The sequels to the Stark Law continue with the issuance of “Stark III,” which will be officially published in the September 5, 2007 Federal Register (but was released late on August 28) and will become effective on December 4, 2007. The Stark Law and its regulations, with the hundreds of pages of accompanying commentary often crossreferencing the various installments, along with additional Stark Law pronouncements published in various other contexts (such as the proposed 2008 Physician Fee Schedule issued in July 2007), have become some of the most complex rules in the healthcare industry.

This Client Bulletin highlights the major changes and clarifications in Stark III. For additional resources, please see the Bricker & Eckler Fraud and Abuse Resource webpage:

Physician Recruitment (42 CFR 411.357(e))

On the surface, it appears this Stark regulation was changed more than any other, although most of the changes address narrow and sometimes rare situations:

  • Practice Restrictions. CMS modified the prohibition against “additional practice restrictions” to now prohibit “practice restrictions that unreasonably restrict the recruited physician’s ability to practice medicine in the geographic area served by the hospital.” However, despite this change, it is unlikely that non-compete covenants would now be permitted. The commentary, as discussed below, does give some examples of permissible restrictions.
  • Geographic Area Served by the Hospital.” CMS attempted to expand the definitions of the areas into which a recruit’s medical practice must be located (Stark uses the term “geographic area served by the hospital”).

However, it appears CMS only addressed rare situations – e.g., (1) when a hospital cannot achieve 75% patient origin for any combination of zip codes (such as a hospital that gets patients from across the country); and (2) when there is a zip code from which the hospital drew no patients but is surrounded by zip codes that achieve the 75% patient origin.

  • Rural Hospitals. For hospitals and recruits in rural areas (defined as any area outside of a metropolitan statistical area (MSA)), several aspects of the recruitment exception have been relaxed:
    • The “geographic area served by the hospital” into which a recruit must relocate his or her medical practice is now defined as the contiguous zip codes from which the hospital draws 90% of its inpatients (instead of 75% for urban hospitals)
    • A recruit can relocate his or her medical practice outside of the “geographic area served by the hospital” if the hospital obtains an advisory opinion confirming the demonstrated need for the recruit in that location.
    • The limitation to only “additional incremental expenses” in income guarantee calculations is relaxed if the recruit is replacing a physician who, for the 12 months prior, retired, relocated or died. In these situations, the income guarantee calculation can alternatively include the lesser of either (i) the recruit’s per capita share of total expenses; or (ii) 20% of the total expenses.
  • Relocation Exceptions. A recruit does not have to meet the relocation requirement if he or she was employed full time for at least two years immediately prior to the recruitment arrangement by a federal or state prison, by a government agency that serves active or veteran military personnel or by a facility of the Indian Health Service. Also, a recruit can be exempted from the relocation requirement if it is deemed in a Stark advisory opinion that the recruit does not have an established medical practice that serves or could serve a significant number of patients of the recruiting hospital.
  • CMS Commentary. In the preamble comments from CMS, several areas of interest were addressed which did not result in changes to the regulations but do give insight as to CMS’ view, including:
    • CMS stated that revenue guarantees, gross income guarantees or any variations all counted as a form of an income guarantee subject to the “additional incremental costs” limitation. Otherwise, CMS rebuffed requests to relax the “additional incremental costs” limitation other than as described above for recruiting a replacement physician in rural areas.
    • CMS identified examples of restrictions that a practice would be allowed to impose on a recruit joining the group, such as: patient non-solicitations, repayment of losses, and, in some cases, liquidated damages.
    • CMS indicated that the regulations do not prohibit a hospital from requiring a physician practice to guarantee repayment of recruitment loans made to the recruited physician. CMS indicated, however, that if such provisions were included in the recruitment agreement and not enforced or if they were used to shield a recruited physician from any real liability, these situations could present “significant risk” of noncompliance with fraud and abuse laws.
    • CMS described types of expenses that a hospital could permissibly reimburse a group practice as part of the “actual costs incurred by the … physician practice in recruiting the new physician” as including: headhunter fees, tail malpractice insurance from the physician’s prior practice, moving expenses, airfare, hotels and other costs with visits from by the recruited physician and his or her family.
    • CMS expressly declined to modify the Stark exceptions to allow a hospital to assist a physician practice in recruiting a non-physician practitioner, finding such arrangements to have a risk of abuse.

