October 2012 Volume 9 Number 2

Service Line Co-Management Arrangements: Models & Practicalities

By Pamela H. Del Negro, Robinson & Cole LLP, Hartford, CT

AuthorWith increasing frequency, physicians and hospitals are aligning through co-management arrangements to increase the quality of healthcare provided through hospital service lines. Under these arrangements, a hospital and a group of physicians enter into a management contract or joint venture through which the physicians receive compensation for managing and improving care in a specific hospital service line (orthopedic surgery, cardiology, oncology, etc.). The increase in co-management arrangements is attributable in part to the increase in federal government programs designed to improve patient care1 and the limitations of other types of management arrangements currently in effect.

For example, while many hospitals enter into medical director agreements with physicians to supervise clinical services, these arrangements are generally focused on hours worked, rather than results achieved, and are limited in the number of physicians involved in the directorship process. Co-management arrangements differ from most traditional gainsharing arrangements (in which hospitals compensate physicians for reducing hospital costs by sharing a portion of the savings with such physicians) by involving physicians in strategic planning for, and management of, the clinical service line.
For more information related this topic, the Health Law Section is hosting a webinar

Putting Pen to Paper: Service Line
Co-Management Agreements,
Models & Practicalities

on November 7, 2012.


While the structure of a co-management arrangement varies based on each hospital’s particular needs, below is an overview of common co-management models, key regulatory concerns affecting co-management arrangements, and issues to consider when structuring such arrangements.

Co-Management Models: Joint Venture vs. Direct Contracting

Two common co-management models are the joint venture model and the direct contracting model. Under the joint venture model, a hospital and one or more physicians form a joint venture to perform the co-management services. Most commonly, this joint venture is a separate legal entity such as a limited liability company. The separate legal entity enters into a management contract with the hospital for the co-management services.

Under the direct contracting model, a hospital enters into a management contract with physicians (or their practice groups) for the performance of co-management services. In some instances, the physicians contract with the hospital either personally or through their practice groups. In other instances, the physicians form a separate legal entity, such as a limited liability company, to contract with the hospital for the provision of co-management services. Physicians may consider using a separate legal entity when only some, but not all, physicians in a particular practice group will provide co-management services, or when physicians from multiple practice groups will provide the co-management services.

Co-management arrangements typically include two types of payments: base compensation and incentive compensation. Base compensation is often a fixed fee representing the fair market value of the physician’s efforts in developing, managing and overseeing the service line. These services are often comprised of operational and financial oversight of the service line, including policy and budget development; participation in committee meetings; and assistance with strategic, financial and operational planning for future services in the service line. The second type of co-management payment is incentive compensation. Incentive compensation often involves several discrete payments, each based upon the achievement of certain objectives. Examples of objectives include quality of service measures such as complication, infection and discharge rates, and measures of operational efficiency such as on-time starts and supply management standards. In general, base compensation and incentive compensation are set in advance, and the parties obtain an independent, third-party valuation of all compensation in view of the services provided, the objectives that must be achieved, and the metrics that will be used to measure their achievement. While the term of a co-management arrangement is generally one to three years, the arrangement should be reviewed annually to confirm that compensation remains at fair market value and that the duties, objectives, and any metrics measuring their achievement are still accurate.

Key Regulations Affecting Co-Management Arrangements

Below is an overview of key regulations that may impact the structure of co-management arrangements.

