CMS Issues Proposed Rule Regarding 2008 Medicare Physician Fee Schedule

On July 2, 2007, the Centers for Medicare & Medicaid Services ("CMS") issued a proposed rule regarding the 2008 Medicare Physician Fee Schedule (the "Proposed Rule"). In addition to updating the Medicare Physician Fee Schedule, among other things, the Proposed Rule also proposes substantial changes to the Stark regulations and the regulations governing independent diagnostic testing facilities ("IDTFs"). The proposed new regulations will dramatically affect, and in certain cases will preclude, many existing hospital–physician arrangements. If the proposed regulations are finalized in their current form, you will need to examine each of your existing arrangements for compliance with the proposed changes. It is likely that many joint ventures and leases will need to be restructured. In addition, as CMS noted multiple times in the commentary to the Proposed Rule, a separate final rule on the Stark regulations ("Phase III") is in process. In fact, the Phase III rules were sent to Office of Management and Budget for regulatory review on June 14, 2007. When the Phase III Stark regulations are issued, those regulations will also need to be considered for their effect on existing hospital–physician arrangements.

The following is a brief summary of certain of the proposed regulatory changes in the Proposed Rule and their effect on many common hospital–physician joint ventures, leases, and other arrangements.

Proposed Changes Affecting Hospital–Physician Joint Ventures, Leases, and Other Arrangements

CMS proposes to:

  • Revise the Stark regulation's definition of "entity" to include the person or entity that "performs" designated health services ("DHS") (e.g., the turnkey supplier or the supplier of hospital services furnished under arrangements) in addition to the person or entity that presents a claim to Medicare for DHS. 
  • Revise the Medicare billing rules to impose on physicians and medical groups an "anti-markup" provision on both the technical and professional components of diagnostic tests that are "performed by an outside supplier." In such cases, the physician or medical group will be paid the lesser of: (1) the supplier's net charge to the physician or medical group, (2) the physician's or medical group's actual charge, or (3) the Medicare fee schedule amount. This provision will apply regardless of whether the test or interpretation was purchased by the physician or medical group or its interpretation was reassigned to the physician or medical group billing for the test or interpretation. The supplier's "net charge must be determined without regard to any charge that is intended to reflect the cost of equipment or space leased to the outside supplier by or through the billing physician or medical group." CMS explains in the preamble that this special rule for determining the net charge would require deducting any rental payments from the outside supplier to the billing physician or medical group for the space or equipment used in performing the test or interpretation. "An outside supplier is someone other than a full-time employee of the billing physician or medical group." Read literally, use of part-time or shared employees would constitute use of an "outside supplier" triggering the anti-markup provision. Likewise, while not entirely clear, the use of leased employees may also constitute the use of an "outside supplier" triggering the anti-markup provision. (However, an argument can be made that leased employees working "full-time" at the billing physician or medical group's location and only with their patients should not be considered an outside supplier.) We hope this ambiguity will be resolved through the comment process.
  • Revise the Stark regulations to provide that percentage-based compensation arrangements will not be considered to be "set in advance" for purposes of the Stark law exceptions that incorporate this requirement, unless the percentage compensation is "based on revenues directly resulting from personally performed physician services." Payment methodologies that are based upon a percentage of global fees or a percentage of hospital fees will not be considered to be "set in advance." In its commentary to the proposed regulations, CMS noted that percentage compensation could not be "based on some other factor such as a percentage of the savings by a hospital department. . . ." In the preamble, CMS also expressed concern with use of percentage of revenue formulas in leases, an approach which would no longer meet the requirements of the Stark law Rental of Office Space or Rental of Equipment exceptions, given this change to the "set in advance" standard.
  • Revise the Stark regulations to prohibit per-unit-of-service (or "per click") rental charges in space and equipment leases "to the extent that such charges reflect services provided to patients referred by the lessor to the lessee." Many equipment leases involving physician lessors are currently structured on this basis and will need to be restructured. Based on other CMS commentary regarding the Stark regulations, CMS believes that per-click fees for tests performed for patients referred by the lessor likely "reflect" services provided to patients referred by the lessor.
  • Revise the IDTF regulations to prohibit an IDTF from sharing "space, equipment, or staff or subleas[ing] its operations to another individual or organization." This rule will preclude IDTFs from entering into agreements with physician groups or other imaging companies for the use of the IDTF's space, equipment, and personnel during periods when the IDTF is not using the same. While not entirely clear, the Proposed Rule does not appear to preclude physician groups from seeking dual enrollment as an IDTF when they are performing substantial testing services on patients who were not referred by members of the physician group.

