[Federal Register Volume 63, Number 6 (Friday, January 9, 1998)]
[Proposed Rules]
[Pages 1659-1728]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 98-282]



  Federal Register / Vol. 63, No. 6 / Friday, January 9, 1998 / 
Proposed Rules  

[[Page 1659]]



DEPARTMENT OF HEALTH AND HUMAN SERVICES

Health Care Financing Administration

42 CFR Parts 411, 424, 435, and 455

[HCFA-1809-P]
RIN 0938-AG80


Medicare and Medicaid Programs; Physicians' Referrals to Health 
Care Entities With Which They Have Financial Relationships

AGENCY: Health Care Financing Administration (HCFA), HHS.

ACTION: Proposed rule.

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SUMMARY: This proposed rule would incorporate into regulations the 
provisions of sections 1877 and 1903(s) of the Social Security Act. 
Under section 1877, if a physician or a member of a physician's 
immediate family has a financial relationship with a health care 
entity, the physician may not make referrals to that entity for the 
furnishing of designated health services under the Medicare program, 
unless certain exceptions apply. The following services are designated 
health services:
     Clinical laboratory services.
     Physical therapy services.
     Occupational therapy services.
     Radiology services, including magnetic resonance imaging, 
computerized axial tomography scans, and ultrasound services.
     Radiation therapy services and supplies.
     Durable medical equipment and supplies.
     Parenteral and enteral nutrients, equipment, and supplies.
     Prosthetics, orthotics, and prosthetic devices and 
supplies.
     Home health services.
     Outpatient prescription drugs.
     Inpatient and outpatient hospital services.
    In addition, section 1877 provides that an entity may not present 
or cause to be presented a Medicare claim or bill to any individual, 
third party payer, or other entity for designated health services 
furnished under a prohibited referral, nor may the Secretary make 
payment for a designated health service furnished under a prohibited 
referral.
    Section 1903(s) of the Social Security Act extended aspects of the 
referral prohibition to the Medicaid program. It denies payment under 
the Medicaid program to a State for certain expenditures for designated 
health services. Payment would be denied if the services are furnished 
to an individual on the basis of a physician referral that would result 
in the denial of payment for the services under Medicare if Medicare 
covered the services to the same extent and under the same terms and 
conditions as under the State plan.
    This proposed rule incorporates these statutory provisions into the 
Medicare and Medicaid regulations and interprets certain aspects of the 
law. The proposed rule is based on the provisions of section 1903(s) 
and section 1877 of the Social Security Act, as amended by section 
13562 of the Omnibus Budget Reconciliation Act of 1993, and by section 
152 of the Social Security Act Amendments of 1994.

DATES: Comments will be considered if we receive them at the 
appropriate address, as provided below, no later than 5 p.m. on March 
10, 1998. We will also consider comments that we received in response 
to the final rule with comment period, ``Physician Financial 
Relationships With, and Referrals to, Health Care Entities That Furnish 
Clinical Laboratory Services and Financial Relationship Reporting 
Requirements,'' which we published in the Federal Register on August 
14, 1995 (60 FR 41914).

ADDRESSES: Mail written comments (1 original and 3 copies) to the 
following address: Health Care Financing Administration, Department of 
Health and Human Services, Attention: HCFA-1809-P, P.O. Box 26688, 
Baltimore, MD 21207.
    If you prefer, you may deliver your written comments (1 original 
and 3 copies) to one of the following addresses:

Room 309-G, Hubert H. Humphrey Building, 200 Independence Avenue, SW., 
Washington, DC 20201, or
Room C5-09-26, 7500 Security Boulevard, Baltimore, MD 21244-1850.

    Comments may also be submitted electronically to the following e-
mail address: hcfa1809p.hcfa.gov. E-mail comments must include the full 
name and address of the sender and must be submitted to the referenced 
address in order to be considered. All comments must be incorporated in 
the e-mail message because we may not be able to access attachments. 
Because of staffing and resource limitations, we cannot accept comments 
by facsimile (FAX) transmission. In commenting, please refer to file 
code HCFA-1809-P. Comments received timely will be available for public 
inspection as they are received, generally beginning approximately 3 
weeks after publication of a document, in Room 309-G of the 
Department's offices at 200 Independence Avenue, SW., Washington, DC, 
on Monday through Friday of each week from 8:30 a.m. to 5 p.m. (phone: 
(202) 690-7890).
    Copies: To order copies of the Federal Register containing this 
document, send your request to: New Orders, Superintendent of 
Documents, P.O. Box 371954, Pittsburgh, PA 15250-7954. Specify the date 
of the issue requested and enclose a check or money order payable to 
the Superintendent of Documents, or enclose your Visa or Master Card 
number and expiration date. Credit card orders can also be placed by 
calling the order desk at (202) 783-3238 or by faxing to (202) 275-
6802. The cost for each copy is $8. As an alternative, you can view and 
photocopy the Federal Register document at most libraries designated as 
Federal Depository Libraries and at many other public and academic 
libraries throughout the country that receive the Federal Register.
    This Federal Register document is also available from the Federal 
Register online database through GPO Access, a service of the U.S. 
Government Printing Office. Free public access is available on a Wide 
Area Information Server (WAIS) through the Internet and via 
asynchronous dial-in. Internet users can access the database by using 
the World Wide Web; the Superintendent of Documents home page address 
is http://www.access.gpo.gov/su_docs/, by using local WAIS client 
software, or by telnet to swais.access.gpo.gov, then log in as guest 
(no password required). Dial-in users should use communications 
software and modem to call (202) 512-1661; type swais, then log in as 
guest (no password required).

FOR FURTHER INFORMATION CONTACT: Joanne Sinsheimer (410) 786-4620.

SUPPLEMENTARY INFORMATION: To assist readers in referencing sections 
contained in this proposed rule, we are providing the following table 
of contents:

Table of Contents

I. Background
    A. Problems Associated with Physician Self-referrals
    B. Legislation Designed to Address Self-referrals and Similar 
Practices
    1. Legislative history of section 1877
    2. Recent provisions and how they relate to each other
    C. HCFA and OIG Regulations Relating to Section 1877
II. Sections 1877 and 1903(s) of the Act and the Provisions of This 
Proposed Rule
    A. Reflecting the Statutory Changes in Section 1877
    1. General prohibition
    2. Definitions
    a. Referral, referring physician

[[Page 1660]]

    b. Designated health services
    c. Financial relationship
    d. Compensation arrangement, remuneration
    3. General Exceptions to the Prohibition on Physician Referrals
    a. Exception--physician services
    b. Exception--in-office ancillary services
    c. Exception--certain prepaid health plans
    d. Other exceptions
    4. Exceptions That Apply Only to Certain Ownership or Investment 
Interests
    a. Exception--certain investment securities and shares
    b. Exception--ownership or investment interest in certain health 
care facilities
    5. Exceptions That Apply Only to Certain Compensation 
Arrangements
    a. Exception--rental of office space
    b. Exception--rental of equipment
    c. Exception--bona fide employment relationship
    d. Exception--personal service arrangements
    e. Exception--remuneration unrelated to the provision of 
designated health services
    f. Exception--physician recruitment
    g. Exception--isolated transaction
    h. Exception--certain group practice arrangements with a 
hospital
    i. Exception--payments by a physician for items and services
    6. Requirements Related to the ``Substantially All'' Test
    7. Reporting Requirements
    8. Sanctions
    9. Additional Definitions
    a. ``Clinical laboratory services''
    b. ``Entity''
    c. ``Hospital''
    d. ``HPSA''
    e. ``Immediate family member'' or ``member of a physician's 
immediate family''
    f. ``Laboratory''
    g. ``Plan of care''
    10. Conforming Changes
    11. Editorial Changes
    B. Applying The Referral Prohibition to the Medicaid Program: 
Section 1903(s) of the Act and the Provisions of this Proposed Rule
III. Interpretations of Sections 1877 and 1903(s) of the Act
    A. Definitions
    1. Designated health services
    a. Clinical laboratory services
    b. Physical therapy services (including speech-language 
pathology services)
    c. Occupational therapy services
    d. Radiology services, including magnetic resonance imaging, 
computerized axial tomography scans, ultrasound services, and 
radiation therapy services and supplies
    e. Durable medical equipment and supplies
    f. Parenteral and enteral nutrients, equipment, and supplies
    g. Prosthetics, orthotics, and prosthetic devices
    h. Home health services
    i. Outpatient prescription drugs
    j. Inpatient hospital services
    k. Outpatient hospital services
    2. Direct supervision
    3. Entity
    4. Fair market value
    5. Financial relationship
    6. Group practice
    7. Referral
    8. Remuneration
B. General Prohibition on Referrals
C. General Exceptions That Apply to Ownership or Investment 
Interests and to Compensation Arrangements
    1. Exception for physician services
    2. Exception for in-office ancillary services
    a. The site requirement
    b. The billing requirement
    c. Designated health services that do not trigger the in-office 
exception
    3. Exception for services provided under prepaid health plans
    a. Physicians, suppliers, and providers that contract with 
prepaid organizations
    b. Managed care organizations under the Medicaid program
    c. Evolving structures of integrated delivery and other health 
care delivery systems
    d. Designated health services furnished under a demonstration 
project or waiver
    D. Exceptions That Apply Only to Ownership or Investment 
Interests
    1. Exception for ownership in publicly traded securities
    2. Exception for hospital ownership
    E. Exceptions That Apply Only to Compensation Arrangements
    1. A new exception for all compensation arrangements that meet 
certain standards
    2. A new exception for certain forms of ``de minimis'' 
compensation
    3. The ``volume or value of referrals'' standard
    4. The commercial reasonableness standard
    5. The Secretary's authority to create additional requirements
    6. Exception for bona fide employment relationships
    7. Exception for personal services arrangements
    8. Exception for remuneration unrelated to the provision of 
designated health services
    9. Exception for a hospital's payments for physician recruitment
    10. Exception for certain group practice arrangements with a 
hospital
    11. Exception for payments by a physician for items and services
    F. The Reporting Requirements
    1. Which financial relationships must be reported
    2. What entities outside the United States must report
    G. How the Referral Prohibition Applies to the Medicaid Program
    1. Who qualifies as a ``physician'' for purposes of section 
1903(s)
    2. How the referral prohibition and sanctions affect Medicaid 
providers
    3. How the referral rules apply when Medicaid-covered designated 
health services differ from the services covered under Medicare
    4. How the reporting requirements apply under the Medicaid 
program
IV. Our Responses to Questions About the Law
    A. Definitions
    1. Compensation arrangement
    What is an ``indirect'' compensation arrangement?
    Which exceptions apply in indirect situations?
    2. Entity
    What are the characteristics of an ``entity'' that provides for 
the furnishing of designated health services?
    When is an entity furnishing, or providing for the furnishing 
of, designated health services?
    3. Financial relationship
    How do equity and debt qualify as ownership?
    Is membership in a nonprofit corporation an ownership or 
investment interest?
    Do stock options and nonvested interests constitute ownership?
    4. Group practice
    What is the ``full range of services'' test?
    5. Immediate family member or member of a physician's immediate 
family
    How does the prohibition affect a physician's referrals to 
immediate family members?
    If one member of a group practice cannot make a referral to an 
entity, are all other group practice physicians also precluded?
    6. Remuneration
    Do payments qualify as remuneration only if they result in a net 
benefit?
    B. General prohibition--What constitutes a prohibited referral
    Does the prohibition apply only if a physician refers directly 
to a particular related entity?
    When is the owner of a designated health services provider 
considered as equivalent to that provider?
    Has a physician made a referral to a particular entity if 
another individual directs the patient there?
    How will HCFA interpret situations in which it is not clear 
whether a physician has referred to a particular entity?
    C. General Exceptions That Apply to Ownership or Investment 
Interests and to Compensation Arrangements
    1. The in-office ancillary exception
    Can a physician supply crutches as in-office ancillary services?
    2. Exception for services furnished by organizations operating 
under prepaid plans.
    Can a physician refer non-enrollees to a related prepaid 
organization or to its physicians and providers?
    3. Other permissible exceptions for financial relationships that 
do not pose a risk of program or patient abuse.
    Should situations that meet a safe harbor under the anti-
kickback statute be automatically excepted?
    D. Exceptions That Apply Only to Ownership or Investment 
Interests
    1. Exception for ownership in publicly traded securities or 
mutual funds
    Does the exception for publicly traded securities apply to stock 
options?
    2. Exception for services provided by a hospital in which a 
physician or family member has an interest
    Can a physician or family member own an interest in a chain of 
hospitals?

[[Page 1661]]

    E. Exceptions That Apply Only to Compensation Arrangements
    1. Compensation arrangements in general
    Can a lease or arrangement for items or services have a 
termination clause?
    Will a physician's referrals be prohibited if an entity pays for 
certain incidental benefits?
    2. Exception for agreements involving the rental of office space 
or equipment
    Can a lessee sublet office space or equipment?
    Does the lease exception apply to any kind of lease covering 
space or equipment?
    Can a lease provide for payment based on how often the equipment 
is used?
    3. Exception for personal services arrangements
    How does the physician incentive plan exception apply when an 
enrolling entity contracts with a group practice?
V. Regulatory Impact Statement
    A. Background
    B. Anticipated Effects and Alternatives Considered
    1. Physicians
    2. Entities, including hospitals
    C. Conclusion
VI. Collection of Information Requirements
VII. Response to Comments

I. Background

A. Problems Associated With Physician Self-referrals

    When a patient seeks medical care, his or her physician has a major 
role in determining the kind and amount of health care services the 
patient will receive. Having a financial interest in an entity that 
furnishes these services can affect a physician's decision about what 
medical care to furnish a patient and who should furnish the care. In 
fact, numerous studies have raised serious concerns about the referral 
patterns of physicians who make self-referrals (referrals to entities 
with which they or their family members have financial relationships).
    In June 1988, Congress mandated that the Office of Inspector 
General (OIG) of the Department of Health and Human Services conduct a 
study on physician ownership of and compensation from health care 
entities to which the physicians make referrals. The OIG reported that 
patients of referring physicians who owned or invested in independent 
clinical laboratories received 45 percent more laboratory services than 
all Medicare patients in general. The OIG found similar effects on 
utilization associated with the existence of compensation arrangements 
between laboratories and physicians. Patients of these physicians used 
32 percent more laboratory services than all Medicare patients in 
general. (``Financial Arrangements Between Physicians and Health Care 
Businesses: Report to Congress,'' Office of Inspector General, DHHS, 
pages 18 and 21 (May 1989)). Based in part on the results of this 
study, Congress enacted, in November of 1989, section 1877 of the 
Social Security Act (the Act). (Unless otherwise indicated, references 
to sections of the law below are to sections of the Act.) We discuss 
section 1877 in detail below.
    Subsequent studies have supported the OIG findings on self-
referrals. The studies indicate that other types of services are also 
associated with higher utilization and increased costs. For example, in 
1991 the Florida Cost Containment Board (the Board) analyzed the effect 
of joint venture arrangements on the following aspects of health care: 
access, costs, charges, utilization, and quality. A joint venture was 
defined as any ownership or investment interest or compensation 
arrangement involving physicians (or any health care professionals who 
make referrals) and an entity providing health care goods or services.
    The Board found that doctor-owned clinical laboratories, diagnostic 
imaging centers, and physical therapy and rehabilitation centers 
performed more procedures on a per-patient basis and charged higher 
prices than nondoctor-affiliated facilities. The Board concluded that 
there might be referral problems or the results did not allow clear 
conclusions for ambulatory surgical centers, durable medical equipment 
suppliers, home health agencies, and radiation therapy centers. The 
study revealed that little or no impact existed for acute care 
hospitals and nursing homes. (``Joint Ventures Among Health Care 
Providers in Florida,'' State of Florida Health Care Cost Containment 
Board (Sept. 1991)).
    Additionally, in 1994, the General Accounting Office (GAO) released 
an analysis of 2.4 million diagnostic imaging services ordered by 
17,900 physicians in the State of Florida. The GAO found that Florida 
physicians with a financial interest in joint venture imaging centers 
had higher referral rates for almost all types of imaging services than 
other Florida physicians. The differences in the referral rates were 
greatest for costly high-technology imaging services. For example, 
owners of joint ventures ordered 54 percent more magnetic resonance 
imaging scans for patients than did non-owners.
    The GAO study also found that Florida physicians, group practices, 
or other practice affiliations with imaging facilities in their own 
offices ordered imaging tests more frequently than physicians who 
referred their patients to imaging facilities outside their practices. 
The in-practice imaging rates were about 3 times higher for magnetic 
resonance imaging scans; about 2 times higher for computed tomograph 
scans; 4.5 to 5.1 times higher for ultrasound, echocardiography, and 
diagnostic nuclear medicine imaging; and about 2 times higher for 
complex and simple X-rays. (GAO Report, ``Medicare: Referrals to 
Physician-owned Imaging Facilities Warrant HCFA's Scrutiny,'' No. B-
253835; pages 2, 3, and 10, October 1994.)
    Several other studies, appearing in the New England Journal of 
Medicine and the Journal of the American Medical Association, have 
found increased utilization for a variety of services when the 
physicians have a financial relationship with the entity to which they 
refer their patients. (See, for example, Bruce J. Hillman, M.D., and 
others, ``Physicians' Utilization and Charges for Outpatient Diagnostic 
Imaging in a Medicare Population,'' Journal of the American Medical 
Association, Vol. 268, No. 15 (Oct. 21, 1992), pp. 2050-2054; Hemenway 
D., Killen A., and others, ``Physicians' Responses to Financial 
Incentives--Evidence From a For-profit Ambulatory Care Center,'' New 
England Journal of Medicine, Vol. 322, No. 15 (April 12, 1990), pp. 
1059-1063; Alex Swedlow and others, ``Increased Costs and Rates of Use 
in the California Workers' Compensation System as a Result of Self 
Referral by Physicians,'' New England Journal of Medicine, Vol. 327, 
No. 21 (Nov. 19, 1992), pp. 1502-1506.)

