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Hospital Owned Physician Practices - Phillip Macon
Hospital Owned Physician Practices - Phillip Macon
Phil Macon is the founder and president of J. P. Macon & Company located in Jackson, Mississippi. He has over twenty years experience in the health care industry, including Medicare and Medicaid Fraud and Abuse litigation support, corporate compliance, compensation opinions regarding pro-fessionals, financial, marketing, strategic planning, consulting and training.

His focus is in the broad area of profitability consulting to service sector industries, and those industries serving them. He specializes in Health Care (Physicians, Medical Groups and Hospitals). He is a recognized legal expert in the field of computerized physician accounts receivable systems, private inurement, excessive private benefit, physician compensation issues and is a third party reimbursement specialist.

Phil was the team leader of healthcare professionals who in 1998-99 developed a physician compensation system providing legal and ethical incentives to hospital-employed physician for a health care system employing approximately 35 physicians. This system is projected to lower physician labor cost by 20%.

Phil was the team leader on the provision of excessive private benefit and prohibited private inurement physician compensation opinions to a health care foundation, which was integral to it, successfully securing non-profit status in 1996. He also assisted the Vicksburg Family Medicine Clinic in its three year effort to secure the American Academy of Family Physicians' 1989 "Excellence in Patient Education" award.

He is a graduate of Jackson State University's School of Accounting and Millsaps College's Else School of Business. He holds degrees in accounting, business and marketing. He is a member of the National and Mississippi Chapters of the Medical Group Management Association, is a member of the American Compensation Association, is a member of the Health Care Compliance Association and is on Family Practice Management's Panel of Consultants.

Phil has published various articles regarding health care issues. His opinions and publications have appeared in both regional and national publi-cations such as Medical Economics, Mississippi Business Journal and Fam-ily Practice Management. He is a frequently invited lecturer and speaker on health care issues.

Contact Information
J. Phillip ("Phil") Macon, President
J. P. Macon & Company
3759 Crane Boulevard
Jackson, MS 39216-3606
Phone: 601-362-8282
Fax: 601-362-4706

Question 1 - Good Morning Phil. Welcome to HealthBond's Hosted Forum. Would you start this morning by bringing us up to date on the history of hospital owned physician practices? by HBInterview on January 29, 2001

Answer 1 - That is a good question. The real proliferation of hospital owned physician practices started with the emergence of two forces, one predominately rural and the other predominately urban.

First, was the change (substantial increase) in the cost based reimbursement rates associated with rural health clinics in the late 1980's. This completely removed the fiscal risk associated with such ventures for those more financially astute hospital entities predominately servicing Federal patients (Medicare and Medicaid). Hospitals transferred the fiscal risk of these ventures to the U. S. Treasury via their cost reports to Medicare (there were no cost containment efforts until the late 1990's).

Second, was the attempt of certain hospital systems to control their market share in the 1990's with purchases of physician owned medical practices in response to real or perceived managed care threats. This was an attempt by many hospitals to both vertically and horizontally integrate their health care delivery. The "Profit" premise was based on the assumption that physician owned medical practices were grossly miss-managed, did not benefit from the economies of scale the hospitals and did not have access to the lower cost of capital which hospitals did.

The most recent creditable information pertaining to the profitability of hospitable owned physician practices shows the average (mean) total cost is approximately (-21.86%) per dollar of revenue collected (Medical Group Management Association, "Cost Survey - 2000 Report Based on 1999 Data", Table 3.5d: Net Income (Loss), Page #46, Total Cost). This translates into a net loss, with financial support, of (-13.42%) per dollar of revenue collected and a net loss, without financial support, of (-18.90%) per dollar of revenue collected.

Less than 10% of hospital owned physician practices directly break even or make a profit. Never-the-less, I personally have observed a primary care medical practice can generate $4-$8 of revenue (lab, x-ray, outpatient surgery, home health care, nursing home care, durable medical equipment, etc.) for each $1 lost in indirect physician practice revenue depending on the delivery system of the hospital entity involved. The more services the less lost. by J. Phillip Macon on January 30, 2001
Question 2 - It seems just a few years ago that hospitals were buying physician practices right and left. Now, however, many are being sold back to the physician. Are hospital owned physician practices a fad or a trend? by HBInterview on January 29, 2001

Answer 2 - I would suppose the preverbal cup is either "half empty or half full" depending upon one's perception. Personally, I believe that hospital owned physician practices are a short-term fad and a long-term trend. The amateurs are being driven out of the markets leaving only those hospital systems that truly have both a strategic need for physicians in their communities and the sophistication to manage physicians.