Stark Law. The federal Ethics in Patient Referrals Law, commonly referred to as the “Stark Law,”2 prohibits physicians from making referrals3 to an entity for designated health services4 payable by Medicare, if the physician or an immediate family member has a financial relationship5 with the entity to which the physician refers, unless an exception to this prohibition applies. Given that co-management arrangements often involve physicians who refer patients to the hospital, parties should review their proposed co-management arrangement to determine whether the Stark Law applies and, if so, whether the arrangement meets an exception to the general prohibition on physician self-referrals. The applicable exception may vary depending on structure of the particular co-management arrangement. Two commonly-used exceptions are the personal service arrangements exception6 and the fair market value compensation exception.7 In pertinent part, the personal service arrangements exception requires the parties to document the co-management arrangement in a signed, written agreement with a term of at least one year.8 The services provided must be reasonable and necessary, and compensation cannot exceed fair market value or be based on the volume or value of referrals or other business generated between the parties.9 The fair market value compensation exception also requires a written and executed agreement between the parties which sets forth the services provided.10 Compensation must be set in advance, consistent with fair market value, and cannot take into account the volume or value of referrals or other business generated by the referring physician.11 While the fair market value compensation exception is broader in scope and application than the personal service arrangements exception, parties using either exception must ensure that compensation meets the requirements for fair market value.12 In addition to any Stark Law issues directly related to the co-management arrangement, the parties should determine whether there are any other arrangements between or among them (for example, any medical director or call coverage agreements between one or more physicians and the hospital) and consider the implications of the Stark Law when all arrangements are viewed in their totality.

Anti-Kickback Statute. In pertinent part, the Anti-Kickback Statute makes it a crime to knowingly and willfully offer or receive remuneration to induce or reward referrals of items or services which are reimbursable by a federal healthcare program.13 Both sides of an impermissible “kickback” transaction can be held criminally liable for the violation.14 The Office of Inspector General (“OIG”) of the Department of Health and Human Services, has, under statutory authority, promulgated “safe harbors” identifying certain payment and business practices that will not be subject to criminal and civil prosecution under the Anti-Kickback Statute due to their low risk for fraud or abuse. An arrangement must meet all of the requirements of a safe harbor to be protected by it. When structuring co-management arrangements, parties will often look to satisfy the Anti-Kickback Statute’s personal services and management contracts safe harbor (“PSMC Safe Harbor”).15 However, many co-management arrangements will not satisfy this safe harbor. Among other requirements, the PSMC Safe Harbor requires that aggregate compensation be set in advance. Many co-management arrangements are unable to satisfy this requirement due the structure of their incentive compensation, in particular when percentage-based compensation arrangements are used. If the parties are unable to meet a safe harbor, they should nonetheless avoid establishing co-management objectives which induce or reward physicians for increased utilization or the volume or value of their referrals. As with the Stark Law analysis, the parties should review and consider all arrangements between and among them when reviewing the co-management arrangement for compliance with the Anti-Kickback Statute. Violations of both the Stark Law and the Anti-Kickback Statute can trigger liability under the False Claims Act.16

Civil Monetary Penalties. Civil monetary penalties may be assessed against hospitals that knowingly make payments to a physician to induce the physician to reduce or limit items or services provided to Medicare or Medicaid beneficiaries under the physician’s direct care.17 When structuring co-management arrangements and creating goals that serve as the basis for incentive compensation payments, parties should consider whether each goal is specific, tied to verifiable cost savings and does not incentivize changes in volume or shifts in payor mix that reduce Medicare and Medicaid beneficiaries’ access to services. If the goal is designed to reduce healthcare costs, the parties should seek to confirm that such costs can be reduced without adversely impacting quality of care.18

Provider-Based Status. Medicare’s provider-based regulations permit hospitals to bill under their provider number for services provided at on- or off-campus locations, subject to certain requirements.19 Depending on the location of the service line and the structure of the co-management arrangement, the provider-based regulations may impose additional administrative and supervisory restrictions on the arrangement. For example, if the co-management arrangement is for an outpatient imaging center operating under the hospital’s license, the provider-based regulations may apply. Among other requirements, these regulations require the provider-based facility to meet certain conditions regarding clinical and financial integration20 and hold itself out to the public as part of the hospital.21 A provider-based facility operating as a joint venture must meet additional requirements, including a requirement that it be located on the main campus of its hospital owner.22

Tax Exemption. Co-management arrangements involving tax-exempt hospitals may impose additional regulatory burdens on the parties. IRS regulations prohibit any portion of a tax-exempt hospital’s earnings from inuring to or benefiting a private party. Parties should obtain data on comparable arrangements,23 confirm that each element of compensation, both individually and in the aggregate, is reasonable and ensure that the arrangement (including compensation) is approved by the hospital’s board, excluding any members who have a personal interest in the arrangement. In addition, the Internal Revenue Code imposes restrictions on the amount of private business use that can occur within property financed by tax-exempt bonds.24 These restrictions can be triggered by management or incentive contracts based in whole or in part on a share of the facility’s net profits.25 If the co-management arrangement will be located in space financed by tax-exempt bonds, the parties should confirm that the arrangement meets one of the safe harbors set forth in Revenue Procedure 97-13 (“Rev. Proc. 97-13”).26 Depending on the safe harbor, the parties may be subject to certain limitations on the term of the agreement and certain requirements regarding the hospital’s ability to terminate the agreement.27