B. Legislation Designed to Address Self-referrals and Similar Practices

1. Legislative History of Section 1877
    Section 6204 of the Omnibus Budget Reconciliation Act of 1989 (OBRA 
'89), Public Law 101-239, enacted on December 19, 1989, added section 
1877 to the Social Security Act. In general, section 1877 as it read 
under OBRA '89 provided that, if a physician (or an immediate family 
member of a physician) had a financial relationship with a clinical 
laboratory, that physician could not make a referral to the laboratory 
entity for the furnishing of clinical laboratory services for which 
Medicare might otherwise pay. (For the sake of brevity, whenever we 
refer to ``immediate family member'' or ``family member,'' this means 
``a member of the physician's immediate family.'') It also provided 
that the laboratory could not present or cause to be presented a 
Medicare claim or bill to any individual, third party payer, or other 
entity for clinical laboratory services furnished under the prohibited 
referral. Additionally, it required a refund of any

[[Page 1662]]

amount collected from an individual as a result of a billing for an 
item or service furnished under a prohibited referral.
    The statute defined ``financial relationship'' as an ownership or 
investment interest in the entity or a compensation arrangement between 
the physician (or immediate family member) and the entity. The statute 
provided a number of exceptions to the prohibition. Some of these 
exceptions applied to both ownership/investment interests and 
compensation arrangements, while other exceptions applied to only one 
or the other of these. Additionally, the statute imposed reporting 
requirements and provided for sanctions.
    Section 4207(e) of the Omnibus Budget Reconciliation Act of 1990 
(OBRA '90), Public Law 101-508, enacted on November 5, 1990, amended 
certain provisions of section 1877 to clarify definitions and reporting 
requirements relating to physician ownership and referral and to 
provide an additional exception to the prohibition.
    Section 13562 of the Omnibus Budget Reconciliation Act of 1993 
(OBRA '93), Public Law 103-66, enacted on August 10, 1993, extensively 
revised section 1877. It modified the prior law to apply to referrals 
for ten ``designated health services'' in addition to clinical 
laboratory services, modified some exceptions, and added new ones. 
Section 152 of the Social Security Act Amendments of 1994 (SSA '94), 
Public Law 103-432, enacted on October 31, 1994, amended the list of 
designated services, effective January 1, 1995. (Section II of this 
preamble contains a listing of the designated health services.) It also 
changed the reporting requirements in section 1877(f) and amended some 
of the effective dates of the OBRA '93 provisions.
    Section 13624 of OBRA '93 extended aspects of the referral 
prohibition to the Medicaid program. It amended section 1903 of the Act 
by adding a new paragraph (s). This provision denies Federal financial 
participation (FFP) payment under the Medicaid program to a State for 
certain expenditures for designated health services. A State cannot 
receive FFP for designated health services furnished to an individual 
on the basis of a physician referral that would result in a denial of 
payment under the Medicare program if Medicare covered the services to 
the same extent and under the same terms and conditions as under the 
State Medicaid plan. Section 13624 also specified that the reporting 
requirements of section 1877(f) and the civil money penalty provision 
of section 1877(g)(5) (which relates to reporting) apply to a provider 
of a designated health service for which payment may be made under 
Medicaid in the same manner as they apply to a provider of a designated 
health service for which payment may be made under Medicare.
    We describe the provisions of section 1877, as amended, in detail 
in part A of section II of this preamble. We discuss section 1903(s) in 
part B of section II.
2. Recent Provisions and How They Relate to Each Other
    Congress has enacted into law several provisions governing 
financial relationships between entities furnishing health care 
services and those health care professionals who refer patients to 
them. For example, the ``anti-kickback statute'' provides criminal 
penalties for individuals or entities that knowingly and willfully 
offer, pay, solicit, or receive remuneration to induce the furnishing 
of items or services covered by Medicare or State health care programs 
(including Medicaid, and any State program receiving funds under titles 
V or XX of the Act). (This provision was originally enacted in 1972 as 
part of the Social Security Amendments of 1972, Public Law 92-603. It 
was revised in 1977 (in Public Law 95-142) to read as it does today. It 
was subsequently recodified by the Medicare and Medicaid Program 
Patient Protection Act of 1987 (Public Law 100-93). It currently 
appears at 42 U.S.C. 1320a-7b(b)(2) and section 1128B(b) of the Social 
Security Act.)
    Both the anti-kickback statute and section 1877 address Congress' 
concern that health care decisionmaking can be unduly influenced by a 
profit motive. When physicians have a financial incentive to refer, 
this incentive can affect utilization, patient choice, and competition. 
Physicians can overutilize by ordering items and services for patients 
that, absent a profit motive, they would not have ordered. A patient's 
choice can be affected when physicians steer patients to less 
convenient, lower quality, or more expensive providers of health care, 
just because the physicians are sharing profits with, or receiving 
remuneration from, the providers. And lastly, where referrals are 
controlled by those sharing profits or receiving remuneration, the 
medical marketplace suffers since new competitors can no longer win 
business with superior quality, service, or price. Although the 
purposes behind the anti-kickback statute and section 1877 are similar, 
it is important to analyze them separately. In other words, to operate 
lawfully under Medicare and Medicaid, one must comply with both 
statutes.
    Anti-kickback statute: The anti-kickback statute is a criminal 
statute that applies to those who knowingly and willfully offer, pay, 
solicit, or receive remuneration to induce the furnishing of items or 
services under Medicare or State health care programs (including 
Medicaid). The offense is classified as a felony and is punishable by 
fines of up to $25,000 and imprisonment for up to 5 years. Violation of 
the statute is also a basis for exclusion from Medicare and Medicaid.
    Since the statute on its face is very broad, a number of health 
care entities expressed concern after its enactment that many 
relatively innocuous, or even beneficial, commercial arrangements are 
technically covered by the statute and can therefore lead to criminal 
prosecution. Congress addressed this fact by enacting section 14 of the 
Medicare and Medicaid Patient and Program Protection Act of 1987. This 
provision requires the Department of Health and Human Services to issue 
``safe harbors,'' specifying those payment practices that will not be 
subject to criminal prosecution under the anti-kickback statute and 
will not provide a basis for an exclusion. The safe harbors are not 
mandatory in the sense that one is required to fit into a safe harbor. 
The safe harbors exist to provide absolute immunity to those 
arrangements.
    Section 1877: Section 1877 prohibits physicians from referring 
Medicare patients to certain entities for designated health services if 
the physician (or an immediate family member) has a financial 
relationship with the entity, unless the relationship fits into an 
exception. Certain aspects of section 1877 also affect Medicaid 
referrals. While there are other remedies, section 1877 is primarily a 
payment ban that is effective regardless of intent. Many of the 
exceptions in section 1877 are similar to the safe harbors under the 
anti-kickback statute, such as exceptions for certain employees, 
personal service arrangements, and space and equipment rentals. The 
exceptions are different in the sense that, under section 1877, a 
physician is required to meet an exception if the physician wants to 
make an otherwise prohibited referral, while under the anti-kickback 
statute, a health care provider is not required to meet a safe harbor. 
That is, if a provider meets a safe harbor, it is automatically 
protected from prosecution. If a provider does not meet a safe harbor, 
it may still be in compliance with the anti-kickback statute and 
therefore be safe from prosecution, but that

[[Page 1663]]

determination would be based on a case-by-case assessment of the facts.

C. HCFA and OIG Regulations Relating to Section 1877

    On December 3, 1991, we issued an interim final rule with comment 
period (56 FR 61374) setting forth the reporting requirements under 
section 1877(f). On March 11, 1992, we published a proposed rule (57 FR 
8588) setting forth the self-referral prohibition and exceptions to the 
prohibition in section 1877, as these provisions were amended by OBRA 
'90, and as they relate to referrals for clinical laboratory services.
    On October 20, 1993, the OIG published a proposed rule (58 FR 
54096) that would set forth in regulations the penalty provisions 
specified in sections 1877(g)(3) and (g)(4). The final rule with 
comment period implementing the civil money penalty provisions was 
published on March 31, 1995 (60 FR 16580).
    On August 14, 1995, we published a final rule with comment period 
in the Federal Register (60 FR 41914) that incorporated into 
regulations the provisions of section 1877 that relate to the 
prohibition on physician referrals for clinical laboratory services. 
The August 1995 final rule contains revisions to the March 11, 1992 
proposal based on comments submitted by the public. Further, it 
incorporates the amendments and exceptions created by OBRA '93 and the 
amendments in SSA '94 that relate to referrals for clinical laboratory 
services.
    The final rule addresses only those changes that had a retroactive 
effective date of January 1, 1992; it does not incorporate those 
modifications made to section 1877 that became effective for referrals 
made after December 31, 1994. (Even though the August 1995 final rule 
incorporates OBRA '93 and SSA '94 provisions, it generally only 
reiterates them without interpreting them. We interpreted the new 
provisions only in a few instances in which it was necessary to do so 
in order to implement the statute at all.) The final rule also responds 
to comments received on the December 1991 interim final rule covering 
the reporting requirements. In addition, it revises the regulations 
established by that rule to incorporate the amendments to section 
1877(f) made by SSA '94, to apply to any future reporting that we 
require.

II. Sections 1877 and 1903(s) of the Act and the Provisions of This 
Proposed Rule

    Many of the provisions covered below are discussed in detail in the 
preamble of either the March 1992 proposed rule or the August 1995 
final rule in the context of referrals for clinical laboratory 
services. We are proposing, as discussed below, to leave a number of 
these provisions unchanged except to apply them to the additional 
designated health services. Readers who desire more background 
information on these provisions are referred to the earlier documents.
    We are also proposing to amend the provisions of the August 1995 
final regulation to reflect other changes in section 1877 that were 
enacted in OBRA '93 or in SSA '94 and became effective on January 1, 
1995. In part A of this section, we discuss how we have altered the 
final regulation to apply it to the additional designated health 
services, and to reflect the statutory changes in section 1877 that 
took effect on January 1, 1995. Part B of this section covers the 
changes made by section 13624 of OBRA '93 to the Medicaid program in 
section 1903(s) of the Act. Section 13624 applies aspects of the 
referral prohibition to the Medicaid program for referrals made on or 
after December 31, 1994. We discuss in part B how we propose to amend 
the Medicaid regulations to reflect the statutory changes.
    In section III of this preamble we discuss in detail how we propose 
to interpret any provisions in sections 1877 and 1903(s) that we 
believe are ambiguous, incomplete, or that provide the Secretary with 
discretion. We also discuss policy changes or clarifications we propose 
to make to the August 1995 rule. In section IV, we present some of the 
most common questions concerning physician referrals that we received 
from the health care community. We include in section IV our 
interpretations of how the law applies in the situations described to 
us.

A. Reflecting the Statutory Changes in Section 1877

1. General Prohibition
    With certain exceptions, section 1877(a)(1)(A) prohibits a 
physician from making a referral to an entity for the furnishing of 
designated health services, for which Medicare may otherwise pay, if 
the physician (or an immediate family member) has a financial 
relationship with that entity. This provision as it related to clinical 
laboratory services was incorporated into our regulations at 
Sec. 411.353(a) by the August 1995 final rule. We would revise 
Sec. 411.353(a) to apply the prohibition to referrals for designated 
health services.
    Section 1877(a)(1)(B) prohibits an entity from presenting, or 
causing to be presented, either a Medicare claim or a bill to any 
individual, third party payor, or other entity for designated health 
services furnished under a prohibited referral. This provision, with 
regard to clinical laboratory services, was incorporated into our 
regulations at Sec. 411.353(b) by the August 1995 final rule. We would 
revise Sec. 411.353(b) to apply it to claims or bills for any of the 
designated health services.
2. Definitions
    For purposes of section 1877, the statute provides definitions of a 
number of terms. Because they are important to understanding the 
general prohibition set forth above, we discuss certain of these 
definitions immediately below. The statutory definitions of other terms 
are presented elsewhere in this preamble when relevant.

a. Referral, referring physician

    As defined by section 1877(h)(5), a ``referral'' means the 
following:
     The request by a physician for an item or service for 
which payment may be made under Medicare Part B, including the request 
by a physician for a consultation with another physician (and any test 
or procedure ordered by, or to be performed by (or under the 
supervision of) that other physician).
     The request or establishment of a plan of care by a 
physician that includes the furnishing of designated health services.
    Section 1877(h)(5)(C), however, provides an exception to this 
definition in the case of a request by a pathologist for clinical 
diagnostic laboratory tests and pathological examination services, (and 
as added by OBRA '93) a request by a radiologist for diagnostic 
radiology services, and a request by a radiation oncologist for 
radiation therapy if the services are furnished by (or under the 
supervision of) the pathologist, radiologist, or radiation oncologist, 
respectively, as a result of a consultation requested by another 
physician.
    The August 1995 final rule incorporated section 1877(h)(5), with 
regard to clinical laboratory services, into our regulations by 
defining ``referral'' at Sec. 411.351. We interpreted a referral as the 
request by a physician for, or the ordering of, any item or service 
covered under Medicare Part B. We interpreted the referral for other 
items or services as a request by a physician that includes the 
provision of laboratory services or the establishment of a plan of care 
by a physician that includes the provision of laboratory services. We 
also included the statutory exception for certain clinical diagnostic 
laboratory tests and pathological examination services requested by a 
pathologist.

[[Page 1664]]

    This proposed rule would revise the definition of ``referral'' to 
apply it to referrals for designated health services. In accordance 
with section 1877(h)(5)(C), we would also add the exception to the 
definition described above relating to a request by a radiologist for 
diagnostic radiology services and a request by a radiation oncologist 
for radiation therapy. In addition, we would make a technical change in 
this section. We would remove the phrase ``any item or service'' and 
replace it with the phrase ``any service.'' Because the term 
``services'' is defined in our regulations (at Sec. 400.202) to include 
``items,'' the phrase ``any item or service'' contains a redundancy. 
Hereinafter, unless we specifically state otherwise, we use the term 
``service(s)'' as including ``item(s).'' We have also made several 
other changes to the definition that are discussed in section III of 
this preamble.
    Also, in accordance with section 1877(h)(5), the August 1995 final 
rule at Sec. 411.351 defined ``referring physician'' as a physician (or 
group practice) who makes a referral as defined in Sec. 411.351. This 
proposed rule would retain this definition, but with one amendment that 
is described in section IV.A.5 of this preamble.

b. Designated health services

    Section 1877(h)(6) defines ``designated health services'' as any of 
the following services:
     Clinical laboratory services.
     Physical therapy services.
     Occupational therapy services.
     Radiology services, including magnetic resonance imaging, 
computerized axial tomography scans, and ultrasound services.
     Radiation therapy services and supplies.
     Durable medical equipment and supplies.
     Parenteral and enteral nutrients, equipment, and supplies.
     Prosthetics, orthotics, and prosthetic devices and 
supplies.
     Home health services.
     Outpatient prescription drugs.
     Inpatient and outpatient hospital services.
    This proposed rule would incorporate this definition of 
``designated health services'' into our regulations at Sec. 411.351, 
except that, for purposes of definition, we would combine radiology 
services and radiation therapy services and supplies. Also, we propose 
to define each of these designated health services in Sec. 411.351. We 
explain our definitions and interpretations in section III of this 
preamble.

c. Financial relationship

    Section 1877(a)(2) describes a financial relationship between a 
physician (or an immediate family member) and an entity as being an 
ownership or investment interest in the entity or a compensation 
arrangement between a physician (or immediate family member) and the 
entity. (We discuss compensation arrangements in the next section). The 
statute provides that an ownership or investment interest may be 
established through equity, debt, or other means. The statute further 
specifies that an ownership or investment interest includes an interest 
in an entity that holds an ownership or investment interest in any 
entity furnishing designated health services.
    The August 1995 final rule incorporated this definition into our 
regulations, with regard to clinical laboratory services, at 
Sec. 411.351. That section specifies that a financial relationship 
includes an interest in an entity that holds an ownership or investment 
interest in any entity providing laboratory services. This proposed 
rule would revise the definition to specify that a financial 
relationship includes an interest in an entity that holds an ownership 
or investment interest in any entity providing designated health 
services. We have also made certain other changes described in section 
III of this preamble.

d. Compensation arrangement, remuneration

    Section 1877(h)(1)(A) defines a ``compensation arrangement'' as any 
arrangement involving any remuneration between a physician (or 
immediate family member) and an entity, other than an arrangement 
involving only remuneration described in section 1877(h)(1)(C). Section 
1877(h)(1)(B) defines ``remuneration'' to include ``any remuneration, 
directly or indirectly, overtly or covertly, in cash or in kind.'' 
Section 1877(h)(1)(C) provides that a compensation arrangement does not 
include the following types of remuneration:
     The forgiveness of amounts owed for inaccurate tests or 
procedures, mistakenly performed tests or procedures, or the correction 
of minor billing errors.
     The provision of items, devices, or supplies that are used 
solely to--
    + Collect, transport, process, or store specimens for the entity 
providing the item, device, or supply; or
    + Order or communicate the results of tests or procedures for the 
entity.
     A payment made by an insurer or a self-insured plan to a 
physician to satisfy a claim, submitted on a fee-for-service basis, for 
the furnishing of health services by that physician to an individual 
who is covered by a policy with the insurer or by the self-insured 
plan, if--
    + The health services are not furnished, and the payment is not 
made, under a contract or other arrangement between the insurer or the 
plan and the physician;
    + The payment is made to the physician on behalf of the covered 
individual and would otherwise be made directly to the individual;
    + The amount of the payment is set in advance, does not exceed fair 
market value, and is not determined in a manner that takes into account 
directly or indirectly the volume or value of any referrals; and
    + The payment meets any other requirements the Secretary may impose 
by regulation as needed to protect against Medicare program or patient 
abuse.
    The above definitions of a ``compensation arrangement'' and 
``remuneration'' were incorporated into our regulations at Sec. 411.351 
by the August 1995 final rule. In the definition of ``compensation 
arrangement,'' we clarified that such an arrangement could be either 
direct or indirect. This proposed rule would retain that definition. 
Also, because the statute defines ``remuneration'' only by referring to 
how the remuneration might be made (for example, in cash or in kind), 
we interpreted remuneration to mean any payment, discount, forgiveness 
of debt, or other benefit. This proposed rule would retain the 
definition of ``remuneration,'' with one change. We will consider that 
payments made by an insurer to a physician are not ``remuneration'' if 
they meet the requirements in the statute, and if the amount of the 
payment does not take into account directly or indirectly other 
business generated between the parties. We explain this change in 
section III.E.3 of this preamble.
3. General Exceptions to the Prohibition on Physician Referrals
    Section 1877(b) provides for general exceptions to the prohibition 
on referrals. (General exceptions are exceptions that apply to both 
ownership/investment interests and compensation arrangements.)
    Because the first two of these exceptions apply to a ``group 
practice,'' we begin with a discussion of ``group practice'' as defined 
in section 1877. A ``group practice,'' as defined in section 
1877(h)(4), is a group of two or more physicians legally organized as a

[[Page 1665]]

partnership, professional corporation, foundation, not-for-profit 
corporation, faculty practice plan, or similar association, that meets 
the following conditions:
     Each physician member of the group furnishes substantially 
the full range of services that the physician routinely furnishes, 
including medical care, consultation, diagnosis, or treatment, through 
the joint use of shared office space, facilities, equipment, and 
personnel.
     Substantially all of the services of the physician members 
of the group are furnished through the group, are billed under a 
billing number assigned to the group, and amounts so received are 
treated as receipts of the group (the ``substantially all'' test, which 
we discuss below). (The predecessor provision, that is, the provision 
as it read before January 1, 1995, required that the services be billed 
in the name of the group (not that they be billed under a billing 
number assigned to the group).)
     The overhead expenses of and the income from the practice 
are distributed in accordance with methods previously determined.
     Except for profits and productivity bonuses that meet the 
conditions described below, no physician member of the group directly 
or indirectly receives compensation based on the volume or value of 
referrals by the physician. (Added by OBRA '93 to be effective January 
1, 1995.)
     Members of the group personally conduct at least 75 
percent of the physician-patient encounters of the group practice. 
(Added by OBRA '93 to be effective January 1, 1995.)
     The group practice complies with all other standards 
established by the Secretary in regulations.
    With regard to the above definition, section 1877(h)(4)(B) 
establishes the following ``Special Rules'':
     A physician in a group practice may be paid a share of the 
overall profits of the group, or a productivity bonus based on services 
personally performed or services incident to the personally performed 
services, so long as the share or bonus is not determined in any manner 
that is directly related to the volume or value of referrals by the 
physician. (Added by OBRA '93 to be effective for referrals made on or 
after January 1, 1995.)
     In the case of a faculty practice plan associated with a 
hospital, institution of higher education, or medical school with an 
approved medical residency training program in which physician members 
may furnish a variety of different specialty services and furnish 
professional services both within and outside the group, as well as 
perform other tasks such as research, the conditions contained in the 
definition of ``group practice'' apply only with respect to the 
services furnished within the faculty practice plan.
    Our August 1995 final rule established a definition of ``group 
practice'' at Sec. 411.351 based on the statute as it read effective 
January 1, 1992. In implementing the statute, we interpreted the 
provision requiring that ``substantially all'' of the services of the 
physician members be furnished through the group as meaning 75 percent 
of the patient care services of the group practice. (We discuss 
additional requirements and definitions related to the ``substantially 
all'' test in section II.A.6. of this preamble.) As stated above, OBRA 
'93 made certain revisions to the definition of a group practice, 
effective January 1, 1995. This proposed rule would revise the 
definition of ``group practice'' at Sec. 411.351 to conform with the 
changes made by OBRA '93. Therefore we would do the following:
     Remove the requirement that substantially all of the 
services must be billed in the name of the group. We would specify, 
instead, that substantially all of the services must be billed under a 
billing number assigned to the group.
     Add the above provisions restricting payments made to 
physicians based on volume or value of referrals, with the exception 
for profits and productivity bonuses.
     Add that members of the group must personally conduct at 
least 75 percent of the physician-patient encounters of the group 
practice.
    In addition, for reasons explained in the August 1995 final rule, 
the definition would continue to provide that the ``substantially all'' 
test does not apply to any group practice that is located solely in a 
health professional shortage area (HPSA). Also, for group practices 
located outside of a HPSA, any time spent by group practice members 
providing services in a HPSA should not be used to calculate whether 
the group practice located outside the HPSA has met the ``substantially 
all'' test. We have also made several other changes to the definition 
of a group practice, which are discussed later in this preamble.

a. Exception--physician services

    Section 1877(b)(1) specifies that the prohibition does not apply to 
services furnished on a referral basis if the services are physician 
services, as defined in section 1861(q), furnished personally by (or 
under the personal supervision of) another physician in the same group 
practice as the referring physician. Our August 1995 final rule 
incorporated this provision at Sec. 411.355(a), covering physician 
services as we have defined them at Sec. 410.20(a). This proposed rule 
retains Sec. 411.355(a).

b. Exception--in-office ancillary services

    Section 1877(b)(2) specifies that the prohibition does not apply to 
referrals for certain in-office ancillary services. We consider in-
office ancillary services to be all designated health services that can 
be provided in an in-office setting, except durable medical equipment 
(excluding infusion pumps) and parenteral and enteral nutrients, 
equipment, and supplies. (In other words, referrals for infusion pumps 
can qualify for the exception. However, the exception does not apply to 
referrals for the in-office provision of other durable medical 
equipment and parenteral and enteral nutrients, equipment, and 
supplies.) To qualify for the exception, an ownership or investment 
interest in the services must meet any requirements the Secretary sets 
forth in regulations to protect against Medicare program or patient 
abuse. Additionally, the ancillary services must meet the following 
requirements:
     The services must be furnished personally by the referring 
physician, a physician who is a member of the same group practice as 
the referring physician, or an individual who is directly supervised by 
the physician or by another physician in the group practice. Also, the 
services must be furnished in either of the following:
    + A building in which the referring physician (or another physician 
who is a member of the same group practice) furnishes physician 
services unrelated to the furnishing of designated health services. 
(The predecessor provision read ``* * * unrelated to the furnishing of 
clinical laboratory services.'')
    + In the case of a referring physician who is a member of a group 
practice, in another building that is used by the group practice for 
either of the following:
    ++ Furnishing some or all of the group's clinical laboratory 
services.
    ++ The centralized provision of the group's designated health 
services (other than clinical laboratory services). (This provision, 
which was added by OBRA '93, became effective January 1, 1995.) Note 
that OBRA '93 also contains an undesignated paragraph following this 
provision that reads as follows: ``unless the Secretary determines 
other terms and conditions under which the