Not to long ago pharmacist were licensed individuals who were predominately solo-proprietors. Today, they are still licensed individuals; but the majority of pharmacists are now employees of companies such as Eckerd's, Rite-Aid, Super-D, Wall-Mart, etc. The same open market and society forces are at play in the medical community. That is, an increased regulatory environment, spiraling cost of capitalizing and maintaining a business, increased competition and decreased reimbursements for medical care. More and more physicians desire to focus their efforts purely on directly practicing medicine and less on the time, it takes to manage non-medical business issues. Today's physicians are practicing harder (seeing more patients) to make the same compensation (Medical Group Management Association, "Physician Compensation and Production Survey - 2000 Report Based on 1999 Data").

It generally takes at least three years for a primary care medical practice to break even or become marginally profitable. Most hospital boards will not tolerate the loss of a department, for long, unless the department is generating enough profits to offset such losses. In healthcare, this is very tricky to prove because of the substantial laws governing the direct or indirect quantification of value associated with referrals from a physician's practice.

Health delivery systems have strategic needs/demands problems similar to utilities. Consider that it takes from eleven to thirteen years to build a physician (4-years undergraduate education + 4-years medical school + 1-year rotating internship + 2-4-years of residency). That is not much different from attempting to predict the electrical demand needs of a given population eleven to thirteen years out. Additionally, change the methodology of payment for such electrical demands (current deregulation in California) and the problem becomes more complex. I would suggest that health care is under similar pressures, considering the current regulatory climate of healthcare and the fiscal impact of the Balance Budget Act of 1997.

Many areas in America (rural and inner-city) find themselves unable to attract and retain physicians for a multiple reasons. Some systems are finding that the only way for them to maintain a presence in a community is to employ a physician in such a community and assume all the risk associated with such a venture. Some communities realize that they actually have to assume such risk by taxing themselves enough to sustain a physician's presence (see "A Model for Succesful Rural Practice", Family Practice Management, March - 2000, pages #41-44; adapted from Rural Health FYI, Summer 1999, vol. 21, No.3). by J. Phillip Macon on January 30, 2001
Question 3 - Are there any laws and/or penalties effecting the ownership of physician practices by hospitals?... If so, which parties are affected and what are the possible penalties? by HBInterview on January 29, 2001

Answer 3 - Yes, but knowledgeable individuals supported by professionals (legal, accounting, valuation and compensation specialists) manage these business risks successfully.

Some of the laws, to mention a few, are as follows:

Medicare and Medicaid Anti-kickback statutes [(Anti-kickback) Social Security Act § 1128B(b), 42 U.S.C. § 1320a-7b(b) (1) & (2)],

Stark-I & II, as amended [(Stark I & II) 42 U.S.C. § 1395nn, Omnibus Budget Reconciliation Act of 1989 (P.L. 101-239), § 1877(f) of the Social Security Act, § 13562 of the Omnibus Budget Reconciliation Act of 1993 (P.L. 103-66), § 152 of the Social Security Act Amendments of 1994 (P.L. 103-432)],

Student Loan Abatement [Student Loan Abatement) Internal Revenue Code§ 108(f)(2), 26 U.S.C. 108 Regulations].

Private inurement or a excessive private benefit {Internal Revenue Code Regulation §1.501(c)(3)-1(c)(2)].

In general, these laws relate to all parties involved in any prohibited transaction or prohibited relationship (physicians, related members of a physician immediate family, hospital management, hospital board members, etc.). Civil and monetary actions may be as high as $25,000 per incidence and disbarment from participation in the Medicare or Medicaid programs. Some of these laws may be deemed broken without the proof of any intent; simply, a proven pattern of abuse (i.e.: submission of Medicare Claim which up codes a procedure not supported by any medical service documentation).

Internal Revenue Service monetary penalties may be as much as 200% of the amount in question (excessive private benefit) in the form of a personal excise tax to the person receiving such an excessive private benefit.

