Stark II, Phase III: And Still More To Come!

On August 27, 2007, The Centers for Medicare and Medicaid Services (CMS) released the third phase of rulemaking to amend the regulations implementing the Ethics in Patient Referrals Act, commonly known as "Stark." This Phase III Final Rule (Phase III) was published on September 5, 2007 and will become effective 90 days later, on December 5, 2007. In publishing Phase III, CMS both responds to public comments on Phase II and addresses the entire regulatory scheme.

Although CMS states that Phase III "addresses many of the industry’s primary concerns," Phase III is not the last we will experience in the world of Stark change. CMS states in Phase III that further rulemaking will be undertaken in several areas discussed in this rulemaking. Recent agency proposals include significant provisions affecting physician ownership of hospitals and various terms of Stark compensation exceptions. CMS has yet to address (as promised in Stark II) the applicability of Stark to Medicaid. Other pending proposals address reassignment of Medicare payments and the structuring of independent diagnostic laboratory testing ("IDTF") facilities, which likely will impact Stark. While further change is likely, this article will focus on the most important changes wrought through Phase III.

The original Stark self-referral prohibition was enacted in 1989 with the purpose of prohibiting physicians from referring patients for laboratory services to entities in which they had a financial interest. The self-referral ban, referred to as "Stark I" after Representative Pete Stark who introduced the legislation, went into effect on January 1,1992. In 1993, the Stark I ban was changed to expand its reach to Medicaid beneficiaries and to additional "designated health services" (DHS) considered to be particularly susceptible to overutilization as a result of physician financial interests ("Stark II"). DHS include clinical laboratory services; physical therapy services; occupational therapy services; radiology services (including MRI, CAT scans, and ultrasound services); radiation therapy services and supplies; durable medical equipment and supplies; parenteral and enteral nutrients, equipment and supplies; prosthetics, orthotics, and prosthetic devices and supplies; home health services; outpatient prescription drugs; and inpatient and outpatient hospital services. The Stark II ban also prohibits entities from making a claim for payment under the Medicare or Medicaid programs for the provision of DHS furnished pursuant to a prohibited referral.

The first phase of Stark II final regulations was issued on January 4, 2001. Phase I of the Stark II rulemaking did not address all of the provisions set forth in the Stark II law, and it was intended that a second phase of the rulemaking would be published to address those provisions. Phase II of the final Stark II rules was issued on March 26, 2004 as an Interim Final Rule with comment period. Phase II addressed the provisions in the Stark law not addressed in Phase I of the rulemaking process and covered additional regulatory definitions, new regulatory exceptions, and responses to the public comments on Phase I regulations. Although it was intended that Phase II would address referrals for Medicaid covered services, in the interest of expediting publication of Phase II, with one exception (for prepaid health plans) CMS reserved the Medicaid issue for future rulemaking. The Phase I and the Phase II rules were intended to be read together.

The recently issued Phase III finalizes and responds to comments received regarding Phase II. The following are the key changes and clarifications published in Phase III.

The Stark II self-referral ban prohibits physician referrals of Medicare or Medicaid beneficiaries for DHS to entities with which they or members of their immediate family, have a financial relationship, unless the relationship satisfies the requirements of a statutory or regulatory exception. Over the history of this complex scheme, more than thirty exceptions have been defined, many of which are themselves complicated and arguably ambiguous in their terms and their application. The changes published in Phase III do not create new exceptions not otherwise found in the statute or the existing Stark II rules. Phase III does, however, revise the requirements for certain exceptions, in some cases substantially narrowing the scope of certain exceptions.

Phase III implements significant changes to the physician recruitment exception. The physician recruitment exception is designed to protect certain remuneration that is provided by a hospital to a physician as an inducement for the physician to relocate his or her medical practice into the "geographic area served by the hospital". Several changes were made to the exception, as follows:

• Group practices may now impose practice restrictions upon recruited physicians, provided the restrictions do not "unreasonably restrict" the recruited physician’s ability to practice in the "geographic area served by the hospital".