[[Page 1666]]

provision of such services does not present a risk of program or 
patient abuse, * * *.'' As discussed in the August 1995 final rule, it 
is our interpretation that this paragraph is intended to provide for 
the possibility of our liberalizing the conditions described in section 
1877(b)(2)(A)(ii)(II); that is, the conditions concerning the provision 
of services in ``another building'' that is used by a group practice.
     The ancillary services must be billed by one of the 
following:
    + The physician performing or supervising the services.
    + A group practice of which the physician is a member under a 
billing number assigned to the group practice. (Prior to January 1, 
1995, this provision did not require that the services be billed under 
a group practice's billing number.)
    + An entity that is wholly owned by the physician or group 
practice.
    The August 1995 final rule incorporated into our regulations an in-
office ancillary services exception that was based on the statutory 
provision, as it was in effect on January 1, 1992, at Sec. 411.355(b). 
This proposed rule would revise Sec. 411.355(b) to conform it to the 
current statutory provision. That is, it would--
     Specify that the exception does not apply to durable 
medical equipment (other than infusion pumps) or to parenteral and 
enteral nutrients, equipment, and supplies; and
     Revise paragraph (b)(2) of Sec. 411.355 to require that 
the services be furnished in one of the following locations:
    + A building in which the referring physician (or another physician 
who is a member of the same group practice) furnishes physician 
services unrelated to the furnishing of designated health services.
    + A building that is used by the group practice for the provision 
of some or all of the group's clinical laboratory services.
    + A building that is used by the group practice for the centralized 
provision of the group's designated health services (other than 
clinical laboratory services).
     Indicate that when a group practice bills for ancillary 
services, the services must be billed under a billing number assigned 
to the group practice.
    We have also made several other changes to the in-office ancillary 
services exception that we discuss in section III of this preamble.
    For purposes of the in-office ancillary services exception, the 
August 1995 final rule also defined ``direct supervision'' at 
Sec. 411.351. The rule defines this term as supervision by a physician 
who is present in the office suite and immediately available to provide 
assistance and direction throughout the time services are being 
performed. This proposed rule would retain that definition, with 
several changes that are meant to clarify the meaning of the term 
``present in the office suite.'' We discuss these changes in section 
III of this preamble.

c. Exception--certain prepaid health plans

    Section 1877(b)(3) specifies that the prohibition on referrals does 
not apply to services furnished by certain prepaid health plans. To 
qualify for the exception, the services must be furnished by a 
Federally-qualified health maintenance organization (within the meaning 
of section 1310(d) of the Public Health Services Act) to its enrollees 
or by a prepaid health care organization to its enrollees under a 
contract or agreement with Medicare under one of the following 
statutory authorities:
     Section 1876, which authorizes us to enter into contracts 
with health maintenance organizations and competitive medical plans to 
furnish covered items and services on a risk-sharing or reasonable cost 
basis.
     Section 1833(a)(1)(A), which authorizes payment for 
Medicare Part B services to prepaid health plans on a reasonable cost 
basis.
     Section 402(a) of the Social Security Amendments of 1967 
or section 222(a) of the Social Security Amendments of 1972, both of 
which authorize us to conduct demonstration projects involving payments 
on a prepaid basis.
    The August 1995 final rule incorporated section 1877(b)(3) into our 
regulations at Sec. 411.355(c). We are proposing to set forth at 
Sec. 435.1012(b) an exception for services provided by organizations 
analogous to those cited above to enrollees under the Medicaid program. 
We discuss this proposal in section III of this preamble.

d. Other exceptions

    Effective January 1, 1995, section 1877(b)(4) authorizes the 
Secretary to provide in regulations for additional exceptions for 
financial relationships, beyond those specified in the statute, if she 
determines that they do not pose a risk of Medicare program or patient 
abuse. The Secretary determined, based on the rationale explained in 
the August 1995 final rule, that referrals for certain clinical 
laboratory services furnished in an ambulatory surgical center or end 
stage renal disease facility, or by a hospice do not pose a risk of 
Medicare program or patient abuse. The Secretary found no risk of abuse 
when payments for these services are included in the ambulatory 
surgical center payment rate, the end stage renal disease composite 
payment rate, or as part of the hospice payment rate, respectively. 
Therefore, the August 1995 final rule incorporated an exception for 
those services into our regulations at Sec. 411.355(d). This proposed 
rule would retain that provision, with a change discussed below. 
Because this proposed rule covers 10 additional designated health 
services, this exception would now apply to any of the designated 
health services provided in the same manner.
    As we noted in the August 1995 final rule, we excepted the listed 
services because they are furnished as part of a composite rate that 
cannot vary in response to utilization. We are amending Sec. 411.355(d) 
to allow the Secretary to except services furnished under other payment 
rates that the Secretary determines provide no financial incentive for 
either underutilization or overutilization, or any other risk of 
program or patient abuse. We are specifically soliciting comments on 
whether there are analogous composite rates under the Medicaid program 
that are similarly guaranteed not to result in program or patient 
abuse. Commenters who are interested in this issue should demonstrate 
why they believe a particular kind of service should qualify for the 
exception.
4. Exceptions That Apply Only to Certain Ownership or Investment 
Interests
    The statute also provides that certain ownership or investment 
interests do not constitute a ``financial relationship'' for purposes 
of the section 1877 prohibition on referrals.

a. Exception--certain investment securities and shares

    Under section 1877(c), the prohibition on referrals does not apply 
in the case of ownership by a physician (or immediate family member) of 
the following:
     Investment securities (including shares or bonds, 
debentures, notes, or other debt instruments) that may be purchased on 
terms generally available to the public and that are--
     Securities listed on the New York Stock Exchange, the 
American Stock Exchange, or any regional exchange in which quotations 
are published on a daily basis, or foreign securities listed on a 
recognized foreign, national, or regional exchange in which quotations 
are published on a daily basis, or

[[Page 1667]]

     Securities traded under an automated interdealer quotation 
system operated by the National Association of Securities Dealers, and
     In a corporation that had, at the end of the corporation's 
most recent fiscal year or on average during the previous 3 fiscal 
years, stockholder equity exceeding $75 million. (OBRA '93 also 
included, until January 1, 1995, securities in a corporation that, at 
the end of the corporation's most recent fiscal year, had total assets 
exceeding $100 million.)
     Ownership of shares in a regulated investment company as 
defined in section 851(a) of the Internal Revenue Code of 1986 if the 
company had, at the end of the company's most recent fiscal year or on 
average during the previous 3 fiscal years, total assets exceeding $75 
million.
    The August 1995 final rule incorporated the above provision into 
our regulations at Secs. 411.356 (a) and (b). This proposed rule would 
remove from Sec. 411.356(a) that portion of the provision that expired 
on January 1, 1995, and would make certain other changes described in 
section III of this preamble.

b. Exception--ownership or investment interest in certain health care 
facilities

    Section 1877(d) provides additional exceptions to the prohibition 
on physician referrals for certain designated health services furnished 
by three types of facilities if the physician (or immediate family 
member) has an ownership or investment interest in the facilities:
     Designated health services furnished by a hospital located 
in Puerto Rico.
     Designated health services furnished in a rural area by an 
entity if substantially all of the designated health services furnished 
by the entity are furnished to individuals residing in a rural area. A 
``rural area'' is defined in section 1886(d)(2)(D) as meaning an area 
outside of a Metropolitan Statistical Area. (Until January 1, 1995, 
this provision read as follows: ``In the case of clinical laboratory 
services if the laboratory furnishing the services is in a rural area 
(as defined in section 1886(d)(2)(D)).'')
     Designated health services furnished by a hospital outside 
of Puerto Rico if the referring physician is authorized to perform 
services at the hospital and the ownership or investment interest is in 
the hospital itself (and not merely in a subdivision of the hospital).
    The August 1995 final rule incorporated section 1877(d), as it 
related to clinical laboratory services, into our regulations at 
Sec. 411.356(c). In establishing the rural provider exception in the 
regulations, we required that referred laboratory testing be performed 
on the premises of the rural laboratory (if not performed on the 
premises, the laboratory performing the testing was required to bill 
the Medicare program directly). As described in the preamble to the 
proposed rule covering referrals for clinical laboratory services (57 
FR 8598 (March 11, 1992)), we believe that Congress included this 
exception in order to benefit Medicare beneficiaries who live in rural 
areas where laboratories may not be available without the financial 
support of local physicians. We included the additional requirement to 
prevent situations in which physicians who own an urban laboratory set 
up a storefront or ``shell'' laboratory with a rural address in order 
to use the rural exception. In this scenario, the urban owner could 
make referrals to the rural laboratory, which would in turn refer the 
tests to the physician's urban laboratory. Alternatively, urban 
laboratories with physician owners could set up rural laboratories for 
the purpose of performing tests referred by the physician owners for 
their urban patients.
    Because section 1877(d)(2) has been amended to apply only to 
designated health services that are actually furnished in a rural area 
(they cannot be transferred to an urban provider), and only by 
providers that provide designated health services to a predominantly 
rural population, we no longer believe that the extra requirement is 
necessary. We are therefore proposing to remove it from 
Sec. 410.356(c).
    The August 1995 final regulation adopted the OBRA '93 standard that 
substantially all of the designated health services furnished by the 
rural entity are furnished to individuals residing in a rural area. We 
interpreted ``substantially all'' as meaning at least 75 percent of the 
services. In addition, Sec. 411.356(c) provided an exception, until 
January 1, 1995, for an ownership or investment interest in a hospital 
if the physician's ownership or investment interest does not relate 
(directly or indirectly) to the furnishing of clinical laboratory 
services. This exception was based on section 1877(b)(4) as it read 
under OBRA '90. OBRA '93, as amended by SSA '94, retained this 
provision only until January 1, 1995.
    This proposed rule would revise Sec. 411.356(c) to reflect the 
statutory provision as it became effective on January 1, 1995 and to 
apply Sec. 411.356(c) to entities providing any of the designated 
health services. We would change the requirement that a rural entity be 
located in a rural area to instead except referrals for designated 
health services furnished in a rural area by an entity that furnishes 
substantially all of its designated health services to individuals 
residing in a rural area. We would continue to interpret 
``substantially all'' as being at least 75 percent of the services 
furnished by the entity. In addition, this proposed rule would remove 
the exception that expired on January 1, 1995.
5. Exceptions That Apply Only to Certain Compensation Arrangements
    Section 1877(e) provides that certain compensation arrangements are 
not considered a ``financial relationship'' for purposes of the 
prohibition on physician referrals.

a. Exception--rental of office space

    Section 1877(e)(1)(A) provides an exception for payments made by a 
lessee to a lessor for the use of premises if the following conditions 
are met:
     The lease is in writing, signed by the parties, and 
specifies the premises covered by the lease.
     The space rented or leased does not exceed that which is 
reasonable and necessary for the legitimate business purposes of the 
rental or lease. Also, the space is used exclusively by the lessee when 
being used by the lessee, except that the lessee may make payments for 
the use of space consisting of common areas under certain conditions. 
That is, acceptable payments for common areas cannot exceed the 
lessee's pro rata share of expenses for that space based upon the ratio 
of the space used exclusively by the lessee to the total amount of 
space (other than common areas) occupied by all persons using the 
common areas.
     The lease provides for a term of rental or lease of at 
least 1 year.
     The rental charges over the term of the lease are set in 
advance, are consistent with fair market value, and are not determined 
in a manner that takes into account the volume or value of any 
referrals or other business generated between the parties.
     The lease would be commercially reasonable even if no 
referrals were made between the parties.
     The lease meets any other requirements the Secretary may 
impose by regulation, as needed to protest against Medicare program or 
patient abuse.
    ``Fair market value'' is defined by section 1877(h)(3) as the value 
in arm's-length transactions, consistent with the general value market, 
and, with respect

[[Page 1668]]

to rentals or leases, the value of rental property for general 
commercial purposes (not taking into account its intended use) and, in 
the case of a lease of space by a lessor that is a potential source of 
patient referrals to the lessee, not adjusted to reflect the additional 
value the prospective lessee or lessor would attribute to the proximity 
or convenience to the lessor. (Meeting the fair market value standard 
is a requirement for several of the other compensation-related 
exceptions in the statute. We discuss these other exceptions later in 
this preamble.)
    The August 1995 final rule incorporated the provisions of section 
1877(e)(1)(A) into our regulations at Sec. 411.357(a), without imposing 
any additional requirements. This proposed rule would retain 
Sec. 411.357(a). In addition, the final rule incorporated the 
definition of ``fair market value'' in Sec. 411.351. This proposed rule 
would retain the definition. Also, since the statute requires that fair 
market value be ``consistent with the general market value,'' we have 
added to the definition an explanation of ``general market value.''

b. Exception--rental of equipment

    Section 1877(e)(1)(B) provides an exception for payments made by a 
lessee of equipment to the lessor for the use of the equipment if the 
following conditions are met:
     The lease is set out in writing, signed by the parties, 
and specifies the equipment covered by the lease.
     The equipment rented or leased does not exceed that which 
is reasonable and necessary for the legitimate business purposes of the 
rental or lease and is used exclusively by the lessee when being used 
by the lessee.
     The lease provides for a term of rental or lease of at 
least 1 year.
     The rental charges over the term of the lease are set in 
advance, are consistent with fair market value, and are not determined 
in a manner that takes into account the volume or value of any 
referrals or other business generated between the parties.
     The lease would be commercially reasonable even if no 
referrals were made between the parties.
     The lease meets any other requirements the Secretary may 
impose by regulation as needed to protect against Medicare program or 
patient abuse.
    The August 1995 final rule incorporated this provision into our 
regulations at Sec. 411.357(b), without imposing any additional 
requirements. This proposed rule would retain Sec. 411.357(b), with 
minor editorial changes.

c. Exception--bona fide employment relationship

    Under section 1877(e)(2), any amount paid by an employer to a 
physician (or an immediate family member of the physician) who has a 
bona fide employment relationship with the employer for the provision 
of services does not constitute a compensation arrangement for purposes 
of the prohibition if the following conditions are met:
     The employment is for identifiable services.
     The amount of the remuneration under the employment is 
consistent with the fair market value of the services and (except for 
certain productivity bonuses) is not determined in a manner that takes 
into account (directly or indirectly) the volume or value of any 
referrals by the referring physician.
     The remuneration is made in accordance with an agreement 
that would be commercially reasonable even if no referrals were made to 
the employer.
     The employment meets any other requirements the Secretary 
may impose by regulation as needed to protect against Medicare program 
or patient abuse.
    The statute provides that, under this exception, a productivity 
bonus that is based on services performed personally by the physician 
(or immediate family member) does not violate the ``volume or value of 
referrals'' standard.
    ``Employee'' is defined in section 1877(h)(2) as an individual who 
would be considered to be an employee of the entity under the usual 
common law rules that apply in determining employer-employee 
relationships, as applied for purposes of section 3121(d)(2) of the 
Internal Revenue Code of 1986.
    The August 1995 final rule incorporated the provisions of section 
1877(e)(2) into our regulations at Sec. 411.357(c), without imposing 
any additional requirements. This proposed rule would retain 
Sec. 411.357(c), but with additional requirements that we describe in 
section III. The final rule also incorporated the definition of 
``employee'' into our regulations at Sec. 411.351. Again, this proposed 
rule would retain that definition.

d. Exception--personal service arrangements

    Under section 1877(e)(3)(A), remuneration from an entity under an 
arrangement (including remuneration for specific physician services 
furnished to a nonprofit blood center) does not constitute a 
compensation arrangement for purposes of the prohibition on referrals 
if the following conditions are met:
     The arrangement is set out in writing, signed by the 
parties, and specifies the services covered by the arrangement.
     The arrangement covers all of the services to be furnished 
by the physician (or immediate family member) to the entity.
     The aggregate services contracted for do not exceed those 
that are reasonable and necessary for the legitimate business purposes 
of the arrangement.
     The term of the arrangement is for at least 1 year.
     The compensation to be paid over the term of the 
arrangement is set in advance, does not exceed fair market value, and, 
except in the case of a physician incentive plan (as described below) 
is not determined in a manner that takes into account the volume or 
value of any referrals or other business generated between the parties.
     The services to be performed under the arrangement do not 
involve the counseling or promotion of a business arrangement or other 
activity that violates State or Federal law.
     The arrangement meets any other requirements the Secretary 
may impose by regulation as needed to protect against program or 
patient abuse.
    The August 1995 final rule incorporated section 1877(e)(3)(A) into 
our regulations at Sec. 411.357(d)(1), without imposing any additional 
requirements. This proposed rule would retain Sec. 411.357(d)(1), with 
several changes that we discuss in section III of this preamble.
    Section 1877(e)(3)(B)(i) provides that, in the case of a physician 
incentive plan between a physician and an entity, the compensation may 
be determined in a manner (through a withhold, capitation, bonus, or 
otherwise) that takes into account, directly or indirectly, the volume 
or value of any referrals or other business generated between the 
parties, if the plan meets the following requirements:
     No specific payment is made (directly or indirectly) under 
the plan to a physician or a physician group as an inducement to reduce 
or limit medically necessary services provided with respect to a 
specific individual enrolled with the entity.
     If the plan places a physician or a physician group at 
substantial financial risk as determined by the Secretary under section 
1876(i)(8)(A)(ii), the plan

[[Page 1669]]

complies with any requirements the Secretary may impose under that 
section.
     Upon request by the Secretary, the entity provides the 
Secretary with access to descriptive information regarding the plan, in 
order to permit the Secretary to determine whether the plan is in 
compliance with the requirements listed above.
    (Note: Sections 1876(i)(8) and 1903(m)(2)(A) require that physician 
incentive plans be regulated. On March 27, 1996, we published, at 61 FR 
13430, a final rule with comment period that implemented this 
legislation for purposes of both the Medicare and Medicaid programs by 
establishing requirements at Sec. 417.479 (for Medicare) and at 
Sec. 434.70 (for Medicaid). A final rule amending the final rule with 
comment was published on December 31, 1996 at 61 FR 69034.)
    The August 1995 final rule incorporated section 1877(e)(3)(B)(i) 
into our regulations at Sec. 411.357(d)(2). Because of the 
establishment at Sec. 417.479 of requirements concerning incentive 
plans, this proposed rule would revise Sec. 411.357(d)(2). It would 
replace the reference to requirements established by the Secretary 
under section 1876(i)(8)(A)(ii) of the Act with a reference to the 
requirements of Sec. 417.479. We would also reverse the order of 
paragraphs (ii) and (iii) of Sec. 411.357(d)(2) because we believe this 
order reflects a more logical progression. In addition, we would delete 
existing Sec. 411.357(d)(3), which contains a time-sensitive provision 
related to personal services arrangements that, based on the statute, 
is now obsolete.
    Section 1877(e)(3)(B)(ii) defines a ``physician incentive plan'' as 
any compensation arrangement between an entity and a physician or 
physician group that may directly or indirectly have the effect of 
reducing or limiting services provided with respect to individuals 
enrolled with the entity. The August 1995 final rule incorporated this 
definition into our regulations at Sec. 411.351. This proposed rule 
would retain that definition.

e. Exception--remuneration unrelated to the provision of designated 
health services

    Prior to OBRA '93, section 1877(b)(4) provided an exception for any 
financial relationship with a hospital if the financial relationship 
does not relate to the provision of clinical laboratory services. OBRA 
'93 eliminated this provision, but SSA '94 reinstated it until January 
1, 1995. OBRA '93 also added paragraph (e)(4) to section 1877, 
retroactive to January 1, 1992. Under section 1877(e)(4), remuneration 
provided by a hospital to a physician that does not relate to the 
furnishing of designated health services does not constitute a 
compensation arrangement for purposes of the prohibition on referrals. 
Section 1877(e)(4) differs from the predecessor provision at section 
1877(b)(4) in that it retains only the compensation aspect of the 
exception. In addition, it applies only to remuneration from a hospital 
to a physician (that is, it does not include remuneration from a 
physician to a hospital) if the remuneration does not relate to the 
furnishing of designated health services. Also, the exception does not 
apply to remuneration from a hospital to a member of a physician's 
immediate family.
    The August 1995 final rule incorporated the provisions of sections 
1877(b)(4) and (e)(4) as they were effective on January 1, 1992, and as 
they relate to compensation, into our regulations at Sec. 411.357(g). 
This proposed rule would revise Sec. 411.357(g) by removing that 
portion that was based on the predecessor provision of section 
1877(b)(4), since that provision has expired. We would also revise that 
portion of Sec. 411.357(g) that was based on section 1877(e)(4) by 
changing the reference to remuneration not related to the furnishing of 
clinical laboratory services to remuneration not related to the 
furnishing of designated health services. We have also made several 
other changes described in section III of this preamble.

