Physician referrals to labs come under new restrictions.

Both state, feds crack down on financial conflict setups

New restrictions on physician referrals to labs and diagnostic testing facilities in which they have financial interests -- designed to end kickback schemes and reduce unnecessary testing -- are likely to complicate the lives of health care providers and increase their costs. The new restrictions will also likely keep a lot of attorneys busy, one industry source pointed out.

The restrictions are contained in two statutes, one state and one federal, which both become effective Jan. 1. The federal Ethics in Patient Referral Act of 1993 is called "Stark II" (after U.S. Rep. Fortney "Pete" Stark, D-Santa Clara, who introduced it). The new state law, the Physician Ownership and Referral Act of 1993 (AB 919), is known as "Speier" after its author, state Assemblywoman Jackie Speier, D-San Mateo.

Both statutes prohibit physicians from referring patients for certain kinds of medical services if there is a financial relationship between the referring physician and the lab or testing center, unless one or more of numerous exceptions cited in the statute applies. For example, certain facilities -- such as ambulatory surgery centers and joint ventures in which doctors own an interest in the entire facility, rather than just one specific department -- are excluded from the prohibition and will probably not be affected, sources said.

The two measures broadly define "financial relationships" to include ownership situations (in which a doctor owns an equity interest in the lab he refers patients to) and compensation arrangements (such as those between hospitals and physicians).

"Many common, commercially reasonable financial relationships now fall under the statutes and may preclude referrals unless a specific exception applies," declared Richard A. Blacker, a principal in the Century City office of Weissburg & Aronson Inc., which claims to have the nation's largest health law practice.

Watch those referrals

The lists of services covered by the two laws varies, but both laws set restrictions on referrals to facilities in which an equity stake is held by referring physicians or their family members.

Another major change involves intent of patient referrals.

"Existing statutes forbid payment made intentionally to induce referrals," Blacker explained, "but the new statutes forbid the behavior, regardless of intent, and are designed to operate automatically."

Blacker said he believes the measures toughen existing law, but he complained that neither is well drafted and both are ambiguous. Physicians' attempts to analyze their existing investments to ensure compliance with the new laws are complicated by the fact that no regulations or case laws interpret the statutes, and neither the federal nor the state government is authorized to offer interpretive opinions. So Blacker's firm holds seminars and seeks to inform health care providers about the new laws.

"Any financial transaction that institutions enter into in the future will be difficult to begin without first contacting a lawyer, because the requirements are so technical," Blacker added.

Violating "Stark II" could result in civil monetary penalties and exclusion from the Medicare and Medi-Cal programs. Violations of "Speier" are criminal misdemeanors, which could also trigger civil monetary penalties and disciplinary action from state medical boards. Under both statutes, payment for services rendered can be denied -- even if the violations are inadvertent.

Physicians to sell off stakes

According to Martin Schnitzer, counsel in the Century City office of national law firm McDermott, Will & Emery, the biggest change from Stark II and Speier is that physicians will have to sell off their positions in diagnostic imaging centers and other auxiliary services and change some financial relationships with hospitals, home health agencies, drug manufacturers and other health care entities.

"Physicians would find it prudent to examine their agreements with hospitals with their attorneys," Schnitzer suggested. "I don't think it's difficult to comply with Stark, but it is technical and has to be done correctly."

Schnitzer and his partners plan to publish a book on this topic in January, which is to explain the scope and application of the statutes' provisions and applicable exceptions.

"Stark II and Speier are a sea change," Schnitzer's law partner Doug Mancino added. "The general prohibition of payments in exchange for referrals in effect under existing law was vague -- and applied only to lab ownership. Now a wide variety of businesses that have been in operation for awhile may have to change hands."

There has been a proliferation of magnetic resonance imaging (MRI) centers during the past eight years, and if no one buys them from physicians who are backing off in light of the new laws, lenders and lessors will have to take them over. One primary issue will likely be determining the market value of such centers.

Values may slump

"There will be a perception that buyers may be at high risk of losing referrals once physician ownership is eliminated," Mancino said.

He added that he believes those centers which have become truly freestanding and have been successfully competing on the basis of price, quality and service will do fine, because they will have an identifiable clientele independent of the owners. However, a physical rehab center that gets most of its business from a particular orthopedic practice won't have much freestanding value, Mancino said.

One deleterious side effect of the new regulations could be that investors become more cautious about making major expenditures for new unproven technology. In years past, investors were encouraged to invest in new unproven technologies at least partially because physicians were co-investors and because those physician-investors were committed to referring patients to treatments involving those technologies. But now, without physicians' financial participation, those investments will likely be less attractive to investors, sources said.

A likely positive effect of the new regulations, on the other hand, will be that the amount of unnecessary testing will decline. Prior to the new laws, there was a high risk of abuse with physician ownership. And Mancino admitted that Southern California has had its share of physicians engaging in self-enriching referrals.

Stark II will also change the way in which a majority of doctors in medical groups are paid. The primary basis upon which doctors are paid by their medical group is volume. The more dollars a doctor generated for his or her group, the more he or she was paid. This provided doctors an incentive to refer patients for unneeded ancillary services -- such as lab tests, X-rays and physical therapy sessions -- because such referrals brought more dollars to the group and, in turn, into the doctors' own pockets.

Stark II makes that compensation structure illegal. "Many ways in which doctors were 'incentivized' to work harder will be illegal on Jan. 1," reported Tony Schiff, principal of the Anthony Hunter Schiff law firm in Century City which represents 5,000 physicians.

A differing view

Schiff said his firm is reorganizing a lot of its medical group clients' practices. That reorganization involves putting revenues generated by referrals for ancillary services, which can account for as much as 35 percent of a practice's income, into a common pool to be divided equally amount the group physicians, Schiff explained.

While many health care attorneys see sweeping changes from Stark II and Speier that could require expensive legal counseling, the in-house counsel for a major L.A. County hospital, who preferred not to be identified, disagreed.

"Those who have stayed current with the law and are in compliance will have no greater risk and very few changes," the hospital counsel said. "The new laws say one more time: 'Don't pay for referrals.' You do have to re-analyze your physicians' relationships with every new pronouncement because the risk of violating a criminal statute is so severe. If you are not in compliance, there is more risk because the new laws are clearer and more specific."

But paying attention to the letter of the law is not the only relevant factor, the source said. "Part of the impact of the law will depend on prosecutorial discretion and whether or not prosecutors focus on non-health care transactions. I assume they would not," he said. "When I hear any law firm talking about interpreting new law, I make a judgment about whether they are being straightforward or simply trying to sell me something. I think there is some of both going on in response to Speier and Stark II. Then again, sometimes you have to scare people to motivate them."