There are criminal penalties in some instances (see U.S. v. McClatchey, U.S. Court of Appeals for the Tenth Circuit, No. 99-3274, June 13, 2000). by J. Phillip Macon on January 30, 2001
Question 4 - How is physician compensation determined as being "fair market value"? by HBInterview on January 30, 2001

Answer 4 - The determination of what constitutes unreasonable compensation is a facts and circumstances test due to the different and complex compensation arrangements that may be involved between hospitals and various providers (i.e.: physicians, nurse practitioners, physician assistants, etc.). The terms "fair market value" and "commercially reasonable" are interchangeable concerning provider compensation; provided, any such payments are paid in a manner compliant with applicable federal and state statutes and regulations as currently interpreted.

Most parties act and rely on the advise of a independent compensation specialist to determine the fair market value of any arrangement. This provides the parties in such transactions a "Reasonable Rebuttal Presumption of Innocence" defense of seeking and acting on expert advise in the event of any outside investigation or compliance inquiry.

Fair market value is generally defined as "The price that an asset would bring, as the result of bona fide bargaining between well-informed buyers and sellers, or the compensation that would be included in a service agreement, as the result of bona fide bargaining between well-informed parties to the agreement, on the date of acquisition of the asset or at the time of the service agreement. Usually the fair market price is the price at which bona fide sales have been consummated for assets of like type, quality, and quantity in a particular market at the time of acquisition, or the compensation that has been included in bona fide service agreements with comparable terms at the time of the agreement" [REG-PROP, MED-GUIDE 1998-1 MED-GUIDE-TB 45,972, Medicare and Medicaid Programs; Physicians’ Referrals to Health Care Entities With Which They Have Financial Relationships, (Jan. 09, 1998) PART 01 OF 03]; or the price at which property would change hands between a willing buyer and a willing seller, neither having to buy or sell, and both having reasonable knowledge of all the relevant facts [Internal Revenue Service Publication #526 - "Charitable Contribution"].

Commercially reasonable is generally defined as a compensation arrangement appearing to be a sensible, prudent business agreement, from the perspective of the particular parties involved, even in the absence of any potential referrals.

Compensation is generally defined as the direct annual payment on a W2, 1099, or K1 plus all voluntary salary reductions (i.e.: deferred employee benefit allowances such as a 401(k), 403(b), Section 125 Plan, personal and/or family health insurance, disability insurance, and life insurance) plus normal and reasonable benefits associated with documented services rendered. The amount should include all salaries, wages, bonuses, incentive payments, research stipends, honoraria, and distribution of profits only for those employed by for profit entities.

Benefits are generally defined as the annual amount paid to, paid on behalf of, or credited to providers of all employer contributions to retirement plans including defined benefit and contribution plans, 401(k), 403(b) and Keogh Plans, and any non-qualified funded retirement plan plus employer contributions to personal and/or family health insurance, disability insurance, and life insurance. Annual Benefits do not include any amounts for employer contributions to social security (Federal Insurance Contributions Act) or employer paid malpractice insurance, dues, memberships, license fees, professional meetings, travel associated with a business purpose or cost of continuing medical education. Such expenses are considered normal and reasonable cost of doing business by the entity employing such providers, unless otherwise specified. by J. Phillip Macon on January 30, 2001
Question 5 - What are some physician recruitment incentives hospitals normally use to locate and retain
physicians in their hospital owned clinics? by HBInterview on January 30, 2001

Answer 5 - Generally, hospitals will provide, either free (non-taxable) or at commercially reasonable terms, student loan assumption, business loans, income guarantees, general business overhead support, facilities, equipment, personnel, management services, relocation cost, family settlement assistance, etc. In most cases, this aid will take the form of a traditional loan at market rates with sustainable default penalties. In essence, a hospital acts like a bank. This is sometimes necessitated because many recently graduated physicians have a negative net worth and do not qualify for conventional loans.

In rare circumstances, this financial aid (loan) is forgiven over some period in return for practicing in the hospital's local market service area. For anything to be forgiven, there would have to be documented an undisputable and overwhelming specific public need for a particular physician (i.e.: higher than norm infant mortality, failure of a normal physician recruitment effort after a reasonable time, generally one year, practice location is in a Federally designated Health Professional Shortage Area, etc.). Any such aid forgiveness would have to be reported (1099) as income to the physician involved.