f. Exception--physician recruitment

    Section 1877(e)(5) provides that remuneration provided by a 
hospital to a physician to induce the physician to relocate to the area 
serviced by the hospital in order to be a member of the hospital's 
medical staff does not constitute a compensation arrangement for 
purposes of the prohibition on referrals if the following conditions 
are met:
     The physician is not required to refer patients to the 
hospital.
     The amount of remuneration under the arrangement is not 
determined in a manner that takes into account (directly or indirectly) 
the volume or value of any referrals by the referring physician.
     The arrangement meets any other requirements the Secretary 
may impose by regulation as needed to protect against program or 
patient abuse.
    The August 1995 final rule incorporated the provisions of section 
1877(e)(5) into our regulations at Sec. 411.357(e), with additional 
requirements. Under our authority to impose additional requirements, we 
specified that the arrangement and its terms must be in writing and 
signed by both parties. We also specified that the physician must not 
be precluded from establishing staff privileges at another hospital or 
referring business to another entity. This proposed rule would retain 
Sec. 411.357(e), with a minor editorial change.

g. Exception--isolated transaction

    Section 1877(e)(6) provides that an isolated transaction, such as a 
one-time sale of property or a practice, is not considered to be a 
compensation arrangement for purposes of the prohibition on referrals 
if the following conditions are met:
     The amount of remuneration for the transaction is 
consistent with fair market value and is not determined, directly or 
indirectly, in a manner that takes into account the volume or value of 
referrals by the physician.
     The remuneration is provided under an agreement that would 
be commercially reasonable even if no referrals were made to the 
entity.
     The arrangement meets any other requirements the Secretary 
may impose by regulation as needed to protect against Medicare program 
or patient abuse.
    The August 1995 final rule incorporated the provisions of section 
1877(e)(6) into our regulations at Sec. 411.357(f), with additional 
requirements. Under our authority to impose additional requirements, we 
specified that there can be no additional transactions between the 
parties for 6 months after the isolated transaction, except for 
transactions that are specifically excepted under one of the other 
exceptions provided in the regulations. This proposed rule would retain 
Sec. 411.357(f), with a minor editorial change. In addition, we 
established definitions of ``transaction'' and ``isolated transaction'' 
at Sec. 411.351. We defined a ``transaction'' as an instance or process 
of two or more persons doing business. We defined an ``isolated 
transaction'' as one involving a single payment between two or more 
persons. We specified that a transaction that involves long-term or 
installment payments is not considered an isolated transaction. This 
proposed rule would retain those definitions, with the clarification 
that ``transactions'' can involve persons or entities.

h. Exception--certain group practice arrangements with a hospital

    Section 1877(e)(7) provides that an arrangement between a hospital 
and group under which designated health services are furnished by the 
group but

[[Page 1670]]

are billed by the hospital does not constitute a compensation 
arrangement for purposes of the prohibition on referrals if the 
following conditions are met:
     With respect to the services furnished to a hospital 
inpatient, the arrangement is for the provision of inpatient hospital 
services under section 1861(b)(3).
     The arrangement began before December 19, 1989, and has 
continued in effect without interruption since that date.
     With respect to the designated health services covered by 
the arrangement, substantially all of those services furnished to 
patients of the hospital are furnished by the group under the 
arrangement.
     The arrangement is set out in a written agreement that 
specifies the services to be furnished by the parties and the amount of 
compensation.
     The compensation paid over the term of the agreement is 
consistent with fair market value, and the compensation per unit of 
services is fixed in advance and is not determined in a manner that 
takes into account the volume or value of any referrals or other 
business generated between the parties.
     The compensation is provided under an agreement that would 
be commercially reasonable even if no referrals were made to the 
entity.
     The arrangement between the parties meets any other 
requirements the Secretary may impose by regulation as needed to 
protect against Medicare program or patient abuse.
    The August 1995 final rule incorporated the provisions of section 
1877(e)(7), as they relate to clinical laboratory services, into our 
regulations at Sec. 411.357(h), without imposing any additional 
requirements. This proposed rule would revise Sec. 411.357(h) to apply 
the provisions to the designated health services, and would make 
certain minor changes described in section III.

i. Exception--payments by a physician for items and services

    Section 1877(e)(8) provides that the following do not constitute 
compensation arrangements for purposes of the prohibition on referrals:
     Payments made by a physician to a laboratory in exchange 
for the provision of clinical laboratory services.
     Payments made by a physician to an entity as compensation 
for items or services other than clinical laboratory services if the 
items or services are furnished at fair market value.
    The August 1995 final rule incorporated the provisions of section 
1877(e)(8) into our regulations at Sec. 411.357(i). This proposed rule 
would retain Sec. 411.357(i), but clarify that ``services'' as used in 
the provision means services of any kind (not just those defined as 
``services'' for purposes of the Medicare program in Sec. 400.202).
6. Requirements Related to the ``Substantially All'' Test
    As mentioned earlier, the definition of ``group practice'' in 
section 1877(h)(4) contains a requirement that substantially all of the 
services of the physicians who are members of the group be furnished 
through the group. In the August 1995 final rule, we interpreted 
``substantially all'' to mean at least 75 percent of the total patient 
care services of the group practice members. Further, we defined 
``members of the group,'' at Sec. 411.351, as physician partners and 
full-time and part-time physician contractors and employees during the 
time they furnish services to patients of the group practice that are 
furnished through the group and are billed in the name of the group. 
This proposed rule would revise the definition of ``members of the 
group'' to exclude independent contractors, to count physician owners 
other than partners, and to count physicians as members during the time 
they furnish ``patient care services'' to the group. We discuss these 
changes in section III of this preamble.
    The August 1995 final rule defined ``patient care services,'' at 
Sec. 411.351, as any tasks performed by a group practice member that 
address the medical needs of specific patients, regardless of whether 
they involve direct patient encounters. We included, as examples, the 
services of physicians who do not directly treat patients, time spent 
by a physician consulting with other physicians, and time spent 
reviewing laboratory tests. Under Sec. 411.351, ``patient care 
services'' are measured by the total patient care time each member 
spends on these services.
    This proposed rule would retain the definition of patient care 
services, but would broaden the definition to include tasks that 
benefit patients in general or the group practice. We are also 
proposing minor changes that we believe are necessary to clarify what 
tasks qualify under the definition. We describe these changes in 
section III of this preamble.
    The August 1995 final rule also required, at Sec. 411.360, that a 
group practice submit a written statement to its carrier annually to 
attest that, during the most recent 12-month period (calendar year, 
fiscal year, or immediately preceding 12-month period) 75 percent of 
the total patient care services of group practice members was furnished 
through the group, was billed under a billing number assigned to the 
group, and the amounts so received were treated as receipts of the 
group.
    Section 411.360 also provides that a newly-formed group practice 
(one in which physicians have recently begun to practice together) or 
any group practice that has been unable in the past to meet the 
definition of a group practice as set forth at section 1877(h)(4) 
must--
     Submit a written statement to attest that, during the next 
12-month period (calendar year, fiscal year, or next 12 months), it 
expects to meet the 75 percent standard and will take measures to 
ensure the standard is met; and
     At the end of the 12-month period, submit a written 
statement to attest that it met the 75 percent standard during that 
period, billed for those services under a billing number assigned to 
the group, and treated amounts received for those services as receipts 
of the group. If the group did not meet the standard, any Medicare 
payments made to the group during the 12-month period that were 
conditioned on the group meeting the standard are overpayments.

In addition, Sec. 411.360 specifies that--

     Once any group has chosen to use its fiscal year, the 
calendar year, or some other 12-month period, the group practice must 
adhere to this choice.
     The attestation must contain a statement that the 
information furnished in the attestation is true and accurate and must 
be signed by a group representative.
     Any group that intends to meet the definition of a group 
practice in order to qualify for one of the exceptions provided in the 
regulations must submit the required attestation to its carrier by 
December 12, 1995.
    The August 1995 final rule contains a discussion of the rationale 
for the above provisions. On December 11, 1995, we published in the 
Federal Register, at 60 FR 63438, a final rule that delays the date by 
which a group of physicians must file an attestation statement. The 
December final rule amended Sec. 411.360 to require that a group that 
intends to meet the definition of a group practice must submit an 
attestation statement to its carrier no later than 60 days after the 
group receives attestation instructions from its carrier. The preamble 
to the December rule points out that a group can regard itself as a 
group practice in the interim period before it receives attestation 
instructions, provided the group believes that it meets the

[[Page 1671]]

definition of a group practice under Sec. 411.351.
    This proposed rule would retain Sec. 411.360, as amended by the 
December 1995 final rule. We propose to make several minor changes to 
clarify that a group is only required to complete an attestation if it 
wishes to qualify as a group practice for purposes of meeting an 
exception that requires group status. We are also changing the 
provision to require that the attestation be signed by an authorized 
representative of the group practice who is knowledgeable about the 
group, and to contain a statement that the information furnished in the 
attestation is true and accurate to the best of the representative's 
knowledge and belief. The proposed provision also states that any 
person filing a false statement will be subject to applicable criminal 
and civil penalties.
7. Reporting Requirements
    Prior to SSA '94, section 1877(f) included the requirement that 
each entity furnishing Medicare covered items or services must provide 
us with certain information concerning its ownership or investment 
arrangements. In our December 3, 1991 interim final rule with comment 
period, published in the Federal Register at 56 FR 61374, we extended 
the rule to include certain information concerning an entity's 
compensation arrangements for the reasons discussed in the preamble of 
that rule.
    Section 1877(f) also gave the Secretary the option of waiving the 
reporting requirements, for certain entities that do not furnish 
clinical laboratory services, in all but 10 States. The interim final 
rule discussed our decision to waive the reporting requirements for all 
entities (other than those providing clinical laboratory services) in 
States other than the minimum 10 States specified in the statute. In 
the 10 States, we were required to obtain data from at least six 
specific types of entities. We gathered data from these providers in 
the fall of 1991.
    Section 152 of SSA '94 amended section 1877(f) extensively. It 
extended the reporting requirements to specifically cover information 
not only about an entity's ownership or investment interests, but about 
compensation arrangements as well. SSA '94 also eliminated the 
Secretary's authority to waive the reporting requirements for certain 
States or services, although the Secretary continues to have the right 
to determine that an entity is not subject to the reporting 
requirements because it provides services covered under Medicare very 
infrequently. In addition, the requirements continue to not apply to 
designated health services furnished outside of the United States. 
Section 1877(f) allows the Secretary to gather the information in such 
form, manner, and at such times as she specifies.
    We discussed the provisions of section 1877(f), as they relate to 
clinical laboratories and as they read under OBRA '90, in detail in the 
December 1991 interim final rule. The August 1995 final rule adopted 
the provisions of the interim final rule with revisions that reflect 
the changes made by SSA '94. While the August 1995 final rule reflects 
the amendments made to section 1877(f), it did not interpret these 
amendments. This proposed rule retains the reporting requirements as 
they appear in the August 1995 final rule, subject to certain 
interpretations we have added in section III of this preamble. These 
requirements are set forth at existing Sec. 411.361, and we would apply 
them to any future reporting we may require.
8. Sanctions
    Prior to OBRA '93, section 1877(g)(1) required a denial of payment 
for a clinical laboratory service that was provided in violation of the 
referral prohibition. Paragraph (g)(2) of section 1877 required the 
timely refund of amounts collected in violation of the prohibition. 
OBRA '93 extended these provisions to apply to all of the designated 
health services, effective January 1, 1995. The August 1995 final rule 
incorporated these provisions as they relate to clinical laboratory 
services into our regulations at Secs. 411.353(c) and (d), 
respectively. This proposed rule would revise Secs. 411.353(c) and (d) 
to extend their application to the other designated health services.
    Paragraph (g)(3) of section 1877 provides for the imposition of a 
civil money penalty of $15,000 per service and exclusion from Medicare 
and any State health care program, including Medicaid, for any person 
who presents or causes to be presented a bill or claim the person knows 
or should know is for a service for which payment may not be made under 
Sec. 1877(a). The same penalty applies for a service for which a person 
has not made a refund as described in paragraph (g)(2).
    Paragraph (g)(4) provides for a $100,000 civil money penalty and 
the same exclusion penalty for any physician or other entity that 
enters into a circumvention scheme that the physician or entity knows 
or should know has a principal purpose of assuring referrals by the 
physician to a particular entity which, if the physician made the 
referrals directly, would be in violation of section 1877. A proposed 
rule published by the Office of Inspector General on October 20, 1993 
(58 FR 54096) addresses sections 1877(g)(3) and (g)(4). That rule 
became final on March 31, 1995 (60 FR 16580).
    Paragraph (g)(5) of section 1877 provides for possible exclusion 
and a civil money penalty of not more than $10,000 per day for each day 
in which a person has failed to meet a reporting requirement in section 
1877(f). The December 1991 interim final rule covering the reporting 
requirements incorporated this provision into our regulations at 
Sec. 411.361(g), and the August 1995 final rule redesignated 
Sec. 411.361(g) as Sec. 411.361(f). This proposed rule would retain 
Sec. 411.361(f).
9. Additional Definitions
    In implementing provisions of section 1877 as they were effective 
on January 1, 1992, the August 1995 final rule established definitions 
of the following terms (which were not discussed above) at 
Sec. 411.351:
    a. Clinical laboratory services means the biological, 
microbiological, serological, chemical, immunohematological, 
biophysical, cytological, pathological, or other examination of 
materials derived from the human body for the purpose of providing 
information for the diagnosis, prevention, or treatment of any disease 
or impairment of, or the assessment of the health of, human beings. 
These examinations also include procedures to determine, measure, or 
otherwise describe the presence or absence of various substances or 
organisms in the body.
    b. Entity means a sole proprietorship, trust, corporation, 
partnership, foundation, not-for-profit corporation, or unincorporated 
association. For reasons discussed in section III of this preamble, 
this proposed rule would revise the definition of ``entity'' to include 
a physician's sole proprietorship and any practice of multiple 
physicians that provides for the furnishing of a designated health 
service.
    c. Hospital means any separate legally-organized operating entity 
plus any subsidiary, related, or other entities that perform services 
for the hospital's patients and for which the hospital bills. However, 
we have excluded from this definition entities that perform services 
for hospital patients ``under arrangements'' with the hospital. We 
propose to amend this definition to make it clear that ``hospitals'' 
include regular hospitals, psychiatric hospitals, and rural primary 
care hospitals.

[[Page 1672]]

    d. HPSA means, for purposes of the August 1995 final rule, an area 
designated as a health professional shortage area under section 
332(a)(1)(A) of the Public Health Service Act for primary medical care 
professionals (in accordance with the criteria specified in 42 CFR part 
5, Appendix A, Part I--Geographic Areas). In addition, with respect to 
dental, mental health, vision care, podiatric, and pharmacy services, 
an HPSA means an area designated as a health professional shortage area 
under section 332(a)(1)(A) of the Public Health Service Act for dental 
professionals, mental health professionals, vision care professionals, 
podiatric professionals, and pharmacy professionals, respectively.
    e. Immediate family member or ``member of a physician's immediate 
family'' means husband or wife; natural or adoptive parent, child, or 
sibling; stepparent, stepchild, stepbrother, or stepsister; father-in-
law, mother-in-law, son-in-law, daughter-in-law, brother-in-law, or 
sister-in-law; grandparent or grandchild; and spouse of a grandparent 
or grandchild.
    f. Laboratory means an entity furnishing biological, 
microbiological, serological, chemical, immunohematological, 
hematological, biophysical, cytological, pathological, or other 
examination of materials derived from the human body for the purpose of 
providing information for the diagnosis, prevention, or treatment of 
any disease or impairment of, or the assessment of the health of, human 
beings. These examinations also include procedures to determine, 
measure, or otherwise describe the presence or absence of various 
substances or organisms in the body. Entities only collecting or 
preparing specimens (or both) or only serving as a mailing service and 
not performing testing are not considered laboratories.
    g. The August 1995 final rule defined a ``plan of care'' as the 
establishment by a physician of a course of diagnosis or treatment (or 
both) for a particular patient, including the ordering of items or 
services. For reasons discussed earlier, this proposed rule would 
remove the words ``items or'' from this definition.
    (We explain our rationale for some of these definitions in the 
March 1992 proposed rule, and we explain the remainder in the August 
1995 final rule.) We would extend these definitions to apply to 
referrals involving any of the designated health services.
    We have made some changes to the definitions in addition to those 
noted above. Any changes in definitions that we have included in this 
proposed rule do not result from changes in the legislation, but 
reflect our most recent interpretations of the statute. In section III 
of this preamble, we discuss in detail how we propose to interpret 
provisions in section 1877 and in section 1903(s) that we have either 
not interpreted in the August 1995 final rule or that we believe we 
must reconsider in the context of the designated health services. In 
section III, we also define or interpret terms that are present in the 
statute (such as each of the designated health services) as well as 
include new definitions that we propose to add to the rule to enable us 
to implement other parts of the statute.
10. Conforming Changes
    We propose to revise existing Secs. 411.1(a) and 411.350(a), which 
set forth the statutory basis for the provisions in part 411, subpart 
A, and part 411, subpart J, respectively, by changing the reference to 
``clinical laboratory services'' to ``designated health services.''
11. Editorial Changes
    In addition to the proposed changes discussed above, we would also 
make a number of editorial changes to subpart J of part 411. These 
changes would not affect the substance of the provisions. As an example 
of the type of change we would make, in Sec. 411.355(a), we would add 
the words ``of this chapter'' after the reference to Sec. 410.20(a).

B. Applying The Referral Prohibition to the Medicaid Program: Section 
1903(s) of the Act and the Provisions of This Proposed Rule

    Title XIX of the Act authorizes Federal grants to States to 
establish Medicaid programs to provide medical assistance to needy 
individuals. Medicaid programs are administered by the States in 
accordance with Federal laws and regulations. State Medicaid agencies 
operate their programs in accordance with a Medicaid State plan that is 
approved by us.
    While Medicaid programs are administered by the States, they are 
jointly financed by the Federal and State governments. The Federal 
government pays its share of medical assistance expenditures to the 
State on a quarterly basis according to a formula described in sections 
1903 and 1905(b). The amount of the Federal share for medical 
assistance is called Federal financial participation (FFP). Before the 
enactment of OBRA '93, there were no statutory or regulatory 
requirements concerning the availability of FFP for Medicaid services 
resulting from physician referrals.
    Section 13624 of OBRA '93, entitled ``Application of Medicare Rules 
Limiting Certain Physician Referrals,'' added a new paragraph (s) to 
section 1903 of the Act. This new provision extends aspects of the 
Medicare prohibition on physician referrals to Medicaid. Specifically, 
this provision restricts FFP for expenditures for medical assistance 
under the State plan consisting of designated health services, as 
defined under section 1877(h)(6), that are furnished to an individual 
on the basis of a physician referral that would result in the denial of 
payment under the Medicare program if Medicare covered the services to 
the same extent and under the same terms and conditions as under a 
State's Medicaid plan.
    This proposed rule would revise Sec. 435.1002, ``FFP for 
services,'' to reflect section 1903(s). We would specify in 
Sec. 435.1002(a) that the availability of FFP for expenditures for 
Medicaid services is subject to the limitations set forth in new 
Sec. 435.1012. We would entitle Sec. 435.1012 as ``Limitation on FFP 
Related to Prohibited Referrals.'' The proposed new provision states 
that we will deny FFP for designated health services (as defined in 
Sec. 431.351) furnished under the State plan to an individual on the 
basis of a physician referral that would result in the denial of 
payment under the Medicare program if Medicare covered the services to 
the same extent and under the same terms and conditions as under the 
State plan. We believe that certain aspects of section 1903(s) require 
our interpretation, and we discuss these aspects in section III of this 
preamble.
    Section 4314 of the Balanced Budget Act of 1997 established section 
1877(g)(6) of the Act. It requires that the Secretary issue written 
advisory opinions to outside parties concerning whether the referral of 
a Medicare patient by a physician for designated health services (other 
than clinical laboratory services) is prohibited under the physician 
referral provisions in section 1877. Because the Medicare rules can 
affect whether a State will receive FFP for certain services, States, 
as well as individuals and entities that provide services under the 
Medicaid program, may be interested in the advisory opinion process. As 
a result, we have included in Sec. 435.1012(c) a cross reference to the 
Medicare regulations that set forth the specific procedures we will use 
in issuing advisory opinions.
    Section 1903(s) also specifies that the reporting requirements of 
section

[[Page 1673]]

1877(f) and the penalties for failing to report in section 1877(g)(5) 
apply to a provider of a designated health service for which payment 
may be made under Medicaid in the same manner as they apply to a 
provider that furnishes a designated health service for which payment 
may be made under Medicare.
    This proposed rule would incorporate the provisions of sections 
1877(f) and (g)(5) into our Medicaid regulations by adding new 
Secs. 455.108 and 455.109 to part 455 (``Program Integrity: 
Medicaid''). These two provisions would appear under a new subpart C 
entitled ``Disclosure of Information by Providers for Purposes of the 
Prohibition on Certain Physician Referrals.'' Section 455.108, 
``Purpose,'' would specify that subpart C implements section 1903(s) of 
the Act. Section 455.109, ``Disclosure of ownership, investment, and 
compensation arrangements,'' would list the specific disclosure 
requirements, and the sanctions for failing to comply. We interpret 
these disclosure requirements, as we believe they apply to Medicaid 
providers, in section III of this preamble.

