Congress is expected to consider new limits on physician-ownership of hospitals early in 2009.  Those involved with existing or planned physician-owned hospitals should anticipate these changes and consider responsive action.

What is the future of physician-owned hospitals?  This question likely will be answered shortly after the New Year as a predominately Democratic Congress and a President who is sympathetic to the argument that physician ownership of hospitals leads to over-utilization of resources and higher health care costs (and is also faced with millions of uninsured Americans and an economy in free fall) take office.

Given the economy and, more importantly, the political environment in Washington, D.C., we expect significant legislative proposals aimed at physician-owned hospitals.  In a recently published health care reform White Paper, Senator Max Baucus (D-MT) highlighted physician-owned hospitals as a business model that may “place financial interests ahead of the needs of patients and the American taxpayer.”  According to Senator Baucus, “[n]o serious effort at reform can ignore the potential gaming that conflicts may create.” 

History of Regulation

Physician ownership of hospitals implicates the Stark Law through the creation of a financial relationship between the physician and the facility.  However, a long-standing exception to the law—the so-called “whole hospital exception”—has allowed physicians to own hospitals and refer to them without violating the general prohibition.

Since the early part of this decade Congress and the Centers for Medicare and Medicaid Services (CMS) have attempted to slow the growth of physician-owned hospitals and, more recently, to eliminate physician ownership all together.

In 2003, Congress amended the Stark Law with language that, in practice, placed an 18-month moratorium on the development of any “specialty hospitals” while the impact of physician-owned hospitals on community hospitals was studied by various agencies.  The moratorium allowed for continued physician ownership and referrals to existing facilities as well as those hospitals that were then “under development.”  Following the moratorium in June of 2005, the CMS imposed its own six-month moratorium on the certification of physician-owned facilities in order to conduct several additional studies and report to Congress on issues such as payment rate reforms for inpatient hospital services, payment rate reforms for ambulatory surgery centers, procedures for certifying new specialty hospitals and review of the U.S. Emergency Medical Treatment and Active Labor Act (EMTALA) issues for specialty hospitals.

These successive moratoriums had the desired effect of chilling development of physician-owned specialty hospitals during the applicable periods.  However, when the Republican-controlled Congress of the time refused to act further on specialty hospitals in Medicare legislation enacted in late 2006, many observers viewed the issue as resolved, and in the favor of allowing physicians to own specialty hospitals.  Promoters of specialty hospitals revived development plans, and physician-owned facilities once again appeared to be on the rise.

The Democratic takeover of Congress in 2007 again shifted the balance, this time in favor of those opposing physician-ownership.  In summer 2007, the U.S. House of Representatives approved the Children’s Health and Medicare Protection Act of 2007 (CHAMP).  The main focus of CHAMP was to extend children’s health insurance benefits under the federal State Children’s Health Insurance Program (SCHIP) program; however, the bill also included provisions that would have amended the Stark Law effectively halting the development of any physician-owned hospitals after date of enactment of the legislation.  The legislation would have eliminated the whole hospital exception, other than for existing facilities.  Although existing physician-owned hospitals would be permitted to continue without violating the law, the CHAMP legislation imposed additional requirements on these hospitals to be able to continue to qualify for the whole hospital exception.  Specifically, to continue to qualify for the exception, existing facilities, aggregate physician ownership would be limited to 40 percent of the total value of investment interests held in the hospital; individual physician ownership would have been limited to 2 percent of such value.  Most notably, the legislation would require that existing facilities not increase the number of operating rooms or beds at any time after the date of enactment.  The children’s health insurance provisions of the bill were heavily debated in Congress and became a political “hot potato.”  As such, neither the CHAMP bill nor the Stark Law provisions advanced further in 2007.

Opponents of physician-owned hospitals made further attempts to advance restrictions in 2008.  Earlier this year, the question of physician ownership re-emerged, this time in the Military Construction and Veterans Affairs and Related Agencies Appropriations Act of 2008.  This bill, which was approved by the U.S. Senate, again would have amended the Stark Law and halted development of physician owned hospitals after a certain date.  Existing hospitals that had physician ownership and were Medicare certified as of September 1, 2008, would have been grandfathered, but subject to the same types of restrictions found in the CHAMP bill.  Once again, the Stark Law provisions failed to advance in 2008. 

