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Practice management fee structures

By William H. Maruca, Esq.

An opinion released by the Office of Inspector General (OIG) of the Department of Health and Human Services raises significant questions regarding the validity of common payment mechanisms under Physician Practice Management (PPM) contracts which include fees based on percentages of net collections.

On April 15, 1998, OIG released Advisory Opinion 98-4 in response to a physician who requested that the OIG rule on whether the proposed financial relationship between his practice and a PPM company was consistent with the Medicare and Medicaid anti-kickback statute. The OIG took a dim view of the incentives contained in the proposed payment mechanism and the potential for inappropriate referral inducements and billing practices.

The OIG is authorized to issue advisory opinions relating to whether a proposed transaction constitutes illegal remuneration as defined in the anti-kickback statute under Medicare and Medicaid. Under this optional procedure, a favorable ruling protects the parties who apply for the opinion, but an unfavorable ruling does not equal a determination that the arrangement is illegal. Since the Advisory Opinion process was initiated in February 1997, there have been far fewer opinions requested and issued than commentators had expected. A number of experts attribute the reluctance to apply for these opinions to the fact that parties are hesitant to receive a negative answer, and the fact that OIG, by law, is precluded from rendering an opinion on some of the most important elements of compliance, such as whether a transaction is consistent with fair market value.

In Opinion 98-4, the physician proposed to enter into an agreement with a PPM company under which the PPM would agree to assume the responsibility for all non-clinical activities of his practice, including providing space, capital for office furniture and operating expenses. The PPM would provide or arrange for all services needed to operate the clinic, including accounting, billing, purchasing, direct marketing and employment of non-medical personnel and outside vendors. The PPM company would also provide the practice with management and marketing services, including the negotiation and oversight of health care contracts with various payors, including indemnity plans, managed care plans, and Federal health care programs. Finally, the PPM company proposed to set up provider networks, and the physician agreed to refer patients to other providers in networks established by the PPM company.

The economic relationship between the practice and the PPM company included three main elements. First, the practice would be required to make a capital payment equal to a percentage of the initial cost of each capital asset purchased by the PPM company for use in the clinic for six years. Secondly, the PPM company would be paid for the fair market value of its operating services, and would be reimbursed at cost for any operating services which it subcontracted to outside providers, such as accounting services. The final component, and the one which was most troubling to OIG, entitled the PPM to a percentage of the practice’s monthly net revenue for its management services.

The arrangement also contemplated two alternative formulas if the initial formula was deemed to result in a kickback violation. The first alternative would be to establish a management fee based on the contemplated financial results of the original percentage based arrangement. If the parties were unable to reach agreement on that amount, the final fallback called for the parties to agree upon an accounting firm who would then determine an appropriate fixed fee.

The OIG noted accurately that this arrangement would not meet the existing safe harbor for personal services contracts and management contracts. The safe harbors, established by regulation, are optional, and tend to be relatively restrictive. In the case of personal services and management contracts, the safe harbor requires that the aggregate amount of compensation must be fixed in advance, based on fair market value in an arms-length transaction, and not determined in a manner that takes into account the volume or value of any referrals or business otherwise generated between the parties for which payment may be made by Medicare or a state health care program.

Since the percentage component of the formula is not fixed in advance, this arrangement could not qualify for the safe harbor. Failure to qualify for a safe harbor does not mean that the arrangement is illegal, only that it must be analyzed on a case-by-case basis. In that analysis, the OIG raised several concerns.

Volume-Based Percentage Relationship.

First, the OIG felt that the proposed arrangement may include financial incentives to increase patient referrals due to the percentage relationship. This is no surprise, considering the OIG’s long history of dislike for percentage-based compensation arrangements of any kind. The opinion states that where compensation for marketing services is based on a percentage, there is “at least a potential technical violation of the anti-kickback statute.”

More significantly, the network of physicians to be assembled by the PPM and the referrals that would be required within that network raised a red flag. Since the PPM company was not a party to the request for the opinion, the OIG was not in a position to evaluate the financial relationships regarding the development of the network or the level of risk of fraud or abuse that those relationships may involve. Not all PPM arrangements include physician networks or cross-referral obligations.

No Safeguards Against Overutilization

The OIG then raised what has become a recurring refrain in its opinions, the fact that the proposed arrangement did not contain safeguards against overutilization. Because of the required referrals within the network, the OIG felt that there was a risk of potential overutilization. The OIG was unable to determine whether any controls would be put in place under managed care contracts negotiated for the practice by the PPM company, and could not be assured that items and services covered under Medicare and Medicaid would not be overutilized.

Incentives for Abusive Billing Practices

Finally, the proposed arrangement was felt to include financial incentives that may increase the risk that the PPM company would engage in abusive billing practices. Because the PPM’s fees are based, in part, on the practice’s revenue, the OIG cited the inherent incentive to maximize that revenue. The OIG has a long standing concern that percentage billing arrangements may increase the risk of upcoding and similar abusive billing practices.

The opinion is relevant in that it withheld official OIG approval from the percentage-based component of a PPM contract with a physician practice, using language which calls into question all such percentage-based arrangements. Although this ruling is binding only on the physician who requested it, it is likely to have repercussions throughout the PPM industry. As a result, many compensation relationships established between PPM companies and physician groups may need to be re-examined.

The OIG’s opinion is as part of a larger pattern of activity on both the federal and state level challenging PPM relationships with physician practices to the extent that they involve improper business-oriented influences on clinical decision-making. For example, in 1997, the Florida Board of Medicine took action to invalidate percentage-based PPM contracts under a Florida statute and regulations prohibiting physicians from splitting fees with non-physicians.

The Pennsylvania Board of Medicine has informally indicated that, at present, it is unlikely to follow Florida’s lead. However, as PPM arrangements become more prevalent, and financial incentives become more widely publicized, there may be some pressure on the Pennsylvania Board of Medicine to revise its position.

Further, Pennsylvania, like many states, has a longstanding prohibition against the “corporate practice of medicine,” based on case law dating to the 1930s and 1940s, as well as the legislative establishment of professional corporations as the exclusive corporate vehicle for physician practice organizations. This policy has been lurking in the shadows for decades with little enforcement other than periodic reaffirmations from various Commonwealth agencies that it still exists.

Notably, arrangements such as the one in Advisory Opinion 98-4 do not technically involve the “corporate” practice of medicine, since the practice remains owned by and, to a great degree, controlled by, the physician(s). Economic pressures creating incentives for physicians to alter their referral patterns, as well as incentives for management companies to maximize collections may raise similar concerns about the transfer of control over clinical decision-making to profit-maximizing business entities.

While percentage-driven management contracts have not been outlawed by OIG’s Advisory Opinion 98-4, that ruling, along with other recent regulatory developments, may result in increased scrutiny of such arrangements by both state and Federal authorities.

William H. Maruca, Esq., is a director with the Pittsburgh law firm of Kabala & Geeseman. He is a vice-chair of the American Health Lawyers Association Committee on Fraud and Abuse, Self-Referrals and False Claims.

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