III. Interpretations of Sections 1877 and 1903(s) of the Act

    In this section of the preamble, we discuss in detail how we 
propose to interpret provisions in section 1877 and in section 1903(s) 
that we either did not interpret in the August 1995 final rule or that 
we interpreted in the context of referrals for clinical laboratory 
services, but must reconsider in the context of the additional 
designated health services. We propose to define or interpret terms 
that are present in the statute (such as each of the designated health 
services) or to reinterpret or clarify certain statutory terms that we 
interpreted in the past. We also propose to add certain new terms and 
definitions to the rule that we believe are necessary for us to 
implement parts of the statute. This section is structured in the order 
we used to present the statutory provisions and our interpretations in 
the August 1995 final rule. We would like to point out that, in these 
proposed regulations, we intend to interpret only the provisions of 
section 1877 of the Act, and not the provisions of any other State or 
Federal laws, such as the antitrust laws, the anti-kickback statute, or 
the Internal Revenue Code.

A. Definitions

1. Designated Health Services
    As we noted above, OBRA '93 expanded the physician referral 
prohibition to apply to ten designated health services in addition to 
clinical laboratory services. Section 1877(h)(6) lists these services, 
but does not define them. Because the designated health services are 
not defined in section 1877, we would define them in Sec. 411.351.
    Designated health services as components of other services. We 
believe that a designated health service remains one, even if it is 
billed as something else or is subsumed within another service category 
by being bundled with other services for billing purposes. For example, 
most services provided by a skilled nursing facility (SNF) are 
considered SNF services, which are not themselves designated health 
services. Nonetheless, SNF services can encompass a variety of 
designated health services, such as physical therapy services or 
laboratory services.
    Similarly under Medicaid, services provided by a clinic are 
considered ``clinic services'' under section 1905(a)(9) of the Act, but 
could encompass a variety of designated health services, such as 
occupational therapy, physical therapy, or radiology services.
    We base our interpretation on the fact that Congress compiled its 
list of designated health services based on abuses or potential abuses 
it perceived in regard to a variety of specific kinds of services. The 
list in section 1877(h)(6), in fact, does not exactly track the service 
categories as they are defined under either Medicare or Medicaid. In 
short, we regard the services designated in section 1877 as subject to 
the requirements of that section regardless of the setting in which 
they are provided or the payment category under which they are billed.
    On the other hand, we are also aware that designated health 
services are sometimes provided as merely peripheral parts of some 
other major service that a physician has prescribed. For example, 
physicians often employ echocardiography (to obtain ultrasound signals 
from the heart) as a mechanism to intraoperatively view the results of 
bypass surgery. We do not believe that a physician using 
echocardiography this way has made a specific referral for a designated 
health service; instead, we regard the physician as prescribing a 
physician service that happens to incidentally include 
echocardiography. In other words, it is our view that a physician is 
unlikely to over-prescribe bypass surgery in order to enhance his or 
her investment in an echocardiography machine. Because we believe that 
Congress meant to include under designated health services specific 
services that are or could be subject to abuse, we are proposing to 
define those services accordingly. Thus, we propose to deviate from 
standard Medicare or Medicaid definitions of certain services in order 
to meet the intent of the statute.
    How we define designated health services. We have chosen, in 
general, to base the definitions for the designated health services on 
existing definitions in the Medicare program. Except for inpatient 
hospital services and home health services, our definitions are based 
on how Medicare covers a service under Part B. As noted above, we have 
chosen to deviate from these definitions when we believe it is 
appropriate to fulfill the purpose of the statute.
    These definitions would apply for purposes of physician referrals 
that are made for services covered under Medicare and for analogous 
services covered under the Medicaid program. However, section 1903(s) 
precludes FFP for medical assistance under a State plan consisting of a 
designated health service furnished to an individual on the basis of a 
referral that would result in a denial of payment under Medicare if 
Medicare provided for coverage of the service to the same extent and 
under the same terms and conditions as under the State plan. We believe 
that in enacting section 1903(s), Congress was clearly concerned that 
financial relationships of the kind that would prohibit a referral for 
services under Medicare may also lead to improper utilization of 
Medicaid services. However, because Medicaid has its own unique set of 
coverage requirements, a State can cover and reimburse designated 
health services very differently from the way these services are 
covered and reimbursed under the Medicare program. We believe that 
Congress was aware of these program differences and specifically meant 
to provide us with some flexibility in applying the Medicare physician 
referral rules in the Medicaid context. Therefore, we intend to apply 
this flexibility in the following manner, which we believe will further 
the goals of the statute:
    When the definition of a designated health service is the same 
under both programs, we intend to use the same definition, as described 
in this preamble, for both programs. However, when the definition of a 
designated health service differs under a State's plan from the 
definition under Medicare, we will assume that the services under the 
State's plan take precedence, even if the definition will encompass 
services that are not covered by Medicare. However, we propose not to 
include Medicaid services as designated health services in situations

[[Page 1674]]

in which including those services appears to run counter to the 
underlying purpose of the legislation. Because Medicaid is administered 
by the States, we do not believe that we are in the best position to 
determine when including particular services will have this effect. As 
a result, we are specifically soliciting comments on how to implement 
our policy in a manner that will achieve the goals of the statute.
    We have received a number of inquiries from individuals who were 
confused about whether a particular service falls under one of the 
designated service categories listed in section 1877(h)(6). In order to 
remedy this problem, we have included below general explanations of 
each of the designated health services, including explanations of how 
we interpret similar or parallel services under Medicare. In the text 
of the proposed regulation, however, we have defined designated health 
services whenever we could by simply cross-referencing existing 
definitions in the Medicare statute, regulations, or manuals or by 
including specific language whenever we believe the definitions should 
deviate from standard Medicare definitions.

a. Clinical laboratory services

    We would retain the definition that was incorporated into our 
regulations at Sec. 411.351 by the August 1995 rule.

b. Physical therapy services (including speech-language pathology 
services)

    Physical therapy services. Sections 1861(s)(2)(D) and 1832 provide 
for coverage of outpatient physical therapy services under Part B, 
which are defined in section 1861(p). Under section 1861(p), outpatient 
physical therapy services may be furnished by a provider of services, a 
clinic, rehabilitation agency, or public health agency, or by others 
under arrangements with and under the supervision of one of these 
entities. The services must be furnished to an outpatient who is under 
the care of a doctor of medicine or osteopathy, or a doctor of 
podiatric medicine, under a plan of care established by one of these 
physicians or by a qualified physical therapist. The plan must be 
periodically reviewed by the physician and must include the type, 
amount, and duration of physical therapy services to be furnished. No 
service is included as outpatient physical therapy if it would not be 
included as an inpatient hospital service if furnished to an inpatient 
of a hospital. Outpatient physical therapy may be furnished by a 
provider to an individual as an inpatient of a hospital or extended 
care facility if the individual has exhausted or is otherwise 
ineligible for benefit days under Medicare Part A.
    Outpatient physical therapy services may be furnished by an 
independent physical therapist in his or her office or in an 
individual's home. The physical therapist must meet any standards 
created by the Secretary in regulations, including health and safety 
standards. Special provisions concerning services furnished by a 
physical therapist in independent practice are set forth at 
Sec. 410.60(c).
    Under section 1861(p), the term ``outpatient physical therapy 
services'' also includes speech-language pathology services. Medicare 
covers speech-language pathology services if furnished to an outpatient 
by a provider of services, a clinic, rehabilitation agency, or public 
health agency, or by others under arrangements with and under the 
supervision of one of these entities. However, the statute does not 
provide for coverage of services furnished by speech-language 
pathologists in independent practice.
    Plan of treatment requirements for outpatient physical therapy and 
speech-language pathology services are set forth in Sec. 410.61. 
Conditions for outpatient physical therapy services are set forth in 
Sec. 410.60(a) and (b), and conditions and exclusions for outpatient 
speech-language pathology services are set forth in Sec. 410.62.
    Basically, covered outpatient physical therapy services include 
three types of services, which are best described in Sec. 410.100(b) 
(which specifically concerns services provided by a comprehensive 
outpatient rehabilitation facility). Section 410.100(b) provides that 
the following are physical therapy services:
     Testing and measurement of the function or dysfunction of 
the neuromuscular, musculoskeletal, cardiovascular, and respiratory 
systems.
     Assessment and treatment related to dysfunction caused by 
illness or injury and aimed at preventing or reducing disability or 
pain and restoring lost function.
     The establishment of a maintenance therapy program for an 
individual whose restoration has been reached. (However, maintenance 
therapy itself is not covered as part of these services. Sections 
3101.8 of the Medicare Intermediary Manual (HCFA Pub. 13, Part 3) and 
2210 of the Medicare Carriers Manual provide guidelines for coverage of 
restorative therapy and maintenance programs.)
    Speech-language pathology services. These services are defined in 
section 1861(ll)(1) as such speech, language, and related function 
assessment and rehabilitation services furnished by a qualified speech-
language pathologist as this pathologist is legally authorized to 
perform under State law (or the State regulatory mechanism) as would 
otherwise be covered if furnished by a physician. Section 1877(ll)(3) 
defines a ``qualified speech-language pathologist.''
    Speech-language pathology services are briefly described in 
Sec. 410.100(d) as those necessary for the diagnosis and treatment of 
speech and language disorders that create difficulties in 
communication. Section 2216 of the Medicare Carriers Manual provides 
that speech-language pathology services are also services necessary for 
the diagnosis and treatment of swallowing disorders (dysphagia), 
regardless of the presence of a communication disability. This section 
of the manual also discusses restorative therapy and maintenance 
programs and group speech pathology services under the two main 
categories of diagnostic or evaluation services and therapeutic 
services.
    Services that are essentially the same as ``outpatient physical 
therapy services'' and ``outpatient speech pathology services'' are 
also covered by Medicare in other contexts and in different settings, 
and may be billed under different categories. For example, section 
1861(b)(3) lists as ``inpatient hospital services'' other diagnostic or 
therapeutic items or services furnished by a hospital or by others 
under arrangements with the hospital, as are ordinarily furnished to 
inpatients. We have a longstanding policy of covering physical therapy 
and occupational therapy as diagnostic or therapeutic ``inpatient 
hospital services.'' The Medicare regulations in Sec. 482.56, in fact, 
include conditions of participation for hospitals that provide physical 
therapy, occupational therapy, or speech pathology services.
    Similarly, these services can also be covered as SNF services. 
Section 1861(h)(3) includes as ``extended care services'' physical or 
occupational therapy or speech-language pathology services furnished by 
the SNF (or by others under arrangements made by the facility), to an 
inpatient of the facility. These services can also be furnished as 
``incident to'' a physician's services under section 1861(b)(2)(A). 
This provision covers services and supplies furnished as an incident to 
a physician's professional service, of kinds that are commonly 
furnished in physicians' offices and are commonly either furnished 
without charge or included in the physicians' bills. Physical and 
occupational therapy can qualify as

[[Page 1675]]

``incident to'' services, as reflected in section 2050.2 of the 
Carriers Manual, if the physician directly supervises auxiliary 
personnel who furnish these services and if these personnel are 
employed by the physician.
    Section 1877(h)(6)(B) lists as a designated health service 
``physical therapy services,'' rather than the more limited category of 
``outpatient physical therapy services.'' Therefore, we believe that we 
can include within our definition of these services any physical 
therapy or speech-language pathology services that are covered under 
Medicare, regardless of where they are furnished and by whom, or how 
they are billed.
    For purposes of section 1877, we would define ``physical therapy 
services'' as those outpatient physical therapy services (including 
speech-language pathology services) described at section 1861(p) of the 
Act and at Sec. 410.100(b) and (d). Physical therapy services also 
include any other services with the characteristics described in 
Sec. 410.100(b) and (d) that are covered under Medicare Part A or B, 
regardless of who provides them, the location in which they are 
provided, or how they are billed.

c. Occupational therapy services

    Sections 1861(s)(2)(D) and 1832 of the Act provide for coverage of 
outpatient occupational therapy services under Part B. Section 1861(g) 
defines ``outpatient occupational therapy services'' by substituting 
the word ``occupational'' for the word ``physical'' each place that it 
appears in the definition of outpatient physical therapy services in 
section 1861(p).
    Under section 1861(g), outpatient occupational therapy services may 
be furnished by a provider of services, a clinic, rehabilitation 
agency, or public health agency, or by others under arrangements with 
and under the supervision of one of these entities. The services must 
be furnished to an outpatient who is under the care of a doctor of 
medicine or osteopathy, or a doctor of podiatric medicine, under a plan 
of care established by one of these physicians or by a qualified 
occupational therapist. The plan must be periodically reviewed by the 
physician and must include the type, amount, and duration of 
occupational therapy services to be furnished. No service is included 
as outpatient occupational therapy if it would not be included as an 
inpatient hospital service if furnished to an inpatient of a hospital. 
Outpatient occupational therapy may be furnished by a provider to an 
individual as an inpatient of a hospital or extended care facility if 
the individual has exhausted or is otherwise ineligible for benefit 
days under Medicare Part A.
    Outpatient occupational therapy services may be furnished by an 
independent occupational therapist in his or her office or in an 
individual's home. The occupational therapist must meet any standards 
created by the Secretary in regulations, including health and safety 
standards.
    Coverage guidelines for occupational therapy services are set forth 
in sections 3101.9 of the Medicare Intermediary Manual (HCFA Pub. 13, 
Part 3) and 2217 of the Medicare Carriers Manual. The purpose of 
occupational therapy services is described generally in section 3101.9 
of the Intermediary Manual as follows: ``Occupational therapy is a 
medically prescribed treatment concerned with improving or restoring 
functions which have been impaired by illness or injury or, where 
function has been permanently lost or reduced by illness or injury, to 
improve the individual's ability to perform those tasks required for 
independent functioning.''
    Basically, covered outpatient occupational therapy services include 
the following types of services, which are best described in section 
410.100(c), a section that specifically concerns services provided by a 
comprehensive outpatient rehabilitation facility. For purposes of 
section 1877, we would use the same services that are described in 
section 410.100(c). In Sec. 411.351, occupational therapy services 
would include the following:
     Teaching of compensatory techniques to permit an 
individual with a physical impairment or limitation to engage in daily 
activities.
     Evaluation of an individual's level of independent 
functioning.
     Selection and teaching of task-oriented therapeutic 
activities to restore sensory-integrative function.
     Assessment of an individual's vocational potential, except 
when the assessment is related solely to vocational rehabilitation.
    As we pointed out in the section covering physical therapy 
services, services that are essentially the same as ``outpatient 
occupational therapy services'' are also covered by Medicare in other 
contexts and in different settings, and may be billed under different 
categories. For example, they might be covered as ``inpatient hospital 
services'' under section 1861(b)(3) as ``other diagnostic or 
therapeutic items or services'' furnished by a hospital or by others 
under arrangements with the hospital; they might be covered as SNF 
services under section 1861(h)(3) as part of a patient's ``extended 
care services''; or they might be furnished in a physician's office as 
services ``incident to'' the physician's services under section 
1861(b)(2)(A).
    Section 1877(h)(6)(C) lists as a designated health service 
``occupational therapy services,'' rather than the more limited 
category of ``outpatient occupational therapy services.'' Therefore, we 
believe that we can include within our definition of these services any 
occupational therapy services which are covered under Medicare, 
regardless of where they are furnished and by whom, or how they are 
billed.
    For purposes of section 1877, we would define ``occupational 
therapy services'' as those outpatient occupational therapy services 
described at section 1861(g) of the Act and at 42 CFR 410.100(c). 
Occupational therapy services also include any other services with the 
characteristics described in Sec. 410.100(c) that are covered under 
Medicare Part A or B, regardless of who furnishes them, the location in 
which they are furnished, or how they are billed.

d. Radiology services, including magnetic resonance imaging, 
computerized axial tomography scans, ultrasound services, and radiation 
therapy services and supplies

    Section 1877(h)(6)(D) identifies ``radiology services, including 
magnetic resonance imaging, computerized axial tomography scans, and 
ultrasound'' as a designated health service. Section 1877(h)(6)(E) 
identifies ``radiation therapy services and supplies'' as a designated 
health service.
    Sections 1861(s)(3) and 1832 establish that ``diagnostic X-ray 
tests,'' including diagnostic mammography services under certain 
conditions, are considered medical or other health services under Part 
B. Similarly, section 1861(s)(4) establishes that ``X-ray, radium, and 
radioactive isotope therapy, including materials and services of 
technicians'' are considered medical or other health services under 
Part B. Even though the statute does not define these terms, the 
payment provisions in section 1833(a)(2)(E) prescribe rules for paying 
for outpatient hospital radiology services. These include diagnostic 
and therapeutic radiology, nuclear medicine, computer assisted 
tomography (CAT scan) procedures, magnetic resonance imaging, and 
ultrasound and other imaging services (but excluding screening 
mammography). We cover these services under the conditions described in 
Secs. 410.32(a) and 410.35 of the regulations and in the Coverage

[[Page 1676]]

Issues Manual (HCFA Pub. 6) and in other manuals.
    Section 1861(s)(13) includes as medical or other health services 
screening mammography services, which are defined in section 1861(jj) 
as a ``radiologic procedure'' provided to a woman for the purpose of 
early detection of breast cancer. We believe that screening mammography 
could qualify as one of the ``radiology services'' listed in section 
1877(h)(6)(D) as a designated health service. However, as we have 
stated elsewhere, we believe that Congress enacted the physician 
referral prohibition to limit the tendency for referring physicians to 
overutilize services because they have a financial incentive to do so. 
It is our view that screening mammography services cannot be subject to 
overutilization. We base this conclusion on the fact that the statute 
specifically limits the frequency with which the Medicare program will 
cover these services. That is, section 1834(c)(2) specifically 
prescribes how frequently the screenings will be covered for different 
age groups. In addition, we never consider the covered level of 
screenings to be unnecessary services--we believe that all women should 
receive the screenings that are covered for them under the statute. (We 
cover these screening services under the conditions described in 
Sec. 410.34 and in the Coverage Issues Manual.)
    We wish to make it clear that the only type of mammography that we 
would exclude from the definition of ``radiology services'' listed 
under section 1877(h)(6)(D) would be screening mammography as covered 
under section 1861(s)(13) and as defined in section 1861(jj). It is our 
view that ``radiology services'' does include diagnostic mammography, 
which is not subject to the same limits. (Diagnostic mammography 
services are defined in Sec. 410.34(a) as mammography furnished to a 
symptomatic patient for the purpose of detecting breast disease, while 
screening mammography is furnished to asymptomatic patients.)
    Although Congress did not set up section 1877(h)(6)(D) and (E) in a 
manner that parallels section 1861(s)(3) and (4), we believe that 
paragraphs (D) and (E) of section 1877(h)(6), taken together, cover the 
same services that are covered as Part B services under section 
1861(s)(3) and (4). Therefore, throughout this document the terms 
``radiology'' and ``imaging'' mean any diagnostic test or therapeutic 
procedure using X-rays, ultrasound and other imaging services, CT 
scans, MRIs, radiation, or nuclear medicine, including diagnostic 
mammography services, except for the distinctions that follow.
    The physician's professional component--Medicare has traditionally 
considered a physician's professional services related to radiology to 
in general be covered as physician services under section 1861(s)(1) 
rather than as radiology services under either paragraph (3) or (4) of 
section 1861(s). However, we believe that it is appropriate for 
purposes of section 1877 to consider radiology services as including 
these physician services. We are proposing to include the professional 
component because radiology always consists of a technical service 
combined with a physician's professional service. Whenever a technical 
radiological service is overutilized, it follows that a physician's 
radiological service will also be overutilized.
    Several studies have found that nonradiologists with imaging 
facilities in their own offices order imaging tests far more frequently 
than physicians who refer their patients to imaging facilities outside 
their practices. We mentioned several of these studies in section I.A 
of this preamble in the general discussion concerning studies that have 
raised serious concerns about physicians who make self-referrals. For 
example, one GAO study found that Florida nonradiologists who were sole 
practitioners or in group practices or other practice affiliations with 
imaging facilities in their own offices, when compared to physicians 
who referred outside their practices, had imaging rates about 3 times 
higher for MRIs; about 2 times higher for CT scans; 4.5 to 5.1 times 
higher for ultrasound, echocardiography, and diagnostic nuclear 
medicine imaging; and about 2 times higher for complex and simple X-
rays. (GAO Report, ``Medicare: Referrals to Physician-owned Imaging 
Facilities Warrant HCFA's Scrutiny,'' No. B-253835, pages 2, 3, and 10 
(October 1994).)
    Similarly, a study appearing in the New England Journal of Medicine 
compared the frequency and costs of diagnostic imaging furnished by 
self-referring physicians to the frequency and costs of these same 
services when physicians refer patients to an unrelated radiologist. 
The study covered referrals for four medical conditions. The study 
determined that the self-referring physicians obtained imaging 
examinations 4.0 to 4.5 times more often than the physicians who 
referred to unrelated radiologists. In addition, with respect to three 
of the four medical conditions, the self-referring physicians charged 
significantly more than the radiologists for imaging examinations of 
similar complexity. The combination of more frequent imaging and higher 
charges resulted in mean imaging charges per episode of care that were 
4.4 to 7.5 times higher for the self-referring physicians. (Bruce J. 
Hillman, M.D., and others, ``Frequency and Costs of Diagnostic Imaging 
In Office Practice--A Comparison of Self-Referring and Radiologist-
Referring Physicians,'' The New England Journal of Medicine, Vol. 323, 
No. 23 (Dec. 6, 1990), pp. 1604-1608)