Retention Payments in Underserved Areas (42 CFR 411.357(t))

A previously-promulgated Stark exception permitted retention payments to a physician made by a hospital or Federally Qualified Health Center (FQHC) located in a health professional shortage area (or “HPSA”) under certain circumstances. Stark III expands this exception as follows:

  • Previously, to qualify for the exception the hospital or FQHC had to be located in a HPSA – this is no longer required. Rather, under Stark III, the physician receiving the retention payments must satisfy one of the following: (1) the physician’s current medical practice must be located in a HPSA (regardless of whether the HPSA has been designated for physicians in the retained physician’s specialty) or (2) at least 75% of the physician patients either reside in a “major underserved area” (or “MUA”) or are members of a “major underserved population” (or “MUP”).
  • Stark III adds rural health clinics as entities that may make retention payments to physicians. Previously, only a hospital or FQHC could make payments under this exception.
  • Retention payments may now be made to a physician who has an offer of employment elsewhere. Previously, the exception was limited to physicians who had received recruitment (not employment) offers. Also, the offer no longer has to be in writing so long as the recruited physician certifies in writing that he or she has a bona fide employment or recruitment offer.
  • Previously, the physician had to have a recruitment offer from a hospital or FQHC. Under Stark III, the recruitment or employment offer may now be from an academic medical center, physician organization, or rural health clinic, in addition to a hospital or FQHC.

Rental of Office Space and Equipment (42 CFR 411.357(a) and (b))

Stark III does not make any substantive changes to regulations setting forth the space and equipment lease exceptions; however, the preamble comments from CMS provided some important clarifications regarding amendments to these leases.

  • Amendment requirements. When a lease is amended, the lease as amended must comply with the lease exception requirements, i.e., (1) be set in advance, (2) be of fair market value, (3) not be determined in a manner that takes into account the volume or value of referrals or other business generated, and (4) must have a term for at least one year. However, CMS explains that an amended lease need not continue for an additional one year after amendment if the original termination date would end sooner; an amended lease may terminate at the end of one year from original inception (assuming that was the lease’s original term).
  • No amendment of rental charges. CMS notes that any change to the rental charges including changes to the methodology for calculating rental charges may jeopardize compliance with the requirement that the rent be set in advance. CMS states: “parties may not change the rental charges at any time during the term of the agreement” (emphasis added). Accordingly, if the parties wish to change the rental charges, the parties must terminate the lease and enter into a new lease. This may only occur after the first year of the original lease term. The new lease must meet all of the elements of the relevant exception.
  • Other amendments. Parties may amend a lease during the first year as long as the rental charges are not changed and all other requirements of the exception are satisfied.
  • New lease after early termination. The prohibition on entering a new lease in the first year of a lease agreement applies only to the same office space. For example, it is permissible to enter into a lease for office space, terminate the lease after four months and then immediately enter into new office space lease at a different location.
  • Restrictions on office sharing. In response to questions about physician office sharing arrangements, CMS clarified that providers could not rely on the fair market value exception for space or equipment leases but must satisfy the applicable lease exception. The space and equipment lease exceptions both contain a requirement that the lessee have exclusive use of the space or equipment when the space or equipment is being leased. CMS stated that “in effect, §411.357(a)(3) and (b)(4) require that space and equipment leases be for established blocks of time.” CMS went on to clarify that common areas may be shared if the rent is appropriately prorated. Common areas are described as including foyers, central waiting rooms, break rooms, vending areas, and hallways to weigh patients or to draw fluid samples. Exam rooms may not be shared. Non-exclusive arrangements do not satisfy the requirements of the space or equipment lease exceptions. This clarification may cause many providers to review office sharing arrangements.

Personal Services Arrangements (42 CFR 411.357(d))

Several changes and clarifications were made to the personal services exception.

  • Amendments. In response to a question regarding amending personal services arrangements, CMS stated: “A personal service contract can be amended in the same manner as an office space or equipment lease...” (see discussion above). Thus, amendments to the compensation under a personal services arrangement appear to be strictly prohibited at “any time during the term of the agreement.” The parties can terminate the personal services arrangement and enter into a new one with different compensation, but this may only be done after the first year of the arrangement.
  • Holdover Clauses. CMS modified the regulation to allow a “holdover” for an expired agreement, so long as the terms of the original agreement are maintained, for up to six months following expiration. This change affords personal services arrangements the same protection as a lease when it continues after termination.
  • FMV Definition. CMS eliminated a “safe harbor” to the definition of “fair market value” within the personal services arrangement exception. Use of the safe harbor was not mandatory and hospitals could establish FMV through different methods; in fact, it is doubtful whether many hospitals ever used the safe harbor anyway. The eliminated safe harbor protected hourly compensation if the amount was based on either the average hourly rate for emergency room physician services in the relevant physician market or the average of the 50th percentile national compensation level for physicians in the same specialty using four of six designated surveys. CMS concluded that the methodologies for calculating FMV under this safe harbor rendered it impractical and, therefore, it is eliminated in Stark III. Personal services arrangements, of course, must still satisfy the FMV requirement.