Additionally, some institutions are structured to assume and pay off a physician's medical school loans in a manner that is not taxable to the physician [Internal Revenue Code§ 108(f)(2), 26 U.S.C. 108 Regulations]. by J. Phillip Macon on January 30, 2001
Question 6 - What are some of the incentives a hospital may use to encourage physicians as employees to
work? by HBInterview on January 30, 2001

Answer 6 - First, let us talk about physician compensation as an incentive. Initially, many hospitals provided physicians with compensation guarantees similar to their recent taxable incomes. The effort and intent was to be fair. Unfortunately, fairness is subjective and thus, not very defensible. Today, fairness is moving to compensation concepts that are legal, logical and competitive. Thus, a defined "fair day's pay for a fair day's work".

Compensation guarantees are now being developed so that they may be compared to objective defensible measures of work depending upon the medical specialty; such as, but not limited to patient encounters, Relative Value Units, hourly, daily or shift rates. In most cases, guarantees are being replaced with a concept of total compensation made up of the greater of fixed minimum compensation or variable compensation based upon some objective measure of work. This is conceptually similar to a private practice where physicians have a draw against bonuses of profits.

Beside compensation, physicians value the inclusion of their opinions in anything effecting patient care. Thus, astute hospital systems are involving physicians in setting the standards or evaluating the resource solutions of anything effecting patient care; such as, but not limited to, telephone systems, electronic medical records, patient scheduling systems, nursing staff utilization, etc.

Other physicians frequently cited advantages of working for a hospital is more time to focus upon patient care, more time for family and more time for medical continuing education. by J. Phillip Macon on January 30, 2001
Question 7 - How has the BBA of 1997 affected hospital owned physician practices, if at all? by HBInterview on January 30, 2001

Answer 7 - There is an old saying, "When confused, follow the money". So, let us follow the money.

The Balanced Budget Act of 1997 ("BBA-97") essentially removed the concept of "full cost reimbursement" (Medicare Provider Based Designation) and replaced it with a concept of paying only a finite amount for healthcare delivery (Prospective Pay system ["PPS"]), except in a few circumstances.

It was the Health Care Financing Administration's (HCFA's) policy, until BBA-97, that a hospital could treat an acquired physician practice as either Provider Based or freestanding. The hospital's decision on how to treat the practice affected the amount of payment received by the hospital for physician services rendered in the practice. In essence, the hospital treated the purchased physician practice as if it were a hospital outpatient department.

The Office of Inspector General's ("OIG") Office of Evaluation and Inspections ("OEI"), a component of OIG within the Department of Health and Human Services ("HHS"), estimated that 62 percent of for-profit and not-for-profit general, short-term hospitals purchased or owned a physician practice (OEI-05-98-00100 SEPTEMBER 1999). Using only American Hospital Association data gathered in 1996, OEI estimates decreased to 51 percent. Other information also indicates that ownership of physician practices by hospitals was significant. According to the Health Care Advisory Board, a group that serves chief executives and senior administrators of more than 1,400 hospitals and health systems, the number of physician practices owned or managed by a hospital rose from 4,126 practices in 1993 to 11,234 practices in 1995, an increase of 172 percent. In another study, the Center for Healthcare Industry Performance Studies surveyed hospitals, insurance companies, physician management companies and others about recent purchases of physician practices. Based on the results of their survey, hospitals were responsible for 83 percent of the purchased practices they reviewed.

A simple premise is that these hospitals would not have developed these relationships with physicians unless they could fund them. They funded them via the Provider Based Designation and passed any losses (i.e.: cost) through to the Federal Treasury on their Medicare and Medicaid cost reports.

OEI concluded that Provider Based status increases beneficiary coinsurance with questionable benefit to Medicare and its beneficiaries. The result of BBA-97 is estimated to remove $100-$120 Billion Dollars from the Medicare and Medicaid budgets over a ten year period. This has caused all hospitals to evaluate their basic healthcare deliver mission; including owning and operating physician practices because losses (i.e.: cost) can no longer be passed through and be reimbursed. by J. Phillip Macon on February 2, 2001
Question 8 - Is there any current legislation "in the works" that could affect hospital owned practices either positively or negatively? by HBInterview on January 30, 2001

Answer 8 - Of course; but it is one thing to introduce legislation; it is another thing to pass such legislation.

The healthcare industry in general, and the American Hospital Association specifically, produced one of the most comprehensive and professional lobbying effort to reverse or diminish the fiscal effects of the Balanced Budget Act of 1997 ("BBA-97") with very limited results.

