement that the space or equipment must be used "exclusively by the lessee when used by the lessee." Phase II allows for sublease arrangements, but provides that "exclusive use" means that the lease cannot be shared with, or used by the lessor (or any person or organization related to the lessor) during the period in which the space or equipment is rented. If interpreted strictly, this requirement could present operational challenges to a variety of space and equipment arrangements, in particular given that the final rule also clearly allows for "shared facility" and "per click" type arrangements.

With respect to personal service arrangements, the final rule requires that the arrangement cover all of the services furnished by the physician or family member to the entity—thus retaining a requirement that many thought would be eliminated based on Phase I. Phase II attempts to mitigate the compliance challenge by allowing multiple agreements to incorporate each other by reference, or allow for a cross-reference to a master list. Nevertheless, this requirement will inevitably create some compliance challenges.

Medical Group Physician Compensation Plans. Phase II clarifies that medical group practices can pay physicians "productivity bonuses" for services that the physicians personally perform, and for services "incident-to" those services. The Stark law's statutory text has always allowed productivity bonuses for "incident to" services in group practices complying with the law's "in-office ancillary services" exception. However, conflicting language in the Phase I rule and preamble confused the practical application of this provision. CMS declined to specifically address this language in Phase II, but it did clearly reiterate that "incident to" credit can be provided in the context of group practice physician compensation plans involving productivity bonuses.

This clarification will be of significant value to medical groups that wish to provide direct productivity credit for outpatient prescription drugs and other services that are properly furnished "incident to" a physician's professional services. Note, however, that the new rule does not change the underlying requirements of Medicare relating to "incident to" services, and only certain types of services may be furnished on an "incident to" basis. This clarification will be helpful for group practices that derive significant revenues from infusion and similar services, but will be unwelcome news to those that provide direct production credit in compensation plans for the technical component of x-ray and other services that are neither delivered on an "incident" to basis, nor personally performed by the physician.

Productivity Bonuses. Phase II also clarifies the contexts and methods by which physicians can be paid "productivity bonuses." A clear distinction is drawn between productivity bonuses that may be paid to physicians in group practices under the Stark law's in-office ancillary services exception, and the productivity bonuses that can be paid in the context of other relationships.

Phase II prohibits the consideration of "incident to" services in determining and paying compensation to physician employees or independent contractors unless they are in a group practice that complies with the law's exception for in-office ancillary services discussed above. Outside of this limited context, employee and independent contractor physicians can only be compensated for services that they "personally perform."

When are Services "Personally Performed"? This concept is relevant not only to the payment of productivity bonuses but also to the threshold issue of whether a "referral" of DHS has occurred to trigger the Stark law in the first instance.

In Phase I, CMS requested industry comments regarding whether, for purposes of the law, the concept of "personally performed" services could (or should) be expanded to include services furnished by persons other than the physician him or herself. In Phase II, however, CMS adopted a literal interpretation that "personal performance" means the efforts of the physician and no one else.

When is Compensation "Set in Advance"? Many Stark law exceptions, including the personal service and lease exceptions, require that compensation be "set in advance." In Phase II, CMS eliminated a controversial provision of Phase I stating that percentage-based compensation arrangements are not "set in advance." It bowed to industry pressure and clarified that employees, independent contractors and certain other physicians can, under certain circumstances, be paid on a percentage of revenues or collections basis without violating the law. This will come as welcome news to many hospitals and academic practices that used percentage-based methods to determine physician pay levels. Importantly, however, even compensation that is "set in advance" must meet other applicable requirements including, for example, that the compensation must be fair market value and not determined by a formula that directly or indirectly considers the volume or value of DHS or other business between the parties.

What is "Fair Market Value"? Phase II defines a "safe harbor" approach to the determination of fair market value hourly pay rates for physician services. Under this new approach, an hourly payment for a physician's personally performed services will be deemed to be fair market value if the rate is either:

• Less than or equal to the hourly rate for emergency room physician services in the market (provided there are at least three emergency rooms in the market), or
  
• Less than or equal to an hourly rate calculated based on the average of median market-based compensation values reported in national compensation surveys for the subject specialty.

Under the second method, the average of median compensation values from four compensation surveys is divided by 2000 to yield a presumptive or "safe harbor" hourly rate.

This new hourly service safe harbor approach will likely have significant implications for medical director and similar services that are commonly paid on an hourly basis. Compliance with the safe harbor methods is not required, but because a safe harbor from this strict liability statute now exists for hourly rates, many providers are likely to adopt the negotiation position that the safe-harbor methods must be followed. Where a particular provider stands on this issue will likely depend on their current arrangements. Use of the market-based method could result in higher compensation for some physician specialties that garner relatively high annual compensation levels (i.e., cardiology and certain surgical specialties). However, physicians on the other end of the earnings scale (i.e., primary care) may find it difficult to prevent a pay cut.

Other Changes. Other important changes in Phase II with implications for physicians, hospitals and other health care organizations include the following:

• Modifying several categories of DHS to include services that were not previously defined as DHS and were not subject to the Stark law's prohibitions. For example, effective July 26, 2004, dexascan services and certain additional physical therapy services are defined as DHS.
  
• Providing a new, narrow exception for "professional courtesy" to allow for the provision of certain free or discounted health care items or services.
  
• Making changes to the "same building" requirements of the Stark law's definition of a bona fide "group practice" to eliminate the use of potentially abusive office sharing arrangements under the Phase I "same building" definition.
  
• Clarifying the use of unit-based compensation arrangements in a variety of settings.
  
• Changing provisions of the Phase I rule to narrow the circumstances under which an employer can require physician referrals.
  
• Clarifying provisions of the exception for academic medical centers which, when combined with changes to the "set in advance" provisions outlined above, make the exception of greater utility to universities, faculty practice plans and teaching hospitals.
  
• Providing additional clarification for other exceptions, including those governing implants in ambulatory surgical centers, exceptions for dialysis-related drugs furnished in an end stage renal disease ("ESRD") facility, and the exception for preventive screening tests, immunizations and vaccines.
  
• Creating new exceptions to allow for "intra-family referrals" in rural areas, to enable physicians to make referrals to spouses or other immediate family members in narrow circumstances.
  
• Establishing an exception to allow for charitable donations by physicians.
  
• Making revisions to existing exceptions relating to non-monetary compensation up to $300, and medical staff incidental benefits.
  
• Creating new exceptions that incorporate certain anti-kickback safe harbors, including those relating to referral services and obstetrical malpractice insurance subsidies, and a new exception to allow for community-wide information systems.
  
• Providing for limited physician "retention payments" by hospitals and FQHC's in Health Professional Shortage Areas under narrow circumstances.

Implications.

For individuals and organizations that furnish health care services, Phase II provides much needed clarification of the regulatory landscape relating to an important law. For better or worse, Phase II now provides a definitive framework that can and must be used to guide the structure of various business and other relationships involving physicians, hospitals and other health care organizations. This surely will result in some modification of existing relationships, as well as some potentially tough discussions regarding relationships established in the future. Moreover, now that a complete final rule exists, many observers believe that the enforcement effort -- whether by the government or by qui tam whistleblowers -- is likely to follow close behind.