Physicians now “Stand in the Shoes” of Group Practices (42 CFR 411.354(c)(2))

CMS confirmed that many people find the previously- promulgated regulation on “indirect compensation arrangements” to be difficult to understand and to apply. Additionally, CMS had concerns that the definition was being construed too narrowly. As a result, Stark III deems a physician to have a direct compensation arrangement with a DHS entity if the only intervening entity between the physician and the DHS entity is his or her “physician organization.” “Physician organization” is a new defined term, which includes the referring physician’s professional corporation, physician practice, or group practice. That is, a physician will be deemed to “stand in the shoes” of the physician organization with which he or she has a direct financial relationship.

When a physician stands in the shoes of his or her physician organization, he or she will be deemed to have the same compensation arrangement (with the same parties and on the same terms) as the physician organization has with the DHS entity. Thus, a compensation arrangement between a hospital and a physician group, which previously appeared to create only an indirect compensation arrangement between the hospital and the physicians in the group, is now considered to be a direct compensation relationship between the hospital and each physician in the group.

Importantly, existing arrangements which were structured to satisfy the requirements of the indirect compensation arrangement exception and were entered into and compliant prior to the publication date of Stark III (September 5, 2007) need not be amended during the original term of the arrangement or the current renewal term. All other indirect compensation arrangements must be analyzed under the “stand in the shoes” provision, and if a direct compensation arrangement exists under the new rules, the arrangement must satisfy a direct compensation arrangement exception by December 4, 2007, the effective date of Stark III.

Nonmonetary Compensation Exception (42 CFR 411.357(k))

CMS made two substantive changes to this exception. First, CMS will allow entities with a formal medical staff to have one medical staff appreciation function (such as a holiday party) for the entire medical staff each year in addition to the dollar limitation of $300 plus CPI. Second, CMS created a “cure” mechanism if an entity inadvertently exceeds the dollar limitation by no more than 50% during a calendar year. In providing this new clause, CMS stated that it expected an entity to have the appropriate tracking mechanisms in place to track gifts and nonmonetary compensation to medical staff members. However, under this new provision, the entity may avoid the serious consequences of a Stark violation by having the physician repay the excess amount within the earlier of (1) the end of the calendar year in which the excess nonmonetary compensation was received or (2) 180 days from the date the excess compensation was received. An entity may only use this provision once every three years with respect to the same physicians. CMS cautioned that if an entity becomes aware that it provided excess compensation to a physician under this provision and intends to cure the problem by use of this new provision, the entity should delay any billing or claims submission for the physician’s DHS referrals until after the physician has returned the nonmonetary compensation (or the fair market value equivalent amount).

Professional Courtesy (42 CFR 411.357(s))

CMS clarified that this exception only applies to hospitals or entities with formal medical staffs. CMS also eliminated the requirement that providers provide notice to the insurer that the provider is waiving all or part of a coinsurance. However, CMS cautioned that it believes such notification would be prudent and in fact may be required by some insurers.

Charitable Donations by a Physician (42 CFR 411.357(j))

Stark III now provides that a physician may not “offer” a charitable donation to a DHS entity in any manner that takes into account the volume or value of referrals. Previously, the language used was that such a donation could not be “made” by the physician. CMS apparently intends to correct the overly broad interpretation of the previous language that would have prohibited a physician’s improper donation irrespective of whether the entity had knowledge of the improper purpose of such donation.

Compliance Training (42 CFR 411.357(o))

In the past, CMS has stated that an entity may not provide CME to physicians unless the value of the program met another exception. The compliance training exception has been changed to allow hospitals to provide compliance training to physicians and have the program provide CME credit to physicians if the primary purpose of the training program is compliance.

Fair Market Value Compensation (42 CFR 411.357(l))

The exception was amended to apply to compensation provided to a physician from an entity and to compensation provided to an entity from a physician. CMS also clarified that the fair market value exception is not applicable to leases for space or equipment.

2008 Proposed Physician Fee Schedule

Changes to the Stark regulations were also proposed in the draft 2008 Physician Fee Schedule published in July. These proposed changes would have a significant impact upon the use of “under arrangements,” among other things. Our previous Client Bulletin on these proposed changes is available at http://www. Please note that Stark III does not incorporate many of these additional proposed changes. We expect the final 2008 Physician Fee Schedule to be published later this fall and this may, once again, result in revisions to the final Stark regulations overall. Hospitals and other interested health care facilities should be aware of the additional changes in the forthcoming 2008 Physician Fee Schedule.