Practical Considerations

Depending on its structure, a co-management arrangement may implicate several major federal healthcare regulations, and there is little guidance on how such arrangements fit into these regulatory schemes.28 It is important to thoroughly analyze a proposed arrangement in view of the regulations to which it may be subject. In many instances, this requires careful consideration of the structure of the arrangement and the compensation provided thereunder, clear written documentation of the arrangement, and evidence that fair market value of the arrangement and each element of compensation thereunder has been analyzed and established. Experienced legal counsel and an independent appraiser should be engaged early in the process to provide guidance and assistance with these tasks. Parties should establish measureable and observable objectives to which the physicians will be held accountable. When setting co-management objectives and the various metrics that will be used to measure their achievement, parties should consider whether each objective and metric is realistic given the timeline for its achievement. Physicians seeking to enter into co-management arrangements often underestimate the level of physician participation required. Each physician should carefully consider the time and effort that will be required of him or her to achieve the objectives of the co-management arrangement. Physicians should understand that they will not receive the compensation allocated to an objective unless such objective is actually reached, and hospitals should hold physicians accountable to established objectives. Parties should work with their advisors to organize and document the arrangement in a manner that attempts to mitigate regulatory risks and maximize compliance with applicable regulatory requirements. Although they operate in a heavily regulated environment, co-management arrangements provide hospitals and physicians with an opportunity to engage in meaningful collaboration on strategic and operational aspects of service, while improving the quality and efficiency of the hospital’s service line.


This article is not intended to be construed as legal advice.

Pamela Del Negro is an attorney in the Health Law Group at Robinson & Cole LLP. She may be reached by email at pdelnegro@rc.com, or by telephone at (860) 275-8261.

1

E.g., the pay-for-performance CMS/Premiere Hospital Quality Incentive Demonstration Program (https://www.premierinc.com/quality-safety/tools-services/p4p/hqi/index.jsp) (last visited Oct. 4, 2012); the CMS Hospital Value Based Purchasing Program (http://www.cms.gov/Medicare/Quality-Initiatives-Patient-Assessment-Instruments/hospital-value-based-purchasing/index.html) (last visited Oct. 4, 2012); and provisions of the Patient Protection and Affordable Care Act designed to reduce hospital re-admissions (Patient Protection and Affordable Care Act of 2010, Pub. L. No. 111-148; 42 U.S.C. §1395ww(q)). For additional background, see Jen Johnson, Co-Management Agreements, Compensation & Compliance, ABA Health eSource, Vol. 7, No. 10, (June 2011).

2Ethics in Patient Referrals Act, 42 U.S.C. § 1395nn.
3

42 U.S.C. § 1395nn(h)(5); 42 C.F.R. § 411.351.

4

42 U.S.C. § 1395nn(h)(6); 42 C.F.R. § 411.351.

5

42 U.S.C. § 1395nn(a)(2), 42 C.F.R. § 411.354(b)–(c).

6

42 C.F.R. § 411.357(d).

7

42 C.F.R. § 411.357(l).

8

42 C.F.R. § 411.357(d)(i), (iv).

9

42 C.F.R. § 411.357(d)(iii), (v).

10

42 C.F.R. § 411.357(l)(1).

1142 C.F.R. § 411.357(l)(3). See 42 C.F.R. § 411.357(l) for the text of the entire fair market value compensation exception.
12

If the co-management services will be provided through an entity jointly owned by the hospital and the physicians, the parties may also consider whether the arrangement meets the requirements of the indirect compensation arrangements exception. 42 C.F.R. § 411.357(p).

