Kim H. Roeder
Robert E. Waters

As the legislative process for healthcare reform unfolds, proposed new payment structures, delivery mechanisms, and regulatory developments may change the way hospitals and physicians interact in a new healthcare market.  

At a Glance

Legal developments that could affect the relationship between hospitals and physicians include:

  • Enforcement of fraud and abuse laws
  • Tighter billing rules
  • Emphasis on value-based purchasing
  • Renewed interest in alternative delivery models that reward quality, efficiency, and cost savings

Recent legal developments present new regulatory challenges in hospital-physician interactions. Developments commanding attention stem from enforcement of fraud and abuse laws; tighter billing rules and a cadre of government auditors newly empowered to recover improper billings; emphasis on paying for quality; and renewed interest in compensating alternative delivery models as a way of encouraging care coordination and rewarding quality, efficiencies, and cost savings. These developments affect hospitals' relationships with physicians, whether they be employees or independent members of their medical staffs. 

Fraud and Abuse Enforcement
Given that the False Claims Act (FCA) imposes treble damages, can be invoked by private whistleblowers, and is a favored source of enforcement authority against healthcare providers, any expansion of the FCA requires that hospitals and physicians pay close attention to avoid additional liability.

Recent FCA amendments were designed to expand the reach of this act and make recovery easier for FCA plaintiffs (whistleblowers). Of particular significance to providers, the Fraud Enforcement Recovery Act (FERA) extends the FCA's reach beyond the use of false records to knowing concealment of an obligation to pay the government even if no false record or statement is made. FERA also broadens the definition of obligation to include retention of overpayments. These developments place additional onus on hospitals and physicians to identify Medicare, Medicaid, and other government program overpayment "retentions" so as to take appropriate remedial action. Legislators have considered proposals to increase these stakes significantly by setting potential FCA damages at a multiple of six, up from treble damages ("Senate Committee Ups Health Care Fraud Penalties," Law 360, July 14, 2009). 

Self-disclosure. Although sanctions are expanding, the government has pulled back in one area that providers had been using to address compliance issues. In a March 2009 "Open Letter to Health Care Providers" (, the Department of Health and Human Services (HHS) Office of Inspector General (OIG) announced it would no longer accept for resolution under its self-disclosure protocol (SDP) matters involving violations of the Stark law that did not also present colorable violations of the anti-kickback statute. Further, the OIG announced that it would accept for resolution through the SDP only matters involving a settlement of at least $50,000.

This represents a change in policy from the OIG's prior encouragement of providers to use the SDP to resolve potential Stark law violations (which may include technical infractions) in a manner allowing for resolution at the lower end of the damages continuum. That avenue had offered providers a way to negotiate a resolution short of the Stark rule calling for forfeiture of all Medicare billings for "designated health services" that have been referred by a physician with which the provider has a noncompliant financial relationship. Leading up to this change of policy, the OIG published notice of resolution through voluntary disclosure of a number of referral law issues, including problematic compensation of hospital-employed physicians, as well as noncompliant medical director arrangements and provision of free items and support services (  

Because the Centers for Medicare & Medicaid Services (CMS), which has jurisdiction in Stark law matters, currently has no process similar to the SDP, the OIG's 2009 open letter has effectively left providers with no avenue to seek a negotiated damages resolution of Stark law issues. This new policy falls particularly hard on hospitals-which have been the largest target of Stark law enforcement-given that inpatient and outpatient hospital services constitute designated health services, and that even technical noncompliance with the Stark law (e.g., failure to document a financial arrangement in a timely manner per all conditions in a Stark law exception) can result in the potential taint of large dollar claims from referring physicians.

Legislation has been proposed to create a self-disclosure process through which CMS could resolve voluntarily disclosed instances of noncompliance with the Stark law for a negotiated amount (H.R. 3556; this is expected to be included in the final form of a healthcare reform bill). Pending the enactment of such a process, hospitals and physicians should revisit their contracting and payment processes to ensure their compliance processes support all of the steps needed to comply with this law. Recent announcements of significant settlements of alleged referral law violations-including one involving improper payments by a hospital to physician employees ("Covenant Medical Center to Pay U.S. $4.5 Million to Resolve False Claims Act Allegations," Aug. 25, 2009,, an arena that usually has greater security and available legal protection-are sober reminders of the potential exposure hospitals face from noncompliance.

A hospital's compliance processes should include measures to ensure that any financial relationship between hospitals and physicians-however minor it may seem-be analyzed for compliance with a Stark law exception. Most exceptions will require at least the execution of a writing to document the arrangement, fair market value compensation that is not based on the volume or value of business referred between the parties, a term of one year or more, and commercial reasonability. 