The premise of continued shrinking and changing of healthcare delivery systems may be assumed, if one looks at the effect of the introduction of Medicare's Diagnosis Related Group ("DRG") reimbursement methodology to Hospitals in 1984. DRG implementation is estimated to have reduced hospital capacity by 20%. BBA-97 may have similar results.

The Presidential and Congressional elections of 2000 showed the American Public is essentially divided in its fundamental public policy outlook (i.e.: What is the need? . . . How do we resource it?). So, we will have to wait and see if any fundamental healthcare policy legislation is passed in the near term. by J. Phillip Macon on February 2, 2001
Question 9 - Are there anti-trust concerns with physician owned practices? by HBInterview on January 30, 2001

Answer 9 - In theory, yes; but this is a very slippery slope. The Federal Trade commission ("FTC") has been reluctant in the past to enter into healthcare anti-trust actions on its own. In general, the FTC reflects the philosophy of the current administration. In my experience, most actions are the result of a private (civil) action brought on by a hospital, physician, physician group, etc.

It is very hard to get around the concept of "community benefit" vs. "personal damage" in such civil actions. So, are there risks? Certainly; but, perhaps worth taking.

According to the Health Care Advisory Board, a group that serves chief executives and senior administrators of more than 1,400 hospitals and health systems, the number of physician practices owned or managed by a hospital rose from 4,126 practices in 1993 to 11,234 practices in 1995, an increase of 172 percent. by J. Phillip Macon on February 2, 2001
Question 10 - How can both physicians and hospitals benefit from hospital owned practices? by HBInterview on January 31, 2001

Answer 10 - Simplistically, each benefits by focusing on what they do best. That is physicians practice medicine and hospitals provide them the resources to do such.

Hospitals gain or maintain market share increasing total revenues in an industry having a profit margin of 3%-6%, provide capital at rates approximately 1%-3% below what physician can borrow at, have access, can manage and are used to paying for educated and trained personnel which minimize the business risk in the ever growing complexity of healthcare delivery.

Physicians avoid the capitalization risk associated with starting a medical practice ($250,000-$500,000), are paid competitively (1999 mean total annual compensation for Family Medicine was $165,724, starting salary was $134,633) work less (approximately 10-15 hours per week are spent on non-medical business matters) and can sometime have their medical student loans paid off. As one physician told me, "I know where I am going to be on Christmas Eve, with my Family". by J. Phillip Macon on February 2, 2001
Question 11 - Are there successful models out there? by HBInterview on January 31, 2001

Answer 11 - Yes. The Duke University System; The University of Mississippi Medical Center, Jackson, MS; Rush Health Systems, Meridian, MS and Greenwood Leflore Hospital, Greenwood, MS, to name a few. by J. Phillip Macon on February 2, 2001
Question 12 - What barriers have to be overcome to create these successful models? by HBInterview on January 31, 2001

Answer 12 - Strategically, getting the hospital board to understand the long-term nature of such ventures, so that they may balance the risk of the capital investment against the revenue rewards of increased utilization (i.e.: referrals).

Tactically, the attraction and retention of competent clinical administration personnel; the development of legal, logical and competitive physician compensation methodologies; and the management of the significant fraud and abuse compliance risk associated with such ventures. by J. Phillip Macon on February 2, 2001
Question 13 - Before we get to the last question I want to thank you for spending time with the forum this week.

If look into your "crystal ball", what do you see as coming trends for hospital based physician practices? by HBInterview on February 2, 2001

Answer 13 - I see continued exploration of relationships between physicians and hospitals; some working and some not. This is primarily due to the ever-increasing complexity of healthcare delivery.

The changes required by HIPPA alone, are estimated to have larger fiscal impact to the healthcare delivery system than those changes brought about by the Year-2000. Year-2000 changes largely ignored physicians. The required changes of HIPPA will affect physicians proportionally equal to all other providers of healthcare. The incremental cost of capital advantage hospitals have makes them ideal candidates for relationship (buy-out and employment) with physicians.

Those hospital systems able to maintain Provider Based status (Critical Access Hospitals and those other Medicare qualified hospitals under 50 licensed acute care beds) and avoid the Prospective Payment System ("PPS") will continue to be able to pass along any losses (legitimate cost) through their cost reports. Thus, the fiscal risk associated with such ventures is back up by the full faith and capacity of the U. S. Treasury.

They, along with teaching hospitals, are better able to manage cost and maintain quality. The twin forces at play in all future healthcare delivery scenarios. by J. Phillip Macon on February 2, 2001

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