Effect of Proposed Changes on Common Hospital–Physician Joint Ventures, Leases, and Other Arrangements

Turnkey Supplier Joint Ventures. This particular joint venture usually involves the creation by physicians and a hospital of a limited liability company that serves as a turnkey supplier of space, equipment, and personnel (e.g., MRI, 64 Slice CT, Linear Accelerator Services) to a single group practice or multiple group practices that are located in the same building. In many of these ventures, the group practice will lease space or equipment or personnel to the joint venture or utilize its own personnel to bill for the service. Likewise, for administrative convenience, the turnkey fee is often set as a percentage of the global fee paid by the payor.

Given the proposed regulatory changes, the joint venture will need to charge the group practices receiving the turnkey service the Medicare fee schedule amount to avoid application of the anti-markup rule. Any leasing of space or equipment by the group practice to the joint venture will result in a reduction of the fee paid to the group practice by Medicare under the anti-markup rule. Thus, any space or equipment that is leased by the joint venture will need to be leased from the hospital or a third party (which may require reconfiguring any leases that are currently in place with a group practice).

As written, the anti-markup provision would effectively require that the turnkey supplier provide all aspects of the supplied service to the group practice because the group practice will be limited to receiving reimbursement equal to the supplier's net charge to the group practice. Thus, for example, the group practice should have the supplier provide billing services (perhaps using the group practice's own billing staff under a leased employee arrangement) and bundle the cost of those services into the supplier's charge to the group practice. Otherwise, if the group practice does the billing for the service on its own, it will not be able to recoup its costs from Medicare due to the payment restriction. This would seem to be an unintended consequence of the proposed anti-markup provision, and we hope it will be revised as a result of the comment process. To fix this unfortunate result, CMS would merely need to revise the anti-markup provision to only apply to the portion of the service supplied by the turnkey supplier.

While generally the Proposed Rule would preclude the use of a percentage of the global fee payment methodology and per-unit-of-service fee arrangements for the leasing of space or equipment, it would appear that such payment arrangements still would be permitted in cases where the subject services meet the requirements of the In-Office Ancillary Services exception to the Stark law. This issue will need to be followed closely as CMS may elect to foreclose the use of such payment arrangements for in-office ancillary services through Phase III or after analyzing the comments to the Proposed Rule.

Given the proposed change to the IDTF regulations, the joint venture will not be permitted to function as an IDTF with respect to referrals from nongroup practice sources.

Cath Lab IDTF/Under-Arrangements Provider. Under this model, a joint venture is created by physicians and a hospital to operate an IDTF that provides diagnostic cardiac catheterization services directly and interventional cardiac catheterization services to hospital patients "under arrangements."

Given the proposed regulatory changes, the IDTF will no longer be permitted to provide interventional cardiac catheterization services to hospital patients "under arrangements" because the IDTF will be considered an "entity" to which the physician owners of the IDTF are referring hospital services, which are Stark law DHS, and no Stark law exception will apply to this direct ownership interest (unless the IDTF is a rural provider).

Indeed, for the same reason, it would appear that the change to the definition of "entity" will eliminate the provision of any hospital services "under arrangements" by any entity in which physicians have an ownership interest, including a physician group practice (unless the entity is a rural provider or hospital). Going forward, with those two exceptions, only nonphysician-owned suppliers will be able to provide services to hospital patients under arrangements.

Cath Lab/MRI/CT Supplier Arrangement. Under this model, the hospital leases space, diagnostic equipment, and personnel to a physician group on a turnkey service basis, and the group uses the same to provide diagnostic services to patients of the group.

The proposed anti-markup regulation will preclude the group from billing Medicare for any amount in excess of the amount that the hospital charges the group. If the hospital only provides the space and equipment and not the personnel, then the anti-markup rule may not apply because the test would not be "performed" by a supplier.

Equipment/Space Leasing Arrangements. Under these types of arrangements, physicians lease either space or equipment to the hospital and are paid on a per-unit-of-service basis, even if the physician has referred the patient to the hospital for the use of the equipment/space.

The proposed regulations will preclude the use of per-unit-of-service rental payments if such charges reflect the services provided to patients referred by the physician lessor to the hospital lessee (which is true in most cases where this type of payment methodology has been employed).

Gainsharing. Under gainsharing models, the hospital pays participating physicians a percentage of the hospital's cost savings that result from the gainsharing activities.