Billing and audits. In 2010, Medicare contractor reforms that have been phased in throughout the country, as well as the first national Medicaid integrity program, will be fully implemented. As a result, hospitals and physicians will be dealing with a number of different contractors, including:

  • Unified Part A/Part B Medicare administrative contractors (MACs) for claims processing and review
  • Recovery audit contractors (RACs) with incentives to recover improper billings
  • Zone program integrity contractors (ZPICs) charged with mining data and uncovering Medicare fraud
  • A Medicaid integrity contractor (MIC) whose duty will be to review claims, mine data, and uncover Medicaid fraud

Although much attention surrounded providers' experience in the RAC demonstration project, that project actually resulted in a number of safeguards that are not binding on the ZPICs or MICs. These safeguards include:

  • Mandatory provider outreach activities
  • A restriction on the number of medical records requested for audit
  • A standard appeals process and allowance for a discussion period surrounding adverse findings
  • Restrictions on audit of claims that have been self-disclosed by the provider

It has been particularly difficult to obtain information on the MIC audit processes, because the first general CMS outreach on those efforts did not take place until July 2009. However, the current level of Medicaid spending, together with the Medicaid expansions discussed as part of healthcare reform proposals to cover additional uninsureds, indicate that hospitals and physicians may face significant exposure if their compliance efforts overlook their Medicaid billings and population.

The prospect of multiple contractors reviewing claims for recoupment and evidence of fraud presents a daunting compliance challenge for hospitals and physicians. Many hospitals have been undertaking self-audits and advance remediation in areas of contractor interest, and establishing internal procedures to ensure that contractor communications (records requests, audit findings, and denials) are promptly addressed and appeals or corrective action initiated.

Although physician claims are not the focus of the RAC demonstration project, they are subject to review by these contractors. Further, physicians employed by hospital systems may find that internal or external audits of hospital claims turn up errors that also implicate physician claims for the same services. Hospitals and physicians should cooperate in educational and compliance efforts to perform appropriate documentation of conditions and services, coding, and billing. These efforts should concentrate particularly on areas of focus for the RACs, as foreshadowed in the OIG annual Work Plan (, to control adverse audit outcomes, appeals, recoupment of funds, and potential creation of an aberrant practice and billing pattern that catches the attention of fraud investigators. 

In this context of the increasing audit and oversight, CMS is further expanding the list of hospital-acquired conditions (HACs) having Medicare payment implications, as well as the "never events" for which Medicare will not reimburse hospital or physician services. The prospect of lost reimbursement due to HACs and "never events," and the safety implications of these events, should compel hospitals to institute systems to ensure their affiliated physicians-whether employed or independent members of their medical staffs-follow practices that help prevent such events and promptly identify, classify, and remedy these events when they do occur.

Healthcare Reform Proposals
One of the thorniest discussions in the healthcare reform debate is on how to accomplish the seemingly mutually exclusive goals of cutting costs while increasing positive outcomes.  The following are common themes that have emerged, with examination of how proposed new payment structures and delivery mechanisms may change the way hospitals and physicians interact in a new healthcare market. 

Value-based purchasing. The premise of value-based purchasing is simple: Hospitals are paid financial incentives to improve the quality of care they deliver. The Senate Finance Committee reform bill would establish a Hospital Value-based Purchasing Program under which payments would begin to be adjusted in FFY13. Certain hospitals would be excluded from the program, including those that failed to report quality measures to CMS (as discussed below), those cited for deficiencies in care, and those not having sufficient numbers of patients with conditions related to the quality measures at issue under the program. 

CMS recently announced the results from the fourth year of the Hospital Quality Incentive Demonstration project, which began in 2003 and currently involves around 250 hospitals in 38 states ( Under this demonstration project, hospital performance was gauged on 30 nationally standardized quality measurements in five clinical areas: heart attack, coronary bypass graft, heart failure, pneumonia, and knee and hip replacement. According to CMS, participating hospitals raised their overall quality scores by an average of 17 percentage points. 

Based on these results, CMS has moved forward to expand value-based purchasing to venues beyond hospitals. CMS recently announced that five of the 10 large physician practices that are participating in the five-year Physician Group Practice Demonstration, designed to test physician performance on 32 quality improvement and cost containment measures, will share in $25.3 million in performance awards ( The awards are a marked increase over the $13.8 million awarded in 2008 and the $7.3 million awarded in 2007. 

Quality measure reporting. Of course, to implement programs such as those described above, accurate data are needed to measure such performance and improvement. Section 3002 of the Senate Finance Committee healthcare reform bill would extend payments under the Physician Quality Reporting Initiatives through 2012 (bonus payments under the program were previously extended through 2010).

CMS will continue collecting data under the pay-for-reporting programs for both hospitals and physicians. For FFY10, CMS will collect data on 44 quality measures for hospitals (up from 21 quality measures for FFY07). Hospitals that fail to submit quality data will continue to receive a reduction in IPPS payments. In addition, for FFY10, under the Physician Quality Reporting Initiative, CMS proposes collecting quality data from physicians on 172 measures-a significant increase over the 74 clinical quality measures for which CMS collected data in 2007, the initiative's first year. Congress also increased the financial incentives for physicians to report their performance on the 172 quality measures, from 1.5 percent of their allowed charges for covered professional services to 2 percent.