13

42 U.S.C. § 1320a-7b(b).

14Id.
15

42 C.F.R. § 1001.952(d). If the co-management services will be provided through an entity jointly owned by the hospital and the physicians, the parties may also consider whether the arrangement meets the investment interests safe harbor. 42 C.F.R. § 1001.952(a).

16

31 U.S.C. § 3729. In general, government payment of healthcare claims is predicated upon the provider’s certification that the claims are being submitted in compliance with applicable law. False Claims Act liability for Stark and Anti-Kickback violations often arises under the “false certification” theory, pursuant to which the government alleges that the provider submitting the claim(s) for payment falsely certified that such claims were submitted in accordance with applicable law. See, Rachel L. Grier et al., False Claims Act Damages in Anti-Kickback and Self-Referral Cases, ABA Health eSource, Vol. 7, No. 10, (June 2011).

17

42 U.S.C. § 1320a-7a

18

For additional guidance, see, e.g., Special Advisory Bulletin, Gainsharing Arrangements and CMPs for Hospital Payments to Physicians to Reduce or Limit Services to Beneficiaries , Office of Inspector Gen. (July 1999), http://oig.hhs.gov/fraud/docs/alertsandbulletins/gainsh.htm ; Office of Inspector Gen. Advisory Op. No. 09-06, Dep’t of Health and Human Servs. (June 30, 2009), http://oig.hhs.gov/fraud/docs/advisoryopinions/2009/AdvOpn09-06.pdf ; Office of Inspector Gen. Advisory Op. No. 08-21, Dep’t of Health and Human Servs. (Dec. 8, 2008); Office of Inspector Gen. Advisory Op. No. 08-16, Dep’t of Health and Human Servs. (Oct. 14, 2008), https://oig.hhs.gov/fraud/docs/advisoryopinions/2008/AdvOpn08-16A.pdf ; and Office of Inspector Gen. Advisory Op. No. 01-01, Dep’t of Health and Human Servs. (Jan. 18, 2001), http://oig.hhs.gov/fraud/docs/advisoryopinions/2001/ao01-01.pdf.

19

42 C.F.R. § 413.65.

2042 C.F.R. § 413.65(d)(2)–(3).
2142 C.F.R. § 413.65(d)(4). Note that there are additional requirements for off-campus facilities operating under a management contract, including the requirement that the main provider hold the management contract. 42 C.F.R. § 413.65(h).
2242 C.F.R. § 413.65(f).
23Obtaining comparable data can be difficult given that co-management arrangements are “still relatively new.” Johnson, supra, note 1. Parties entering into co-management arrangements are generally advised to seek guidance from an independent appraiser and obtain a fair market value opinion for the arrangement.
24I.R.C. § 141(b) (2012).
2526 C.F.R. § 1.141-3(b)(4)(i).
26Rev. Proc. 97-13, available at http://www.irs.gov/pub/irs-irbs/irb97-05.pdf, pp. 18-20 (last visited Oct. 4, 2012). Certain provisions of Rev. Proc. 97-13 were modified by Rev. Proc. 2001-39. Rev. Proc. 2001-39, available at http://www.irs.gov/pub/irs-irbs/irb01-28.pdf, pp. 16 (last visited Oct. 4, 2012). In addition, on May 11, 2012, the American Hospital Association submitted a letter to the IRS requesting that the IRS modify Rev. Proc. 97-13 to account for new models in hospital-physician alignment, including the payment of quality-based incentive compensation to physicians. American Hospital Association, Letter to Douglas H. Shulman, Commissioner, Internal Revenue Service (May 11, 2012), http://www.aha.org/advocacy-issues/letter/2012/120511-aha-let-update-irs.pdf.
27See, e.g., Rev. Proc. 97-13, supra, note 26 at §§ 5.03(4), (6).
28In 2008, the Centers for Medicare & Medicaid Services proposed a Stark Law exception for payments to physicians related to incentive plans or shared savings programs. However, the exception has not been finalized. 73 Fed. Reg. 38,502, 38,604-06 (July 7, 2008). OIG Advisory Opinions on gainsharing and pay-for-performance arrangements can provide helpful guidance on the types of elements that should be included or excluded from co-management arrangements. See, infra, note 18.

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