Hospital-Physician Employment Agreements: Sorting through the Aftermath of the Tuomey Decision

It is critically important for hospitals to be especially vigilant about complying with Federal and state fraud and abuse statutes in relation to the Hospital’s financial arrangements with physicians. A jury in a Federal trial in Sumter, South Carolina issued a powerful reminder of the importance of compliance when it concluded that the Tuomey Healthcare System (“Tuomey”) violated the Federal Physician Self-Referral Statute (“Stark II”) and the False Claims Act by illegally paying referring physicians under improper employment agreements. In addition to the $39 million the court ordered Tuomey to repay to the government as overpayments for the 21,730 disallowed claims, the hospital will likely have to pay significant damages. With treble damages and a penalty of up to $11,000 per claim under the False Claims Act, Tuomey may have to pay up to an additional $357 million for the improper arrangements.

The Tuomey case grew out of a qui tam law suit filed by a physician after contract talks with the hospital broke down. The jury found that, starting in 2005 and 2006, Tuomey improperly compensated nineteen (19) specialty physicians whom the executives feared would divert lucrative patients to other hospitals or physician practices. Tuomey entered into ten-year employment agreements with the specialty physicians and inserted exclusivity clauses with productivity bonuses in order to prevent the physicians from performing outpatient procedures at facilities not owned by the hospital.

The jury verdict seemed to rest on a number of factors. One of the most important was that in return for the physicians agreeing to exclusively practice at the hospital for 10 years with an additional two year non-compete clause, Tuomey agreed to pay each physician an annual salary that fluctuated based on the hospital’s net cash collections for outpatient procedures, a productivity bonus equal to 80 percent of the net collections and an incentive bonus that could total an additional 7 percent of the productivity bonus.

The jury concluded that the compensation arrangement in the physician agreements did not comply with the bona fide employee exception to Stark II, 42 C.F.R. §411.357(c). To comply with the Stark II employee exception, the employment must be for identifiable services, the agreement must be commercially reasonable even if no referrals were made to the employer and the compensation must be consistent with fair market value that is not determined in a manner that takes into account the volume or value of referrals by the referring physician. Productivity bonuses are permitted based on services personally performed by the physician.

In arguing that the compensation necessarily took into account the volume or value of referrals due to the exclusivity clause and productivity bonus, the government presented evidence that the physicians received total compensation that exceeded the physicians’ collections for services personally performed pursuant to the agreements. The government argued that the compensation paid in excess of collections was evidence that the agreements took into account the volume or value of the physicians’ referrals to the hospital and caused the arrangements to no longer qualify for the exception. Without being in an exception the payments were automatically prohibited under Stark II resulting in the $39 million in overpayment penalties.

The government was then able to prove Tuomey executives knowingly and willfully entered into the arrangements in order to compensate the physicians for the referrals. The government offered evidence that Tuomey received advice from experienced health care regulatory counsel that the arrangements likely did not meet a Stark II exception and then dismissed the counsel by instructing him to not issue a written opinion. Evidence was also introduced through tape recordings of hospital board meetings in which executives discussed the employment arrangements and remarked that even though counsel told them the hospital cannot pay for referrals, everyone knows that is what everyone does.

The jury found that the hospital violated the False Claims Act by knowingly submitting claims to the Medicare program fully aware of the prohibited financial arrangements with the 19 specialty physicians. The jury concluded that the False Claims Act violation started on the day the hospital received and dismissed the warning from regulatory counsel. The False Claims Act penalties on the subsequent 21,730 claims could total up to $357 million.

In light of the Tuomey and other recent decisions, hospitals need to take a closer look at their physician agreements to ensure the arrangements comply with Federal and state fraud and abuse statutes. The fair market value determinations made under these agreements cannot take into account past, current or anticipated future referrals by the physicians. Physicians must only be paid for the fair market value of the services they actually provide and those services must be commercially reasonable. In other words, the hospital would contract for those services regardless of the prospect of any referrals from the physician.

“Hospital-Physician Employment Agreements: Sorting through the Aftermath of the Tuomey Decision.” Aug. 30, 2013

Michael R. Schulze