Preventable readmissions. Both House and Senate healthcare legislation proposals would require hospitals to address the issue of preventable readmissions-that is, patients who are discharged and subsequently need to be readmitted, because either treatment or coordination of postdischarge care was incomplete or ineffective (see Side-by-Side Comparison of Major Health Care Reform Proposals, The Kaiser Foundation, Under the Senate Committee on Health, Education, Labor, and Pensions (HELP) bill, hospitals would be required to report preventable readmission rates, and hospitals with high readmission rates would be required to work with local patient safety organizations to reduce the rate of readmission (Senate HELP bill, § 216). The bill would establish a hospital readmissions reduction program to track and reduce readmissions related to eight conditions with high volume or high rate of patient readmissions (or both). Under the House bill, both hospitals and postacute care providers with high rates of preventable hospital readmissions would receive lower payment rates due to ineffective care (see House Resolution 3200, § 1151).

New payment structures. Many of the proposed healthcare reforms seek to change the basis of payment from the volume of services rendered to the quality of the outcomes achieved. Others seek to alter the nature of the payments made-for example, by bundling services together and issuing a single payment for services rendered by multiple types of healthcare institutions and practitioners. These payment arrangements would require providers-hospitals, physicians, and postacute or other providers of care-to work together to administer the common payment among themselves and, in that process, encourage the development of efficient processes for care coordination. The more prevalent proposals and their potential implications for hospitals and physicians include bundled and capitation payments.

The House bill authorizes the public plan option to compensate participating providers under fee structures other than traditional fee-for-service schedules, including bundling of services and partial capitation (House Resolution 3200, § 224). The bill further directs that HHS develop a plan to implement bundled payments, and expands an existing demonstration project to including bundling of payments for hospitals and post-acute providers (House Resolution 3200, § 1152). The Senate Finance Committee's proposed bill would authorize a demonstration project to evaluate the use of bundled payments in providing integrated care to Medicaid beneficiaries (Senate Finance Committee Bill § 1673).

As noted above, CMS organized the Acute Care Episode Demonstration project to test the use of bundled payments. Under the demonstration project, CMS issues a single payment for both Medicare Part A and Part B services furnished in the course of an inpatient stay.

Under a capitation payment system, a single payment is made for either all care or a certain defined set of services required by a particular patient during a given period of time, regardless of the amount of care actually delivered. Such a system requires that healthcare providers work efficiently in delivering care. The danger is that care may be cut back as extraordinary events (or inefficiencies) exhaust the available payment.

A Massachusetts state panel addressed global capitation as a possible replacement for fee-for-service payment altogether, noting that although global capitation payments have been unsuccessfully attempted before, care would be taken during the transition period to such a system to safeguard access to care and prevent unintended consequences. A study undertaken by the RAND Corporation similarly recommended that the state undertake a series of payment reform steps, including bundled payment, hospital rate setting for all payers, rate regulation for academic medical centers, and elimination of payment for adverse events (Controlling Health Care Spending in Massachusetts: An Analysis of Options,

Any future capitation systems are likely to be accompanied by strong fraud rules to ensure that providers do not retain a profit at the expense of patient care and quality. Prior adverse experience with such payment arrangements a decade ago has taught providers that administration of care, particularly under capitation payment arrangements, requires sophisticated systems to define effective care in various scenarios-including preventive care-and to understand the cost of that care. 


How Hospitals and Physicians Should Prepare

The types of payment reforms and quality initiatives described above challenge hospitals and physicians to reach for an ideal in which their respective efforts working with each other-as well as with postacute and other providers, in some instances-are organized in a manner that ensures the providers:

  • Are educated in the most appropriate treatment protocols
  • Meet the quality standards being measured by payers
  • Avoid financial penalties in reimbursement rules for less-than-optimal performance
  • Coordinate their efforts around the patient to promote health outcomes that will allow the delivery of needed care within the constraints of bundled or capitation payments

Efforts to reach such an ideal should be supported by appropriate systems and documentation that not only promote good clinical practice, but also preserve a sufficient record to meet the demands of billing and fraud auditors.

The manner in which proposed healthcare reform legislation will assist in providers in these efforts remains unclear. Awaiting the clarification of such resources-and information from the many ongoing studies described above-providers should contemplate how their relationships can best be organized for the future, and how far they can step through the current maze of referral and reimbursement laws to achieve that organizational ideal. 


Kim H. Roeder is a partner, healthcare practices group, King & Spalding LLP, Atlanta (

Robert E. Waters is an associate, healthcare practices group, King & Spalding LLP, Washington, D.C.  (

Publication Date: Tuesday, December 01, 2009

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