Exclusion for Invasive or Interventional Radiology

    We would exclude from the meaning of radiology, for the purposes of 
section 1877, any ``invasive'' radiology (also commonly referred to as 
interventional radiology). Invasive radiology is any procedure in which 
the imaging modality is used to guide a needle, probe, or a catheter 
accurately. Examples include percutaneous transluminal angioplasty 
(PTA); the placement of catheters for therapeutic embolization of 
tumors, arteriovenous malformations, or bleeding sites; the placement 
of drainage catheters; removal of stones; balloon dilation of 
strictures; biopsies; arthrograms; and myelograms.
    We are basing this exclusion on the theory that the radiology 
services in these procedures are merely incidental or secondary to 
another procedure that the physician has ordered. As we have stated 
earlier, we believe that Congress meant for the categories listed in 
the statute as designated health services to encompass services that 
tend to be subject to abuse. It is our view that physicians do not 
routinely refer patients for the main procedures listed in the last 
paragraph, such as angioplasty, in order to profit from unnecessary 
radiology services. As a result, we are proposing not to include these 
``secondary'' radiology procedures as designated health services. We 
are also specifically soliciting comments on any other types of 
services that would qualify as designated health services, but which 
may actually be incidental to other procedures.
    We would include the following definition at Sec. 411.351:

    Radiology services and radiation therapy and supplies means any 
diagnostic test or therapeutic procedure using X-rays, ultrasound or 
other imaging services, computerized axial tomography, magnetic 
resonance imaging, radiation, or nuclear medicine, and diagnostic 
mammography services, as covered under section 1861(s)(3) and (4) of 
the Act and Secs. 410.32(a), 410.34, and 410.35, including the 
professional

[[Page 1677]]

component of these services, but excluding any invasive radiology 
procedure in which the imaging modality is used to guide a needle, 
probe, or a catheter accurately.

e. Durable medical equipment and supplies

    Sections 1861(s)(6) and 1832 establish DME as one of the 
``medical or other health services'' covered under Medicare Part B. 
Section 1861(n) defines DME as including iron lungs, oxygen tents, 
hospital beds, and wheelchairs (under certain conditions), used in a 
patient's home (including certain institutions that can qualify as 
the patient's home), whether furnished on a rental basis or 
purchased. The definition of DME is explained further in the 
Medicare regulations. Section 414.202 defines DME as equipment 
furnished by a supplier or a home health agency that meets the 
following conditions:
     Can withstand repeated use.
     Is primarily and customarily used to serve a medical 
purpose.
     Generally is not useful to an individual in the absence 
of an illness or injury.
     Is appropriate for use in the home.
    Durable medical equipment includes equipment such as 
wheelchairs, hospital beds, nebulizers, and walkers. We also regard 
DME that is furnished to a patient under a home health plan under 
section 1861(m)(5) as DME for purposes of section 1877. The 
conditions under which we cover DME are described in Sec. 410.38. 
For the purposes of this proposed rule, we would use the definition 
of DME set forth in section 1861(n) and in Sec. 414.202.
    We have received a number of inquiries concerning Medicare 
claims processed by the four Durable Medical Equipment Regional 
Carriers (DMERCs). Many people erroneously believe that all devices, 
items, or supplies processed by the DMERCs are items of DME. This is 
not so, because the DMERCs are also responsible for paying claims 
for other items, such as immunosuppressive drugs, orthotics, 
prosthetics, and prosthetic devices and related supplies.
    We have received requests that we clearly identify in this 
regulation which items are considered DME and which are not. Because 
the number of items considered to be DME is so extensive, we cannot 
in this proposed rule identify each of them. However, in response to 
these requests, we have provided below the general categories of 
DME.
    We have also listed below the types of supplies used with the 
DME. We are listing the supplies because when identifying DME as a 
designated health service, Congress also included the supplies 
necessary for the effective use of the DME as part of the designated 
health service. For example, supplies used with DME could include 
such items as test strips and lancets used with blood glucose 
monitoring equipment or drugs used with a nebulizer. In general, 
supplies are items that cannot be reused. We would also like to 
point out that, effective December 1, 1996, in order for drugs used 
in conjunction with DME to be covered by Medicare, the entity 
dispensing the drug must have a Medicare supplier number, must be 
licensed to dispense the drug in the State in which it will be 
dispensed, and must bill and receive payment in its own name.
    An infusion pump may be covered as DME, in which case the 
supplies necessary for its effective use are covered as designated 
health services; these supplies include the drugs and biologicals 
that must be put directly into the infusion pump.
    External infusion pumps--External infusion pumps may be covered 
as DME under Medicare if certain coverage requirements are met, 
including use in the home. The Medicare Coverage Issues Manual 
provides for the coverage of infusion pumps for certain indications 
and under certain circumstances, as described in sections 60-9 and 
60-14. Other uses of external infusion pumps are covered if the 
DMERC's medical staff verifies the appropriateness of the therapy 
and of the prescribed pump for the individual patient. Payment may 
also be made for the drugs necessary for the effective use of an 
infusion pump as long as they are reasonable and necessary for the 
patient's treatment.
    Section 1877(b)(2) provides an exception for in-office ancillary 
services ``other than durable medical equipment (excluding infusion 
pumps) and parenteral and enteral nutrients, equipment, and 
supplies.'' Section 1877(b)(2) has the effect of specifically 
excepting infusion pumps from the prohibition on a physician 
referring durable medical equipment furnished in the physician's own 
office. External infusion pumps may be used in a physician's office 
to administer drug therapy, including chemotherapy. However, 
external infusion pumps (or other drug delivery systems used in the 
physician's office (and not in the patient's home) are covered by 
Medicare under section 1861(s)(2)(A) as a service incident to the 
physician's service and not as DME. In addition, we do not believe 
that the in-office ancillary exception applies to external infusion 
pumps used outside a physician's office. That is, we do not believe 
that Congress intended for the in-office exception to apply to 
infusion pumps that are only picked up at a physician's office to be 
used in the home, or that are delivered to the home.
    Implantable infusion pumps--Implantable infusion pumps may also 
be covered as DME in accordance with the policy described in the 
Medicare Coverage Issues Manual when they are used for certain 
indications. Coverage for other uses of implantable infusion pumps 
is allowed if the carrier's medical staff verifies that the drug and 
the infusion pump are reasonable and necessary. (Implantable devices 
are not billed to the DMERC carriers; rather, they are billed to the 
local carrier.)
    If an implantable infusion pump is implanted in the physician's 
office, but will be used at home and elsewhere, we believe that it 
qualifies as DME that has been furnished in the physician's office. 
Hence, the in-office ancillary services exception could apply, since 
section 1877(b)(2) specifically includes infusion pumps, but not 
other DME.
    End-Stage Renal Disease equipment and supplies--Section 
1861(s)(2)(F) includes as covered medical and other health services 
home dialysis supplies, equipment, and self-care home dialysis 
support services, as well as institutional dialysis services and 
supplies provided to individuals with end-stage renal disease 
(ESRD). This ESRD benefit is separate from the DME benefit under 
section 1861(s)(6). Therefore, the equipment, services, and supplies 
covered under this section of the statute are not covered as DME 
under Medicare. Examples of home dialysis equipment and supplies 
include needles and syringes, blood pressure cuffs, dialysate 
solution, and intermittent peritoneal dialyzers.
    Other items of equipment furnished in a physician's office--As 
mentioned above, Medicare does not cover equipment used in a 
physician's office as DME but may pay for the equipment under other 
provisions in the statute. For example, section 1861(s)(2)(A) covers 
services and supplies furnished incident to a physician's services, 
and can include the use of any equipment that is needed in order for 
a physician to provide a covered service.
    In addition, we may cover diagnostic testing under the 
diagnostic services benefit under section 1861(s)(3), which would 
include equipment used in diagnostic testing irrespective of where 
the equipment is used. For example, dynamic electrocardiography 
(EKG), commonly known as Holter monitoring, is a diagnostic 
procedure that provides a continuous record of the 
electrocardiographic activity of a patient's heart while he or she 
is engaged in daily activities. Diagnostic services under section 
1861(s)(3) are not themselves included as a designated health 
service and thus are not specifically covered by this rule.
    General Categories of DME--Under certain circumstances (which 
include use in the patient's home), the following items may be 
covered as DME. (Readers should refer to section 60-9 of the 
Medicare Coverage Issues Manual for additional information.)

Alternating pressure pads and mattresses and miscellaneous support 
surfaces
Bed pans
Blood glucose monitors
Canes/crutches and walkers
Commodes
Continuous positive airway pressure
Cushion lift, power seat
Decubitus care equipment
Gel flotation pads and mattresses
Heating pads
Heat lamps
Hospital beds and accessories
Intermittent positive pressure breathing equipment
Infusion pumps, supplies and drugs
Lymphedema pumps
Manual wheelchair base
Motorized wheelchair/power wheel chair base
Nebulizers
Wheel chair options/accessories
Oxygen and related respiratory equipment
Pacemaker monitor
Patient lifts
Pneumatic compressor and appliances
Power operated vehicles
Restraints
Roll about chairs
Safety equipment
Support surfaces

[[Page 1678]]

Suction pumps
Traction equipment
Transcutaneous electric nerve simulators and supplies
Trapeze equipment, fracture frame, and other orthopaedic devices
Ultraviolet cabinets

    We would include the following definition at Sec. 411.351:

    Durable medical equipment has the meaning given in section 
1861(n) of the Act and Sec. 414.202.

f. Parenteral and enteral nutrients, equipment, and supplies

    Coverage of enteral and parenteral therapy as a Medicare Part B 
benefit is provided under the prosthetic device benefit provision in 
section 1861(s)(8). The regulations cover prosthetic devices in 
Sec. 410.36(a)(2). Details for enteral and parenteral therapy are 
set forth in the Medicare Coverage Issues Manual at section 65-10. 
When the coverage requirements for enteral or parenteral nutritional 
therapy are met, Medicare also covers related supplies, equipment 
and nutrients.
    Enteral nutrients, equipment, and supplies--Enteral nutrition 
therapy provides nutrients to an individual with a functioning 
gastrointestinal tract who, due to pathology to or nonfunction of 
the structures that normally permit food to reach the digestive 
tract, cannot maintain weight and strength commensurate with his or 
her general condition. Enteral nutritional therapy may be 
administered by nasogastric, jejunostomy, or gastrostomy tubes. This 
benefit also includes supplies appropriate for the method of 
administration.
    Therefore, at Sec. 411.351, we would define ``enteral nutrients, 
equipment, and supplies'' as ``items and supplies needed to provide 
enteral nutrition to a patient with a functioning gastrointestinal 
tract who, due to pathology to or nonfunction of the structures that 
normally permit food to reach the digestive tract, cannot maintain 
weight and strength commensurate with his or her general condition, 
as described in section 65-10 of the Medicare Coverage Issues Manual 
(HCFA Pub. 6).''
    Parenteral nutrients, equipment, and supplies--Parenteral 
nutrition therapy provides nutrients to an individual with severe 
pathology of the alimentary tract that does not allow adequate 
absorption of sufficient nutrients to maintain weight and strength 
commensurate with the patient's general condition. Since the 
alimentary tract of such a patient does not function adequately, 
parenteral nutrition may be provided through an indwelling catheter 
placed percutaneously in the subclavian vein and then advanced into 
the superior vena cava. An example of a condition that may typically 
qualify for coverage is a massive small bowel resection resulting in 
a severe inability to absorb nutrition in spite of oral intake.
    Parenteral nutritional therapy would include the equipment and 
supplies necessary to furnish the parenteral nutrition therapy. 
(Parenteral nutrients are commonly considered as prescription drugs. 
Effective December 1, 1996, any entity dispensing drugs that are 
used in conjunction with a prosthetic device, including parenteral 
equipment, must meet certain conditions in order for the drugs to be 
covered under Medicare. These conditions are described in the 
section covering DME and the supplies used in conjunction with DME.)
    At Sec. 411.351, we would define ``parenteral nutrients, 
equipment, and supplies'' as ``items and supplies needed to provide 
nutriment to a patient with permanent, severe pathology of the 
alimentary tract that does not allow absorption of sufficient 
nutrients to maintain strength commensurate with the patient's 
general condition, as described in section 65-10 of the Medicare 
Coverage Issues Manual (HCFA Pub. 6).''
    We wish to point out that section 1877(b)(2) specifically 
excludes parenteral and enteral nutrients, equipment, and supplies 
as a service that can qualify for the in-office ancillary services 
exception.

g. Prosthetics, orthotics, and prosthetic devices

    Prosthetics--Section 1861(s)(9) provides for inclusion as 
medical and other health services artificial legs, arms, and eyes, 
including replacements if required because of a change in a 
patient's physical condition. Prosthetics are covered in the 
regulations in Secs. 410.36(a)(3) and 414.202. As described in 
section 2133 of the Medicare Carriers Manual, these appliances are 
covered when furnished under a physician's order. We also cover 
adjustments to artificial limbs or other appliances required by wear 
or by a change in the patient's condition when ordered by a 
physician.
    We would define ``prosthetics,'' at Sec. 411.351, as artificial 
legs, arms, and eyes, as described in section 1861(s)(9) of the Act.
    Orthotics--Orthotics are included as a medical service under 
section 1861(s)(9) as leg, arm, back, and neck braces. The 
regulations at Sec. 410.36(a)(3) allow payment for these services to 
include replacements if required because of a change in the 
individual's condition. We have interpreted the statute in section 
2133 of the Medicare Carriers Manual to cover these items when used 
for the purpose of supporting a weak or deformed body member or 
restricting or eliminating motion in a diseased or injured part of 
the body. In the Carriers Manual, orthotics are covered only when 
furnished under a physician's order.
    Under section 2133D of the Medicare Carriers Manual, orthopedic 
footwear is covered under the orthotic benefit if the footwear is an 
integral part of a leg brace. Diabetic shoes are covered under 
section 1861(s)(12) of the Act in a separate benefit category. 
Splints, casts, and other devices used for the reduction of 
fractures and dislocations are covered under section 1861(s)(5). We 
do not consider diabetic shoes, casts, splints, or these other 
devices to be included under orthotics, prosthetics, or prosthetic 
devices.
    At Sec. 411.351, we would define ``orthotics'' as ``leg, arm, 
back, and neck braces, as listed in section 1861(s)(9) of the Act.''
    Prosthetic devices--Section 1861(s)(8) provides for inclusion as 
medical and other health services ``prosthetic devices (other than 
dental) which replace all or part of an internal body organ 
(including colostomy bags and supplies directly related to colostomy 
care), including replacement of such devices, and including one pair 
of conventional eyeglasses or contact lenses furnished subsequent to 
each cataract surgery with insertion of an intraocular lens.'' This 
definition is reflected in the regulations at Secs. 410.36(a)(2) and 
414.202. The statute specifically excludes dental devices from 
Medicare coverage as prosthetic devices. (In addition, renal 
dialysis machines are covered under the end stage renal disease 
benefit and are discussed elsewhere in this section.)
    Under the prosthetic device benefit, Medicare also includes 
supplies that are necessary for the effective use of a prosthetic 
device, for example, tape to secure an indwelling catheter. Section 
1877(h)(6)(H) includes prosthetic devices as a designated health 
service and also specifically includes the supplies associated with 
these devices. (Effective December 1, 1996, any entity dispensing 
drugs that are used in conjunction with a prosthetic device must 
meet certain conditions in order for the drugs to be covered under 
Medicare. These conditions are described in the section covering DME 
and drugs used in conjunction with DME.) Section 410.100(f)(2) 
provides that services necessary to design the device, select 
materials and components, measure, fit, and align the device, and 
instructions to the patient are also included in this benefit. 
Examples of prosthetic devices include cochlear implants, cardiac 
pacemakers, and incontinence control appliances.
    We have received many questions concerning whether Medicare 
considers an intraocular lens to be a prosthetic device. The answer 
is yes. We have also been asked, for purposes of the designated 
health services listed in section 1877(h)(6), to define a prosthetic 
device to exclude any device that is implanted by a physician as 
part of a surgical procedure. The theory behind this exclusion is 
that such devices are only a small component of a central procedure, 
which is the surgery needed to implant them. Physicians would not 
unnecessarily subject patients to a surgical procedure just to boost 
profits on intraocular lenses or other implantable devices, and are 
thus not the kind of services Congress meant to cover. In addition, 
some physicians believe that it is critical in many cases that they 
have the freedom to prescribe their own choice of an implantable 
device because they have particularized the design or find the 
device better to work with than others.
    On the other hand, we have also been advised that only a very 
small percentage of surgeons ``customize'' prosthetic devices by 
developing their own, or by modifying existing devices. In addition, 
it is not uncommon for physicians to receive compensation from 
companies that manufacture or supply these devices, sometimes in the 
form of ``consulting fees,'' perhaps in exchange for the physician's 
agreement to use that company's device exclusively. Physicians might 
also have an ownership interest in a supplier or manufacturer, thus 
realizing a profit every time the device is used.

[[Page 1679]]

    It has also come to our attention that physicians who have some 
relationship with a manufacturer or supplier are in a position to 
manipulate a hospital's or an ASC's choice of a prosthetic device in 
exchange for the physicians' referrals. Although these practices 
might not lead to the overutilization of services, we believe that 
they can drive up the cost of certain services that are not subject 
to a fee schedule, which we would regard as a form of potential 
program abuse. Such an arrangement might also result in patient 
abuse, since a physician may choose a prosthetic device based on 
financial incentives rather than on the best interest of the 
patient. Because of the controversy surrounding surgically implanted 
devices, we have not excluded them from the definition of 
``prosthetic devices,'' but specifically solicit comments on this 
issue.
    We would also like to point out that intraocular lenses that are 
implanted in an ambulatory surgical center (ASC) would be covered 
under the ASC payment rate. We have excluded any services covered 
under the ASC rate from the referral prohibition under an exception 
we created in Sec. 411.355(d).
    We have also been asked whether, if an ophthalmologist has an 
optical shop as part of his or her office, he or she can refer 
Medicare patients to the optical shop for eyeglasses. Medicare 
coverage of eyeglasses and contact lenses is very limited, covering 
only those that qualify as ``prosthetic devices'' used after 
intraocular lenses are implanted during cataract surgery. Thus, a 
physician would not be prohibited from referring a Medicare patient 
to the optical shop for any conventional eyewear that is not covered 
under the Medicare program. For eyeglasses that are covered by 
Medicare, the physician could prescribe and fill the eyeglass 
prescription if an exception applies. For example, the services 
might meet the in-office ancillary services exception if the optical 
shop is located in the physician's office suite. Alternatively, the 
optical shop might qualify as a rural provider so that the exception 
for rural ownership in section 1877(d)(2) of the Act could apply.
    At Sec. 411.351, we would define a ``prosthetic device'' as a 
device (other than a dental device) listed in section 1861(s)(8) 
that replaces all or part of an internal body organ, including 
colostomy bags and including one pair of conventional eyeglasses or 
contact lenses furnished subsequent to each cataract surgery with 
insertion of an intraocular lens. We would define ``prosthetic 
supplies'' as ``supplies that are necessary for the effective use of 
a prosthetic device (including supplies directly related to 
colostomy care).''

h. Home health services

    How we will define home health services. Medicare-covered home 
health services are defined in section 1861(m), and requirements for 
payment for home health services furnished to eligible beneficiaries 
are set forth in part 409, subpart E (``Home Health Services Under 
Hospital Insurance'') of our regulations. For purposes of the 
physician referral prohibition, ``home health services'' would have 
the same meaning as the appropriate provisions described in part 
409, subpart E. A brief explanation of the home health benefit 
follows:
    Home health services are items and services furnished to an 
individual who is confined to the home, under the care of a 
physician, and in need of at least one of the following skilled 
services: intermittent skilled nursing services, physical therapy 
services, speech-language pathology services, or continuing 
occupational therapy services.
    To receive covered home health services, a beneficiary must be 
under a plan of care established and periodically reviewed by a 
physician. Home health services are furnished by, or under 
arrangements made by, a participating home health agency. Home 
health services are furnished on a visiting basis in a place of 
residence used as an individual's home. (A patient may not receive 
home health services in a physician's office.) An individual's home 
is wherever the individual makes his or her home. This may be his or 
her own dwelling, an apartment, a relative's home, a home for the 
aged, or some other type of institution. However, an institution is 
not considered a patient's home if the institution meets the basic 
requirements in the definition of a hospital (as defined in section 
1861(e)(1)), an SNF (as defined in section 1819(a)(1)), or a nursing 
facility (as defined in section 1919(a)(1)).
     The following services may be furnished under the home 
health services benefit if appropriate requirements are met:
     Part-time or intermittent nursing care furnished by or 
under the supervision of a registered professional nurse.
     Physical therapy, occupational therapy, and speech-
language pathology services.
     Medical social services furnished under the direction 
of a physician.
     Part-time or intermittent services of a home health 
aide.
     Medical supplies (including catheters, catheter 
supplies, ostomy bags, and supplies related to ostomy care, and a 
covered osteoporosis drug, but excluding biologicals and other 
drugs), the use of durable medical equipment, and appliances 
suitable for home use.
     The medical services of an intern or resident in 
training under an approved hospital teaching program if a home 
health agency is affiliated with or under the common control of the 
hospital furnishing the medical services.
    A beneficiary may also receive home health services on an 
outpatient basis at a hospital, SNF, or a rehabilitation center 
under arrangements made by the home health agency if equipment is 
required that cannot be made available at the beneficiary's home or 
the services are furnished while the beneficiary is at the facility 
to receive services requiring equipment that cannot be made 
available at the beneficiary's home. Home health services do not 
include transportation of the beneficiary to the facility for these 
home health services.
    Existing Sec. 409.49 identifies services that are excluded from 
payment under the Medicare home health benefit. Note that included 
among those services is any service that would not be covered as 
inpatient hospital services.
    Also note that under the Medicare statute, home health services 
can be provided only by an HHA. That is, under section 1814(a), 
payments for services furnished to an individual may be made only to 
providers of services that are eligible for that payment. To be 
eligible, an HHA must, among other things, have in effect its own 
provider agreement with Medicare, as described in section 1866, and 
meet the specific conditions of participation for HHAs, as described 
in section 1891. As a result, we regard home health services as 
services ``provided by an HHA'' and not as services provided by any 
other entity, even if the HHA is owned by the other entity or is 
otherwise financially related to it. (We regard hospital services 
the same way; that is, they can be provided only by an entity that 
meets the requirements for participation as a hospital.) Therefore, 
even if a hospital owns an HHA, the exception for hospital ownership 
in section 1877(d)(3), which applies to designated health services 
``provided by a hospital,'' would not apply to home health services 
provided by a hospital-based HHA.
    At Sec. 411.351, we would include the following definition: 
``Home health services'' means the services described in section 
1861(m) of the Act and part 409, subpart E of this chapter.''