• The "geographic area served by the hospital" definition has been changed so that this area may include noncontiguous zip codes if the hospital draws fewer than 90 percent of its inpatients from all of the contiguous zip codes from which it draws inpatients.

• Groups in a rural area or a health professional shortage area ("HPSA") that recruit a physician to replace a retired, deceased, or relocated physician may either allocate the costs attributed by the recruited physician based upon (1) the actual additional incremental costs or (2) the lower of a per capita allocation or 20 percent of the practice’s aggregate costs.

• Rural hospitals may recruit physicians into an area outside of the "geographic area served by the hospital" if the Secretary determines in an advisory opinion that the area has a demonstrated need for the physician.

• The exception now applies to rural health clinics in the same manner as it applies to hospitals and federally qualified health centers.

• Certain physicians are now exempt from the relocation requirement. Recruited physicians will be exempt from the relocation requirement if they were employed full time by a federal or state bureau of prisons (or similar agency), the Departments of Defense or Veterans Affairs, or facilities of the Indian Health service. The new exemption only applies if the physician did not maintain a separate private practice in addition to the full-time employment. Physicians may also be exempt from the relocation requirement if the Secretary deems in an advisory opinion that the physician has not established a medical practice.

Additionally, CMS clarified that the provisions of this exception applicable to physicians recruited to join an existing practice do not apply when the recruited physician is just co-locating or sharing space with an existing practice and does not join the practice.

Phase III modifies the exception for retention payments made to physicians in underserved areas in several respects, including expanding the exception by permitting certain retention payments in the absence of a written recruitment offer, adding flexibility for retention payments to physicians who serve underserved areas and populations, and allowing rural health care clinics to make retention payments.

• No Written Offer - Phase III revises the exception to permit a hospital, rural health clinic, or federally qualified health center to offer assistance to a physician who does not have a bona fide written offer of recruitment or employment, if the physician certifies in writing that he or she has a bona fide opportunity for future employment which would require relocation of his or her medical practice at least 25 miles to a location outside of the geographic area served by the hospital, rural health clinic, or federally qualified health center. In circumstances in which the physician provides written certification instead of a bona fide written offer, the retention payment may not exceed the lower of: (i) an amount equal to 25 percent of the physician’s annual income; or (ii) the reasonable costs the hospital would otherwise have to expend to recruit a new physician. If the physician has a written offer, the hospital, rural health clinic, or federally qualified health center may match the offer.

• Physicians in Underserved Areas - Phase III further expands the exception to permit retention payments that otherwise satisfy the requirements of the exception when: (i) the physician’s current medical practice is located in a rural area, a HPSA, or an area or demonstrated need determined by the Secretary in an advisory opinion; or (ii) at least 75 percent of the physician’s patients either reside in medically underserved area or are members of a medically underserved population. The location of the hospital in a HPSA is no longer a requirement under the exception.

Phase III includes new provisions addressing compensation arrangements in which a group practice (or other "physician organization," as newly defined in Phase III) is directly linked to the physician in a chain of financial relationships between the referring physician and a DHS entity. For purposes of determining whether a physician has a direct or indirect financial relationship with a DHS entity to which the physician refers, under Phase III the physician will now "stand in the shoes" of his or her physician organization. Effectively, Phase III collapses financial relationships between a DHS entity and a physician organization into direct compensation relationships between that DHS entity and each of the physicians who are members, employees or independent contractors of the physician organization. In all such cases, therefore, the indirect compensation exception would no longer apply.

CMS recognizes that many existing arrangements which have been properly structured to comply with the indirect compensation arrangements exception, and is therefore exempting existing indirect compensation arrangements that were (i) entered into prior to the publication date of Phase III and (ii) met the indirect compensation arrangements exception at the time of the Phase III publication date. Such exempted arrangements may continue to use the indirect compensation arrangement exception during the original or current renewal term of the agreement; however, any new agreement or renewal must meet an exception for direct compensation arrangements.