Given CMS's comments in the preamble to the Proposed Regulations and the change to the regulation itself, a percentage of cost savings payment methodology will not be considered to be "set in advance." While this will preclude the application of the Stark law Personal Services and Fair Market Value exceptions, the Indirect Compensation Arrangement exception may still protect such payments (although CMS suggested it may have already taken steps to severely restrict the use of the Indirect Compensation Arrangement exception in the Phase III rule).

CMS Soliciting Comments Regarding In-Office Ancillary Services Exception

Fortunately, at this time, CMS is not making any changes to the In-Office Ancillary Services exception to the Stark law. However, CMS is soliciting comments regarding the need for changes to the In-Office Ancillary Services exception to: (1) eliminate services from the exception (e.g., physical therapy services and services that are not needed at the time of the office visit); (2) change the definitions of "same building" and "centralized building"; and (3) preclude nonspecialist physicians from referring patients for specialized services involving the use of equipment owned by the nonspecialist physicians. Any changes to this exception or to the Indirect Compensation Arrangements exception may severely limit the ability of physician groups to provide ancillary services for their patients or in joint ventures.

Collapsing Financial Relationships

CMS is soliciting comments regarding whether and how it should employ a "stand in the shoes approach" to collapse the relationships on the DHS entity side of the physician–DHS entity equation. Under such an approach, where a DHS entity owns or controls an entity to which a physician refers Medicare patients for DHS, the DHS entity would stand in the shoes of the entity that it owns or controls and would be deemed to have the same compensation arrangements with the same parties on the same terms as does the entity that it owns or controls. If the owned or controlled entity's financial relationship is directly with a physician, then the DHS entity must meet an exception applicable to direct financial relationships. In the commentary, CMS notes that it believes this "stand in the shoes approach" is necessary to safeguard against program abuse by parties trying to avoid application of the Stark law restrictions "by simply inserting an entity or contract into a chain of financial relationships linking a DHS entity and a referring physician."

In soliciting comments on this issue, CMS noted that it may "finalize (or may already have finalized) a provision that treats physicians as standing [in] the shoes of their group practices or other physician practices." Applying the "stand in the shoes approach" to the physician side of the financial relationship may end the utility of the indirect compensation arrangement in most circumstances, including contracts with a group practice and payments within an academic medical center that do not fit the special Academic Medical Center exception or another exception.

Enforcement Provisions

CMS also proposed or solicited comments on three different enforcement mechanisms. First, it proposed that once payment for a DHS is denied based on a Stark violation, the DHS entity has the burden of proving compliance with the Stark law on appeal. Second, it solicited comments on how long parties will be deemed out of compliance if they fail to meet any exception, including potentially a minimum length of time, repayment provisions, and disqualification from using the failed exception for some period of time. Third, CMS is considering amending some exceptions to provide an alternative means of dealing with technical violations, such as an inadvertent failure to obtain a required signature, following full disclosure to CMS. The limits on the alternative method of compliance CMS suggested (including absolute discretion for CMS in determining if the alternative method applies), however, may make this approach one of little or no value to many DHS entities.

Strategic Implications of the Proposed Regulations

If it goes into effect, the Proposed Rule will eliminate many opportunities for physicians to maintain their practice incomes. This is likely to make physicians more inclined to become employed by hospitals. It may also lead many physicians to pursue imaging centers and other types of joint ventures that serve only commercial insureds—and not Medicare and Medicaid beneficiaries.

One integration model that was not affected by the Proposed Rule is the Co-Management Model, in which a hospital involves physicians in the day-to-day management of the hospital's clinical operations in order to align the physician and hospital interests and improve quality in patient care. This model, which is already under consideration by many hospital systems around the country, will likely gain new proponents in the physician community.

It should also be noted that the Proposed Rule does not hinder the development of whole hospital, equity joint ventures, nor the old standby—Ambulatory Surgery Center joint ventures.

The following is a link to the CMS announcement :

The Proposed Rule was published in the July 12, 2007, Federal Register, and comments regarding the Proposed Rule will be accepted until August 31, 2007. CMS has stated that a final rule will be published some time this fall and that the final rule will be effective for services furnished on or after January 1, 2008.

We will distribute a more detailed memorandum regarding the Proposed Rule in the near future.

Lawyer Contacts

For further information on the effect of the proposed changes on your existing and planned hospital–physician joint ventures, leases and other arrangements, please contact your principal Firm representative or one of the lawyers listed below. General e-mail messages may be sent using our "Contact Us" form, which can be found at

Thomas E. Dutton

Gerald M. Griffith

Kevin D. Lyles

Travis F. Jackson

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