How We Propose to Reconcile Section 1877 and the Physician 
Certification Requirements for Home Health Services Under 42 CFR 
424.22(d)

    Section 903 of the Omnibus Reconciliation Act of 1980 amended 
sections 1814(a) and 1835(a) of the Act to prohibit the certification 
of need for home health services, and the establishment and review of a 
home health plan of care for those services, by a physician who has a 
significant ownership interest in, or a significant contractual or 
financial relationship with, the home health agency that provides those 
services. These amendments were incorporated into the regulations at 42 
CFR 405.1633(d) (which was redesignated as section 424.22(d)), by an 
interim final rule with comment period that we published in the Federal 
Register on October 26, 1982, at 42 FR 47388, and that became effective 
on November 26, 1982.

    On June 30, 1986, we published a final rule in the Federal 
Register at 51 FR 23541 that confirmed the provisions of the October 
26, 1982 rule and clarified that under the term, ``significant 
ownership interest in or a significant financial or contractual 
relationship with'' the home health agency, we intended to include 
salaried employment. This clarification was made effective on August 
29, 1986.
    The only exceptions to the home health regulations were 
uncompensated officers or directors of an HHA, HHAs operated by 
Federal, State, or local governmental authority, and sole community 
HHAs. The home health certification restrictions of sections 1814(a) 
and 1835(a) and Sec. 424.22(d) have not been significantly updated 
since 1986.

[[Page 1680]]

    On November 5, 1997, we published a notice with comment period 
in the Federal Register (62 FR 59818) that announced our intention 
to reconcile the statutory prohibitions in sections 1814(a) and 
1835(a) concerning physician certification for home health services 
with the related section 1877 prohibition. In that notice we stated 
that we had decided to reexamine appropriate provisions of section 
1877 and the home health regulations as they pertain to indirect 
compensation arrangements involving physicians who are compensated 
by entities that own HHAs. We announced that, pending that 
evaluation, we had decided to withdraw certain recent 
interpretations of Sec. 424.22(d), as it applies to certification 
and recertification or establishment and review of plans of care by 
physicians who are salaried employees of, or have a contractual 
arrangement to provide services to, an entity that also owns the 
HHA. In addition, we stated that we would address the issue of 
indirect compensation, applicable to the health services designated 
in section 1877, in this proposed rule.
    We believe that sections 1814(a), 1835(a), and 1877 address the 
same behaviors and are identical in purpose: they each prohibit a 
physician who has a significant ownership interest in, or a 
significant financial relationship with, a home health agency from 
certifying or recertifying a patient's need for home health 
services. We have defined the concepts of ``significant ownership 
interests and significant financial relationships'' in the home 
health context in Sec. 424.22(d)(1) through (d)(3), based on a fixed 
percentage of ownership and, for financial or contractual 
relationships, based on a specific dollar amount of compensation 
(or, if less, a percent of the agency's operating expenses).
    Under section 1877, in contrast, any level of ownership or 
compensation amounts to a financial relationship unless the 
arrangement meets any of a number of exceptions. We believe that the 
provisions we are developing under section 1877 are more effective 
than the current provisions in Sec. 424.22(d) in accommodating 
Congress' desire to discourage physicians from overutilizing certain 
services. Furthermore, section 1877 relates more specifically and in 
greater detail to the issue of referrals for home health services by 
physicians who have a financial relationship with the entity 
providing those services, and reflects Congress' most recent 
thoughts on that issue.
    We believe that it is confusing to have in effect two provisions 
that address prohibited referrals, each of which includes different 
criteria, and can lead to different results.

    We are therefore proposing to use the section 1877 definition of a 
``financial relationship,'' and our interpretations of this definition, 
for the concept of a ``significant ownership interest in, or a 
significant financial or contractual relationship with, a home health 
agency'' in sections 1814(a) and 1835(a). In order to do this, we are 
proposing to amend Sec. 424.22(d) to state that a physician cannot 
certify or recertify a patient's need to receive home health services 
from an agency if the physician has a ``financial relationship'' with 
that agency, as defined in Sec. 411.351, unless the financial 
relationship meets one of the exceptions in Secs. 411.355 through 
411.357. In addition, we will list sections 1814(a) and 1835(a) in 
Sec. 411.1 as part of the statutory basis for this proposed regulation.

    Section 424.22, paragraphs (d)(4), (e), (f), and (g) relate to 
certain specific exceptions to the prohibition on certification in 
sections 1814(a) and 1835(a). These paragraphs except physicians who 
serve as uncompensated officers or directors of an HHA, HHAs that 
are operated by a Federal, State, or local governmental authority, 
or HHAs that are classified as sole community HHAs in accordance 
with our regulations. Even if a physician and an HHA are involved in 
an arrangement that meets one of these exceptions, the arrangement 
simultaneously remains subject to the requirements in section 1877. 
That is, if an exception in Sec. 424.22 is subsumed within the 
exceptions in section 1877, a physician will be able to refer; if it 
is not, the arrangement will disqualify the physician from referring 
in spite of Sec. 424.22. Thus, we believe the exceptions listed in 
Sec. 424.22 have been superseded by section 1877 and should not be 
separately listed; we are therefore proposing to eliminate them. We 
are particularly interested in hearing from the public about these 
proposed changes.

i. Outpatient prescription drugs

    Medicare does not cover a category of services called 
``outpatient prescription drugs.'' Without additional direction from 
Congress on what constitutes ``outpatient prescription drugs'' for 
the purposes of section 1877, we believe that it is reasonable to 
assume that Congress intended to include only drugs furnished to 
individuals under the Medicare Part B benefit and to exclude drugs 
furnished by providers under Medicare Part A. We also propose to 
limit ``outpatient prescription drugs'' to drugs that a patient 
would be able to obtain from a pharmacy with a prescription. We 
consider that this category includes any drugs that a patient could 
get with a prescription, even if patients generally do not do so. 
For example, we would include such drugs as oncology drugs that are 
routinely furnished in a physician's office, under the physician's 
direct supervision, provided the drugs could be obtained by 
prescription from a pharmacy.
    Coverage for prescription drugs furnished outside of a provider 
setting is very limited under Medicare Part B. ``Drugs and 
biologicals'' are defined in the Medicare statute in section 1861(t) 
and the coverage of drugs and biologicals is explained in part 410 
of our regulations. We consider a ``biological'' to be a drug 
product that is derived from a living organism or its products, 
including, but not limited to, serums, vaccines, antigens, and 
antitoxins. We apply to biologicals the same rules that we apply to 
any drugs. Therefore, for purposes of section 1877, we propose to 
define outpatient prescription drugs to include biologicals.

    An explanation of the drug and biological benefit is set forth in 
section 2049 of the Medicare Carriers Manual. This section of the 
manual provides general requirements for drugs and biologicals that are 
covered under Medicare Part B. (These requirements do not apply to 
certain kinds of drugs that are covered under specific provisions of 
the statute. We discuss these other provisions below, following the 
general requirements.) In general, drugs are covered only if all of the 
following requirements are met:
     The drug or biological is included, or approved for 
inclusion, in the latest official edition of the United States 
Pharmacopoeia, the National Formulary, or the United States Homeopathic 
Pharmacopoeia, unless unfavorably evaluated in AMA Drug Evaluations or 
Accepted Dental Therapeutics.
     The drug or biological is furnished incident to a 
physician's services.
     The drug or biological is reasonable and necessary for the 
diagnosis or treatment of the illness for which it is administered 
according to accepted standards of medical practice.
     The drug or biological is not excluded as a preventive 
immunization.
     The drug or biological has not been determined by the Food 
and Drug Administration (FDA) to be less than effective. Drugs or 
biologicals must be approved for marketing by the FDA to be considered 
safe and effective, for purposes of the Medicare program, when used for 
indications specified on the labeling.
     Based on the usual method of administration of the form of 
a drug or biological as furnished by a physician, the drug or 
biological is of a type that cannot be self-administered.
    Drugs and biologicals that are specifically covered under Part B 
would include those furnished in a physician's office incident to the 
physician's professional services under section 1861(s)(2)(A); as part 
of outpatient hospital services under section 1861(s)(2)(B); and, even 
though they are preventive immunizations, pneumococcal vaccine, 
influenza vaccine, and hepatitis B vaccine under section 1861(s)(10); 
and antigens under section 1861(s)(2)(G).
    Drugs that are or can be self-administered, such as those in pill 
form or in a self-injectable form, are not covered by Medicare Part B 
unless the statute specifically provides this coverage. The statute 
currently provides for the coverage of the following self-administered 
drugs under limited conditions: blood clotting factors under section 
1861(s)(2)(I), drugs used in

[[Page 1681]]

immunosuppressive therapy under section 1861(s)(2)(J), erythropoietin 
(EPO) for dialysis patients under section 1861(s)(2)(O), and certain 
oral cancer drugs under section 1861(s)(2)(Q). (The statute provides 
under section 1861(m) for the coverage of certain osteoporosis drugs, 
defined in section 1861(kk), that can be self-administered but are 
furnished to a home health patient who is unable to self-administer the 
drugs. However, these drugs are covered under section 1861(m) as part 
of the Medicare Part A home health services benefit.)
    After much consideration, we believe it would be inappropriate to 
include as outpatient prescription drugs, for purposes of section 1877, 
EPO and other drugs furnished as part of dialysis treatment for ESRD 
patients who dialyze at home or in a dialysis center, even though these 
drugs are not included in the end stage renal disease composite payment 
rate, but are billed separately. We base this policy on our perception 
that what the patient is primarily receiving is the dialysis treatment. 
EPO and several other drugs are a relatively minor (although important) 
part of a much larger and more complicated treatment and are 
inextricably linked to the dialysis service. That is, it would not be 
possible to provide dialysis safely and effectively without these drugs 
because they are critical to the overall effectiveness of the treatment 
and well-being of the patient. In addition, although many dialysis 
patients self-administer EPO, we believe that the opportunity for 
program abuse involving EPO is extremely unlikely. That is because 
section 1881(b)(11)(B)(ii)(I) establishes the payment rate for EPO, 
regardless of whether the beneficiary purchases the drug for self-
administration or it is administered by the dialysis facility. Also, we 
have recently implemented a claims processing mechanism to ensure that 
payment is not made for excessive administration. That is, payment will 
not be made for EPO when a patient's hematocrit reading over a 3-month 
average exceeds 36.5, the upper limit of the drug labeling indication.
    We would define ``outpatient prescription drugs'' at Sec. 411.351 
as ``those drugs (including biologicals) defined or listed under 
section 1861(t) and (s) of the Act and part 410 of this chapter, that a 
patient can obtain from a pharmacy with a prescription (even if 
patients can only receive the drug under medical supervision), and that 
are furnished to an individual under Medicare Part B, but excluding EPO 
and other drugs furnished as part of a dialysis treatment for an 
individual who dialyzes at home or in a facility.''

j. Inpatient hospital services

    Services generally regarded as inpatient hospital services. 
Inpatient hospital services are a Part A benefit defined under section 
1861(b). The definition of these services in section 1861(b) is 
reflected in Sec. 409.10(a) of our regulations. As defined at 
Sec. 409.10(a), inpatient hospital services include the following 
services when furnished to an inpatient of a participating hospital or, 
in the case of emergency services or services in foreign hospitals, to 
an inpatient of a qualified hospital (as described below).
     Bed and board.
     Nursing services and other related services.
     Use of hospital facilities.
     Medical social services.
     Drugs, biologicals, supplies, appliances, and equipment.
     Certain other diagnostic or therapeutic services.
     Medical or surgical services provided by certain interns 
or residents-in-training.
    We propose to use the definition in section 1861(b) and 
Sec. 409.10(a). As a clarification, we would state in the definition 
that inpatient hospital services include services that a hospital 
provides for its patients that are furnished either by the hospital or 
by others under arrangements with the hospital; that is, the hospital 
bills for these services on behalf of its patients. We would specify 
that the definition does not encompass the services of other 
physicians, physician assistants, nurse practitioners, clinical nurse 
specialists, certified nurse midwives, and certified registered nurse 
anesthetists and qualified psychologists who bill independently. Also, 
we would refer to existing Sec. 409.10(b), which states that 
``inpatient hospital services'' do not include SNF-type care furnished 
by a hospital or an RPCH that has a swing-bed approval, or any nursing 
facility-type care that may be furnished as a Medicaid service.
    Psychiatric hospital and RPCH services. We propose to also include 
as inpatient hospital services inpatient psychiatric hospital services, 
which are defined in section 1861(c). These services are defined as 
``inpatient hospital services'' furnished to an inpatient of a 
psychiatric hospital (defined in section 1861(ff)), which means that 
they are essentially the same services as those furnished to an 
inpatient of a regular hospital. In addition, we believe that a 
psychiatric hospital qualifies as a hospital, for all practical 
purposes, except that it is primarily engaged in providing psychiatric 
services for the diagnosis and treatment of mentally ill persons rather 
than the more general care and treatment that a regular hospital 
provides to injured, disabled, or sick persons. Also, a psychiatric 
hospital must meet all of the nine basic requirements that a regular 
hospital must meet in order to qualify as a hospital, except that for 
two of the requirements, it must meet analogous standards that relate 
particularly to psychiatric care.
    We also propose to regard as ``inpatient hospital services,'' for 
purposes of section 1877, inpatient services provided by a 
participating rural primary care hospital (RPCH). This term refers to 
facilities designated as RPCHs by the Secretary under section 
1820(i)(2). ``Inpatient rural primary care hospital services'' are 
defined in section 1861(mm)(2) as items and services, furnished to an 
inpatient of an RPCH by such a hospital, that would be inpatient 
hospital services if furnished to an inpatient of a hospital by a 
hospital.
    Section 1861(e) of the Act states that ``the term 'hospital' does 
not include, unless the context otherwise requires, a rural primary 
care hospital * * *.'' While it seems clear from this provision that 
RPCHs are not to be considered hospitals under the Medicare law for 
most purposes, we also believe the reference to context in this 
provision indicates that RPCHs may be classified as hospitals where, in 
specific contexts, it is consistent with the purpose of the legislation 
to do so. We base the policy to include inpatient RPCH services as 
``inpatient hospital services'' on our belief that a physician who has 
a financial relationship with an RPCH is in as much of a position to 
profit from overutilizing referrals to the RPCH as he or she would be 
if the financial relationship were with an ordinary hospital. In 
addition, the RPCH provides services that are very similar to inpatient 
hospital services.
    Because we propose to consider RPCH and psychiatric hospital 
services as inpatient hospital services, the exception for hospital 
services included in section 1877(d)(3) could apply. This exception 
applies to services furnished by a hospital if a physician refers to a 
hospital in which he or she is authorized to perform services and if 
the physician has an ownership or investment interest in the hospital 
as a whole, and not in a subdivision of the hospital.
    Emergency hospital services. We propose to not include within the 
definition of ``inpatient hospital services'' emergency inpatient 
services provided by a hospital located outside

[[Page 1682]]

the United States and covered under the authority in section 1814(f)(2) 
of the Act and part 424, subpart H. We also propose to exclude 
inpatient hospital services provided by a nonparticipating hospital 
within the United States under emergency conditions, as authorized by 
section 1814(d) and described in part 424, subpart G. We are excluding 
these services because Medicare covers them infrequently and only when 
they result from an emergency situation.
    The regulations define ``emergency services'' in Sec. 424.101 as 
only those services necessary to prevent death or serious impairment of 
health and, because of the danger to life or health, require use of the 
most accessible hospital available and equipped to furnish the 
services. In order to receive payment, a physician or the hospital must 
submit medical information that describes the nature of the emergency 
and specifies why it required that the beneficiary be treated in the 
most accessible hospital. Because Medicare covers these services only 
if they involve a documented emergency situation, we do not believe 
that physicians have the opportunity or incentive to overutilize them.
    For the reasons cited above, we are also proposing to exclude from 
the definition of ``designated health services'' any physician services 
that otherwise qualify as designated health services but are furnished 
to an individual in conjunction with emergency inpatient hospital 
services furnished outside of the United States. These physician 
services are covered by Medicare under the authority in section 
1862(a)(4), which permits coverage of inpatient hospital services, 
accompanying physician services, and ambulance services (which are not 
designated health services) furnished outside of the United States 
under certain limited conditions. To reflect this proposal, we are 
defining ``designated health services'' for purposes of the referral 
prohibition to exclude emergency physician services furnished outside 
of the United States.
    Certain dialysis services. We are aware that there are situations 
in which a physician might own a dialysis machine, rent it to a 
hospital, and provide the hospital with a technician to run the 
machine. This arrangement might fail to meet an exception if the 
physician refers patients for dialysis services, and also receives 
rental payments based on the volume or value of those referrals. The 
physician might also fail to meet an exception if he or she owns a part 
of the dialysis unit in the hospital (rather than owning part of the 
hospital as a whole, as required under the ``hospital exception'' in 
section 1877(d)(3)).
    We believe there are certain unique situations involving dialysis 
in which there would be no risk of overutilization. We intend to 
exclude from the definition of ``inpatient hospital services'' dialysis 
furnished by a hospital that is not certified to provide end stage 
renal dialysis (ESRD) services under subpart U of 42 CFR 405. In these 
circumstances, we do not believe there would be a risk of program or 
patient abuse because dialysis would be provided only under the 
following emergency circumstances, when there is no other appropriate 
treatment:
     A non-ESRD patient needs dialysis because of renal 
dysfunction or for augmenting clearance of toxins. For example, a 
patient with acute tubular necrosis or a patient with theophylline 
overdose requires dialysis.
     The primary reason for a hospital admission for an ESRD 
patient is not maintenance dialysis. For example, an ESRD patient needs 
surgery unrelated to his or her kidney condition, and the surgeon has 
operating privileges only at a participating Medicare, but non-ESRD, 
certified hospital and the individual receives maintenance dialysis 
while he or she is an inpatient.
    Certain lithotripsy services. We have been asked to consider 
excluding from the definition of ``inpatient hospital services'' 
services involving certain lithotriptors. Specifically, we are 
referring to services involving lithotriptors that employ 
extracorporeal shock wave lithotripsy (ESWL) when used to break up 
upper urinary tract kidney stones. ESWL focuses shock waves generated 
outside of the body specifically on stones under X-ray visualization, 
pulverizing them by repeated shocks. (The use of lithotripsy for 
breaking up kidney stones is discussed in section 35-81 of the Medicare 
Coverage Issues Manual.)
    The theory behind excluding from ``inpatient hospital services'' 
services involving ESWL is that there is no risk of overutilization of 
these services. In general, severe obstruction, infection, intractable 
pain, or serious bleeding are indications of the need for surgical 
removal of a stone. Only when a patient requires surgical treatment 
would a physician prescribe ESWL. When a patient needs additional 
treatment, there is no alternative available that is less invasive or 
less expensive than ESWL. In addition, the procedure itself apparently 
documents the medical necessity to prescribe it. As we understand ESWL, 
the kidney stone is located, identified, and the progress of the 
therapy is recorded as part of the visualization process.
    While we agree that it might be unlikely that physicians would 
overutilize ESWL, we wish to raise some of the same concerns that we 
raised under our discussion on surgically-implanted prosthetic devices. 
That is, we believe that these arrangements can potentially lead to 
patient abuse, with physicians requiring the use of certain equipment 
based on financial incentives, rather than on the best interests of the 
patient. Because of the controversial nature of lithotripsy, we have 
not excluded it from the definition, but specifically solicit comments 
on this issue.
    Inpatient hospital services and the definition of a ``hospital.'' 
Note that our proposed definition of ``inpatient hospital services'' 
would affect in only a limited way the definition of the term 
``hospital'' that we included in the August 1995 final rule. We 
included the definition of a ``hospital'' in Sec. 411.351 solely for 
the purpose of determining ownership of a hospital as an entity, and we 
did not include as part of the hospital any entities furnishing 
services under arrangements. However, we would amend the definition of 
a hospital to make it clear that the entities covered by that 
definition are those that qualify as a ``hospital'' under section 
1861(e), as a ``psychiatric hospital'' under section 1861(f), or as a 
``rural primary care hospital'' under section 1861(mm)(1).
    We would include the following definition at Sec. 411.351: 
``Inpatient hospital services'' are those services defined in section 
1861(b) of the Act and Sec. 409.10(a) and (b) and include inpatient 
psychiatric hospital services listed in section 1861(c) of the Act and 
inpatient rural primary care hospital services, as defined in section 
1861(mm)(2). ``Inpatient hospital services'' do not include emergency 
inpatient services provided by a hospital located outside the United 
States and covered under the authority in section 1814(f)(2) and 42 CFR 
part 424, subpart H and emergency impatient services provided by a 
nonparticipating hospital within the United States, as authorized by 
section 1814(d) and described in 42 CFR part 424, subpart G. These 
services also do not include dialysis furnished by a hospital that is 
not certified to provide end stage renal dialysis (ESRD) services under 
subpart U of 42 CFR 405.
    Inpatient hospital services include services that a hospital 
provides for its patients that are furnished either by the hospital or 
by others under arrangements with the hospital. They do