These Phase III changes to the analysis of direct and indirect compensation relationships further complicate the regulatory treatment of indirect relationships that CMS has been changing over the entire course of the Stark II rulemaking. CMS states that these Phase III revisions were needed to close an inadvertent loophole under the prior rules, insofar as certain financial arrangements between a DHS entity and a group were not covered under the definitions of either direct or indirect financial relationships. This is important since many practitioners have relied on this analysis, particularly in structuring complicated financial transactions where compliance with exceptions such as personal services and leasing arrangements is not feasible or clear. In light of these Phase III changes, review of existing relationships that may have relied on an indirect compensation analysis will be required to assure compliance within the required time frame.

Phase III modifies the personal service arrangements exception to include a provision which permits a holdover personal service arrangement (services provided after the term of the contract expires) for up to six months for arrangements that otherwise meet the requirements of the exception. This provision is similar to the Phase II holdover provisions which are permitted in the exceptions for office space and equipment leases.

Phase III revises language in the academic medical exception to clarify that the total compensation from each academic medical center component to a faculty physician must be set in advance and not determined in a manner that takes into account the volume or value of the physician’s referrals or other business generated by the referring physician within the academic medical center. Additionally, CMS added language to provide that for purposes of determining whether the majority of physicians on the medical staff of a an academic medical center hospital consists of faculty members, the affiliated hospital must either include or exclude all individuals holding the same class of privileges at the affiliated hospital. Further, Phase III indicates that required documentation of the relationship among the components of an academic medical center may be set out in one or more written agreements or documents adopted by the governing body of each component.

As part of Phase II, CMS created a voluntary "safe harbor" provision within the definition of "fair market value" applicable to hourly payments to physicians for their personal services. Phase III eliminates that safe harbor, which was based upon reference to certain compensation surveys. This safe harbor had been derided by numerous commenters as impractical since some of the cited sources are no longer available and some are accessible only for a fee. Elimination of the safe harbor practically means that parties to a transaction must ensure that they calculate fair market value using a commercially reasonable methodology that is appropriate under the circumstances and otherwise fits within the Stark definition of fair market value.

Phase III amends the exception for fair market value compensation paid for items and services furnished by physicians to permit its application not only to arrangements involving payments to physicians from DHS entities, but also to arrangements involving payments to DHS entities from physicians. CMS notes that this expansion of the fair market value exception will effectively require in arrangements involving payments made by physicians that the parties to rely on the fair market value exception rather than the exception for payments by a physician (which cannot be used if another exception applies and is disfavored by CMS). CMS notes that the fair market value exception cannot be relied upon for arrangements for the rental of office space; rather, office space arrangements must be structured to meet the rental of office space exception.

In Phase II, CMS stated that the definition of "referral" excludes services personally performed by the referring physician. In response to several commenters who requested clarification on whether certain types of services can be personally performed by the referring physician, eliminating the need to meet a Stark exception, CMS noted that there are few, if any, situations in which a referring physician could personally furnish durable medical equipment ("DME"), because doing so would require the physician to be enrolled in Medicare as a DME supplier and personally perform all of the duties of a supplier. CMS believes that it is highly unlikely that a referring physician would meet the criteria for personally performed services when dispensing DME, including (in a comment perhaps aimed at sleep lab arrangements) continuous positive airway pressure equipment ("CPAP"). CMS also notes that CPAP is DME that does not qualify for the in-office ancillary services exception.

CMS has revised the definition of "ownership interest" to exclude a security interest held by a physician in equipment sold by the physician to a hospital and financed through a loan from the physician to the hospital. In the past, this security interest would have created an ownership interest in part of a hospital, and thus would have been considered a prohibited financial relationship. CMS notes that while a security interest no longer creates an ownership interest under these circumstances, this security interest will be considered a compensation arrangement between the physician and hospital requiring that the arrangement meet an appropriate exception.

In Phase I, CMS established an exception to protect non-monetary compensation provided to physicians up to $300. Phase III makes two changes to the exception by: (i) allowing physicians to repay certain excess nonmonetary compensation within the same calendar year to preserve compliance with the exception; and (ii) allowing entities without regard to the $300 dollar limit to provide one medical staff appreciation function for the entire medical staff per year. In order to take advantage of the excess nonmonetary repay provision, the value of the excess compensation cannot be more than 50 percent of the annual limit and the physician must return the excess amount by the end of the calendar year in which it was received or within 180 days after received, whichever is earlier. Further, this new provision only applies to situations in which the entity inadvertently provides excess nonmonetary compensation to the physician.