Members of Congress who favor limits on physician ownership appear determined to revive the issue again in 2009.  Senators Baucus and Grassley (R-IA), as well as Representative Pete Stark (D-CA), the original law’s namesake, all have announced their intentions to seek new restrictions on physician-owned hospitals.  Although these congressional leaders have announced similar plans in the past, enhanced Democratic majorities and control of the White House now make the prospects for legislative changes more likely. 

Characteristics of Future Stark Law Changes

If legislation is enacted, what will it look like?  It is hard to say with absolute certainty, but if past is prologue we expect opponents of physician-owned hospitals to develop legislation designed to stop development of any new physician-owned facilities that intend to bill Medicare for hospital services. 

There are approximately 180 physician-owned hospitals in the United States (American Hospital Association, TrendWatch (April 2008)).  That said, since there likely are enough proponents of these facilities in Congress, it is anticipated that existing hospitals (i.e., those that have physician investors, are licensed and are Medicare certified) will survive any new legislation.  However, based on past legislative attempts at curbing physician ownership, it is likely that these protections will include limits on aggregate and individual physician ownership. 

A significant question is whether or not Congress will grandfather hospital facilities that are under development and/or that are operational but are not Medicare certified (i.e., do not have a Medicare provider number) as of the date of enactment of any future legislation.  There, likely, are millions of dollars at stake when one considers that, as of April 2008, there were approximately 85 physician-owned facilities in various stages of physical development, not to mention those deals that have been financed, but on which construction has not commenced (Id.)  How will these facilities be treated?  It is possible that these deals will not survive new legislation.  Neither of the most recent attempts at legislation included provisions grandfathering hospitals that were under development, and if the 2003 moratorium is instructive, unless bright lines are drawn as to what constitutes a hospital that is “under development,” Congress and the CMS will be concerned about hospitals, physicians and developers engaging in “hurry up” deals in order to meet legislative deadlines.  In addition, a sentiment has been expressed by opponents of physician-owned hospitals that “fair warning” already has been given that restrictive legislation could be enacted, thereby eliminating the need for protections for hospitals “under development.”

Additionally, as was the case with the 2007 and 2008 bills, it is expected that any future legislation may propose caps on the expansion of existing facilities, including limits on new operating rooms, procedure rooms and beds.

What Needs to be Done?

Depending upon the stage at which a hospital and its physician investors currently find themselves, strategies will differ significantly. 

Existing hospitals (i.e., those that are operational and Medicare certified) and their investors likely will need to do little, unless there is a concern relative to surgical/procedural or bed capacity, in which case such facilities may want to consider expanding assuming that they are not capital constrained or there are not overwhelming administrative or regulatory hurdles to expansion.  In the event that future legislation were to cap physician ownership at 40 percent or less, certain entities may need to find a capital partner to purchase equity interests from divesting physicians.  These hospitals also may want to use this time as an opportunity to consider what should be done with inactive physician investors and/or seek investment by physicians who might otherwise be accretive to the enterprise.

Physicians who own interests in facilities that are under development, or are not yet Medicare certified, are faced with more vexing issues—continue with development or not?  The answer depends on how far along the hospital is in the development phase.  As uncertain is the prospect of legislation, the timing and “cut off” is even more uncertain.  A new facility generally will take, at least, 90 days following the date it opens to become Medicare certified.  Thus, any facility that is under development should determine its ability to become Medicare certified during the first or second quarter of 2009. 

Other strategies may include consideration of physician-driven management arrangements or investment by physicians in hospital equipment and/or real property.  In doing so, physician investors should consider the impact of recent changes in the Stark law rules related to “under arrangements” structures and rental arrangements.

In addition, it is recommended that stakeholders engage with lawmakers to apprise them of individual circumstances that should be reflected in any legislative proposals that may be forthcoming.

Conclusion

There are a great number of unanswered questions relative to this issue.  We believe many of those questions will be answered soon.  The change, if any, that ensues will present challenges for some, and opportunities for others.