Phase III modifies the professional courtesy exception by deleting the requirement that an entity notify an insurer when the professional courtesy involves the whole or partial reduction of any coinsurance obligation. However, CMS notes that such notification is prudent, and insurers may require such notification. Phase III also modifies the exception to clarify that it applies only to hospitals and other providers with formal medical staffs, and not to suppliers, such as laboratories or DME companies.

In Phase II CMS created a new exception for certain referrals from a referring physician to his or her immediate family member or to a DHS entity with which the physician’s immediate family member has a financial relationship. In part, the exception required that the patient reside in a rural area and that there is no other person or entity available to furnish the referred DHS in a timely manner at the patient’s residence or within 25 miles of the patient’s residence. Phase III modifies the exception to include an alternative distance test based on transportation time (45 minutes) from the patient’s residence. This new alternative test requires a case-by-case analysis of the conditions that exist at the time of the referral. CMS recommends that physicians choosing to rely upon this 45-minute alternative transportation test maintain documentation of the information used for determining transportation time.

Phase III amends the compliance training exception to cover compliance training programs that involve CME credit, provided that compliance training is the primary purpose. CMS states that the revised exception does not protect traditional CME content under the guise of compliance training.

Addressing arrangements in which space is shared under the in-office ancillary services exception, CMS states that physicians sharing a DHS facility in the same building must control the facility and the staffing at the time the DHS is furnished to the patient. CMS points out that this necessitates a block lease for the space and equipment used to provide the DHS. CMS also notes that per-use or per-click fee arrangements, common under Phase II, are unlikely to satisfy the supervision requirements of the in-office ancillary services exception and may implicate the anti-kickback statute. Further, according to CMS, part-time, shared, off-site facilities (such as so-called "pod" laboratories) are readily subject to abuse. CMS will be addressing this potential for abuse in a separate rulemaking.

CMS now states that overall profit shares cannot relate directly to "incident to" services. Due to confusion expressed by many commenters, in Phase III CMS revised the definition of group practice to make clear that productivity bonuses can be based directly on "incident to" services that are incidental to the physician’s personally performed services, even if those "incident to" services are otherwise designated health service (DHS) referrals. For example, a physician can be paid a productivity bonus based directly on physical therapy services provided "incident to" his or her services. However, the productivity bonus cannot be directly related to any other DHS referrals, such as diagnostic tests. Further, although in Phase II CMS stated that overall profit shares could relate directly to "incident to" services, CMS now states that its previous interpretation is inconsistent with the statutory language, which includes "incident to" services only in the context of productivity bonuses. Accordingly, under Phase III, profits must be allocated in a manner that does not directly relate to DHS referrals, including any DHS billed as an "incident to" service.

CMS has modified the definition of "physician in the group practice" to make clear that an independent contractor physician must furnish patient care services for the group practice under a direct contractual arrangement with the group, and not between the group practice and other entity, such as a staffing entity. CMS also declined to change its position that an independent contractor physician is only considered a "physician in the group practice" when he or she is performing services on group premises, and thus has a true nexus with the group’s medical practice.

The Stark II Phase III final rule is the third phase in the rulemaking process implementing requirements of the Stark statute, and is intended to be read in conjunction with Phases I and II to understand the entire regulatory scheme. Although Phase III appears in some respects to be more flexible than its predecessors, the changes to the indirect compensation relationship analysis introduce additional complexities and may have far-reaching practical implications as providers evaluate compliance of their existing relationships. Further, there remain under consideration other proposals that may ultimately amend the Stark regulations in a more narrow and restrictive fashion, including, for example, limitations on per-click equipment and space leases, narrowing of the in-office ancillary services exception, and modifications to the whole hospital exception. The changes in Phase III and changes portended through these other provisions require that entities continue their vigilance in relationships with physicians, and that they consult qualified counsel prior to entering into any such relationship.

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