[[Page 1683]]

not encompass the services of other physicians, physician assistants, 
nurse practitioners, clinical nurse specialists, certified nurse 
midwives, and certified registered nurse anesthetists and qualified 
psychologists who bill independently.

k. Outpatient hospital services

    Sections 1861(s)(2)(B) and (C) and 1832 provide for coverage of 
outpatient hospital services under Part B. Section 1861(s)(2)(B) 
provides for coverage of hospital services (including drugs and 
biologicals that cannot, as determined in accordance with regulations, 
be self-administered) incident to physician services furnished to 
outpatients (we consider these ``therapeutic services'') and partial 
hospitalization services incident to these services. Section 
1861(s)(2)(C) provides for coverage of ``diagnostic services which 
are--(i) furnished to an individual as an outpatient by a hospital or 
by others under arrangements with them made by a hospital; and (ii) 
ordinarily furnished by such hospital (or by others under such 
arrangements) to its outpatients for the purpose of diagnostic study.'' 
We describe below the coverage provisions concerning outpatient 
hospital services under the categories of therapeutic and diagnostic 
services, and partial hospitalization services. We also discuss briefly 
the special rules for physical therapy, occupational therapy, and 
speech pathology services furnished to a hospital outpatient.
    We would consider all covered services (either diagnostic or 
therapeutic) performed on hospital outpatients that are billed by the 
hospital to Medicare (including arranged for services) as outpatient 
hospital services. In addition, it should be noted that outpatient 
hospital emergency services may be therapeutic (furnished incident to a 
physician's service) or may be diagnostic in nature. Unlike other 
outpatient hospital services, emergency services may be covered in 
nonparticipating hospitals subject to the conditions described in 
section 1835(b) and 42 CFR part 424, subpart G. We propose to exclude 
these emergency services from the definition of ``outpatient hospital 
services'' for the same reasons that we cited above in excluding them 
from the definition of ``inpatient hospital services.''
    We have also been asked to exclude services involving lithotriptors 
that employ ESWL when used to break up upper urinary tract kidney 
stones. We have the same concerns in the outpatient context about the 
potential for patient abuse that we raised in our discussion about 
excluding these services from the definition of ``inpatient hospital 
services.'' In addition, we have learned of situations in which 
urologists in a particular geographic area invest in lithotriptors, 
then require that outpatient departments use the physicians' equipment 
if they want to receive any urology referrals. Because this kind of 
manipulation can lead to increases in the cost of services, we regard 
it as creating the potential for program abuse. Because of the 
controversial nature of lithotripsy, we have not excluded it as an 
outpatient hospital service, but specifically solicit comments on this 
issue.
    However, we are proposing to include under the definition of 
``outpatient hospital services'' outpatient services furnished by a 
psychiatric hospital (as defined in section 1861(f)) and RPCH services, 
which are included under Medicare Part B by section 1832(a)(2)(H). 
``Outpatient rural primary care hospital services'' are defined in 
section 1861(mm)(3) as medical and other health services furnished by 
an RPCH. We are including both of these kinds of services as 
``outpatient hospital services'' for the same reasons that we have 
included them as ``inpatient hospital services,'' as described in the 
section above covering inpatient hospital services.
    Outpatient hospital services incident to physician services 
(therapeutic services)--Under sections 1861(s)(2)(B) of the Act and 42 
CFR 410.27, these ``incident to'' services specifically include drugs 
and biologicals that cannot be self-administered. ``Incident to'' 
services must be furnished by or under arrangements made by a 
participating hospital and as an integral though incidental part of a 
physician's services. We consider these services as therapeutic 
services that aid the physician in the treatment of the patient. Under 
section 230.4 of the Medicare Hospital Manual (HCFA Pub. 10), 
therapeutic services that hospitals furnish on an outpatient basis are 
those services and supplies (including the use of hospital facilities) 
that are incident to the services of physicians in the treatment of 
patients. These services include clinic services and emergency room 
services. To be covered as ``incident to'' a physician's services, the 
services and supplies must be furnished on a physician's order by 
hospital personnel under hospital medical staff supervision in the 
hospital or, if outside the hospital, by hospital-affiliated personnel 
who are under the direct personal supervision of a physician who is 
treating the patient.
    Diagnostic outpatient hospital services--Under Sec. 410.28, 
diagnostic services furnished in a hospital to outpatients, including 
certain drugs and biologicals required to perform the services (even if 
those drugs or biologicals are self-administered), are covered if the 
services meet the following conditions:
     They are furnished by or under arrangements made by a 
participating hospital.
     They are ordinarily furnished by, or under arrangements 
made by, the hospital to its outpatients for the purpose of diagnostic 
study.
     They would be covered as inpatient hospital services if 
furnished to an inpatient.
     If furnished under arrangements, they are furnished in the 
hospital or in other facilities operated by or under the supervision of 
the hospital or its organized medical staff.
    Section 230.3 of the Medicare Hospital Manual explains that a 
service is diagnostic if it is an examination or procedure to which the 
patient is subjected, or which is performed on materials derived from a 
hospital outpatient, to obtain information to aid in the assessment of 
a medical condition or the identification of a disease. Among these 
examinations and tests are diagnostic laboratory services such as 
hematology and chemistry; diagnostic x-rays; isotope studies; EKGs; 
pulmonary function tests; and other tests given to determine the nature 
and severity of an ailment or injury. Hospital personnel may furnish 
diagnostic services outside the hospital premises without the direct 
personal supervision of a physician.
    Partial hospitalization services--Partial hospitalization services 
are included as ``medical or other health services'' covered by 
Medicare Part B under section 1861(s)(2)(B) and must be provided 
``incident to'' a physician's services. Partial hospitalization 
services are defined in section 1861(ff). This definition is reflected 
in Secs. 410.27(d) and 410.43, which provide that partial 
hospitalization services consist of a variety of outpatient psychiatric 
services. These services must be prescribed by a physician, who 
certifies and recertifies the need for the services, and the services 
must be furnished under a plan of treatment, all in accordance with 
provisions in subpart B of part 424. Section 424.24(e)(1) requires that 
a physician certify that an individual would require inpatient 
psychiatric care if the partial hospitalization services were not 
provided.
    Section 230.5 of the Medicare Hospital Manual further explains the 
partial hospitalization services benefit. It points out that there is a 
wide range

[[Page 1684]]

of services and programs that a hospital may provide to its outpatients 
who need psychiatric care, ranging from a few individual services to 
comprehensive, full-day programs. However, payment may be made only for 
services meeting the requirements of the outpatient hospital benefit. 
That is, the services must be incident to a physician's service and be 
reasonable and necessary for the diagnosis or treatment of the 
patient's condition. This means the services must be for the purpose of 
diagnostic study or the services must reasonably be expected to improve 
the patient's condition.
    Special rules that apply to physical therapy, occupational therapy, 
and speech pathology services furnished to a hospital outpatient 
covered under Part B--The rules for these services appear in sections 
241 and 242 of the Medicare Hospital Manual. Sections 210.8, 210.9, and 
210.11 of the Medicare Hospital Manual describe these therapies (which 
do not require direct physician supervision) and set forth the 
conditions that must be met for the services to be covered as 
outpatient hospital services.
    We would include the following definition at Sec. 411.351: 
``Outpatient hospital services'' means the therapeutic, diagnostic, and 
partial hospitalization services listed under section 1861(s)(2)(B) and 
(C); outpatient services furnished by a psychiatric hospital, as 
defined in section 1861(f); and outpatient rural primary care hospital 
services, as defined in section 1861(mm)(3); but excluding emergency 
services covered in nonparticipating hospitals under the conditions 
described in section 1835(b) and 42 CFR part 424, subpart G.
2. Direct Supervision
    Section 1877(b)(2) provides an exception for in-office ancillary 
services. To qualify as in-office ancillary services, the services 
must, among other things, be furnished personally by a referring 
physician or another physician in the same group practice, or be 
furnished by individuals who are ``directly supervised'' by one of 
these physicians.
    In the August 1995 final rule, we defined ``direct supervision'' as 
supervision by a physician who is present in the office suite and 
immediately available to provide assistance and direction throughout 
the time that clinical laboratory services are being performed. We are 
proposing to apply this definition to referrals for any of the other 
designated health services that can be excepted under section 
1877(b)(2). We also propose to revise this definition to make it clear 
that ``present in the office suite'' means the physician must be 
present in the office suite in which the services are being furnished, 
at the time they are being furnished. We believe this clarification is 
necessary for situations in which a physician might be working in more 
than one suite in a building, such as when he or she provides services 
other than designated health services in one suite, while the 
designated health services are furnished in a separate suite in the 
same building.
    We also wish to clarify that we believe the supervision requirement 
is meant to establish the services as those that are integral to the 
physician's own practice, and that are conducted within his or her own 
sphere of activity: hence the title in-office ancillary services. It is 
our view that Congress did not intend to except referrals made by a 
physician to a separate, profit-making enterprise in which the 
physician has invested or from which he or she receives payments. 
Hence, we do not believe the in-office ancillary exception applies to 
services that are performed in a location that is separate and distinct 
from one in which the physician conducts his or her own everyday 
activities.
    Consistent with our interpretation that Congress intended this 
exception to apply to services that are closely attached to the 
activities of the referring physician, we used the definition of 
``direct supervision'' that appears in section 2050 of the Medicare 
Carriers Manual, Part 3--Claims Processing, which describes services 
that are ``incident to'' a physician's professional services under 
section 1861(s)(2)(A). This provision requires that the physician be 
present in the office suite and immediately available to provide 
assistance and direction throughout the time the aide or technician is 
performing services. The very same definition appears in the 
regulations at Sec. 410.32(a), which states, in general, that 
diagnostic x-ray tests are covered only if performed under the ``direct 
supervision'' of certain physicians or by certain radiology 
departments. As we stated in the preamble to the August 1995 final 
rule, we believe Congress was adopting and ratifying the Secretary's 
longstanding definition of this term.
    Nonetheless, since the publication of the August 1995 final rule, 
we have become aware that many of the ancillary services that 
physicians and physician groups provide are subject to a range of 
supervision requirements for coverage purposes, some of which are more 
stringent than the current ``incident to'' supervision requirements, 
and some of which are less stringent. (The requirements for diagnostic 
services, for example, currently appear in Sec. 410.32 of the 
regulations, in various places in the Medicare Carriers Manual, and as 
part of certain CPT codes. The requirements for physician supervision 
of diagnostic tests in all settings in which the technical component is 
payable under the physician fee schedule have been consolidated in a 
proposed regulation that was published on June 18, 1997 at 62 FR 
33158.)
    We recognize, in examining supervision requirements that include a 
physician's presence, that they each have some of the same and some 
separate purposes. The ``incident to'' rule is intended to ensure that 
the physician is at hand when the services are furnished because the 
law only covers them when they are ``incident to a physician's 
professional services,'' making the physician's presence essential, for 
both quality control and billing purposes, as a condition of coverage. 
In the case of the diagnostic services, the service is explicitly 
related to a medical need for the personal supervision or involvement 
of a physician in performing or monitoring the tests. These two sets of 
coverage-based ``supervision'' tests have their particular purposes and 
both remain a condition of coverage and payment for Medicare, in 
addition to any supervision requirements that appear in the section 
1877 referral provisions.
    The ``direct supervision'' requirement in the in-office ancillary 
services exception appears to us to share with the ``incident to'' test 
the need to tie the services directly to the activities of the 
physician, to ensure that they are part of his or her own medical 
practice. We continue to believe that Congress intended in including 
``direct supervision'' in the law the concept of ``direct supervision'' 
that appears as part of the ``incident to'' requirements. However, in 
the context of physician referrals, we believe the physician's presence 
is necessary for ``management'' purposes (that is, to demonstrate that 
the physician is there, actively running the practice), rather than for 
coverage purposes. Thus, the requirement that the physician be on the 
premises the entire time that a designated health service is being 
furnished can have absurd and impractical results, preventing a 
physician from leaving the office suite for even brief periods when 
there may be no health and safety standards requiring his presence.
    Accordingly, we propose to depart from our interpretation that the 
definition of ``direct supervision'' for purposes of the referral 
prohibition is identical to the definition in the ``incident to'' 
context. That is, we

[[Page 1685]]

propose to continue to require that the services in general be 
performed by aides or technicians only when the physician is present in 
the office suite so that they are tied to his or her activities, but 
allow very limited absences from the office. We propose to amend the 
definition as follows:

    Direct supervision  means supervision by a physician who is 
present in the office suite in which the services are being 
furnished, throughout the time they are being furnished, and 
immediately available to provide assistance and direction. ``Present 
in the office suite'' means that the physician is actually 
physically present. However, the physician is still considered 
``present'' during brief unexpected absences as well as during 
routine absences of a short duration (such as during a lunch break), 
provided the absences occur during time periods in which the 
physician is otherwise scheduled and ordinarily expected to be 
present and the absences do not conflict with any other requirements 
in the Medicare program for a particular level of physician 
supervision.

    Under this definition, a physician must actually be physically 
present in the office suite at the time designated health services are 
being furnished, or be absent only under the limited conditions 
described in the definition. We anticipate that the question of when an 
absence qualifies as ``brief and unexpected'' or as a ``routine absence 
of a short duration'' will be a determination that only the local 
carrier can make, based on individual circumstances.
    A service will not qualify as an in-office ancillary service during 
any time period in which the physician is scheduled to be in the 
office, but in reality is specifically or routinely expected to be 
somewhere else or during any time period in which the physician is 
scheduled to be somewhere else. Therefore, laboratory services or other 
designated health services performed by technicians or aides would not 
qualify as in-office ancillary services if they are performed during 
time periods that occur before or after the physician's regularly 
scheduled office hours. (Aides or technicians can perform other tasks 
in the absence of the physician, such as setting up equipment or 
cleaning up, as long as the tasks are not components of designated 
health services provided to Medicare or Medicaid patients.) Also, a 
physician's absences to perform medical services outside the office 
would not be permissible under ``direct supervision,'' such as absences 
to do hospital rounds or provide care in an outpatient clinic. However, 
we would allow absences for unexpected medical emergencies.
    While this definition for referral purposes would allow a physician 
to occasionally be absent for short periods, specific coverage 
requirements for services furnished and billed as ``incident to'' a 
physician's services, for diagnostic services, or for any other 
services with separate supervision requirements would continue to 
operate to determine whether a specific service is covered. We 
recognize that this approach will require a physician to pay close 
attention to the specific coverage requirements that apply to 
individual services, as well as the supervision requirement in section 
1877(b). Nonetheless, most of the coverage rules have been in effect 
for many years, so physicians have had experience in complying with 
them. In coordinating the separate supervision requirements with the 
requirement in section 1877, physicians must only comply with the 
separate coverage requirement if it is more stringent than the 
requirement in section 1877, as interpreted in this proposed rule.
    We believe that our proposed amendment to the definition of 
``direct supervision'' addresses the concerns of physicians who feel 
that, as a practical matter, they cannot be in the office every single 
minute of every day. The amendment will allow physicians who must be 
called away briefly to avoid the sanctions that could arise from 
section 1877 if they are not present at the moment when a medical 
service is furnished, provided there are no health and safety reasons 
for them to be on the premises.
    In line with the ``incident to'' manual provision, we are also 
proposing that a physician is directly supervising an individual 
outside the office suite (such as in an SNF) if the physician is in the 
room with the technician when the technician is performing services. 
(We derive this rule from section 2050, which states that direct 
supervision does not exist if a physician is only available by phone or 
is only physically present somewhere in the building.) Section 45-15 of 
the Coverage Issues Manual discusses situations in which a physician 
establishes an office within an SNF or other institution. Under this 
provision, a physician's office within an institution must be confined 
to a separately identified part of the facility that is used solely as 
the physician's office and cannot be construed to extend throughout the 
entire institution. (However, to qualify for the in-office ancillary 
exception in either of these ``out of office'' situations, the services 
must meet the additional statutory requirements for location and 
billing described in section 1877(b)(2).)
    We are not proposing that there must be any particular 
configuration of rooms for an office to qualify as one office 
``suite.'' However, direct supervision means that a physician must be 
in the office suite and immediately available to provide assistance and 
direction. Thus, a group of contiguous rooms should in most cases 
satisfy this requirement. We have been asked whether it would be 
possible for a physician to directly supervise a service furnished on a 
different floor. We think the answer would depend upon individual 
circumstances that demonstrate that the physician is close at hand. The 
question of physician proximity for physician referral purposes, as 
well as for incident to purposes, is a decision that only the local 
carrier could make based on the layout of each group of offices. For 
example, a carrier might decide that in certain circumstances it is 
appropriate for one room of an office suite to be located on a 
different floor, such as when a physician practices on two floors of a 
townhouse.
 3. Entity
    In-office referrals are referrals to an ``entity.'' Section 
1877(a)(1) prohibits a physician from referring Medicare patients for 
the furnishing of designated health services to an entity with which 
the physician (or an immediate family member) has a financial 
relationship, unless an exception applies. The statute encompasses any 
entity that provides designated health services, without qualifications 
or limits. We attempted to reflect the breadth of the concept in the 
August 1995 final rule at Sec. 411.351, where we defined an ``entity'' 
as a sole proprietorship, trust, corporation, partnership, foundation, 
not-for-profit corporation, or unincorporated association.
    We wish to clarify that we regard an individual physician or group 
of physicians as referring to an ``entity'' when they refer to 
themselves, or among themselves. The concept of a ``referral'' under 
section 1877(h)(5)(A) and (B) covers the request by a physician for an 
item or service under Part B, or the request or establishment of a plan 
of care by a physician that includes the provision of a designated 
health service. This statutory definition does not exclude in-office 
referrals, nor does it specify that a referral occurs only when a 
physician refers to an outside entity.
    In addition, the in-office ancillary services exception in section 
1877(b)(2) would not be necessary if in-office referrals were free from 
the prohibition. Section 1877(b)(2) makes it clear that designated 
health services that are furnished personally by the referring 
physician who is a solo practitioner or, in the case of a group 
practice, by

[[Page 1686]]

another member of the physician's group practice, or by other 
individuals who are directly supervised by these physicians, are 
subject to the referral prohibition. Physicians who refer to or among 
themselves are excepted from the prohibition only if they meet the 
criteria specified in section 1877(b)(2). Similarly, physician services 
provided personally by (or under the personal supervision of) another 
physician in the same group practice as the referring physician are 
specifically excepted under section 1877(b)(1). To clarify our position 
on in-office referrals, we propose revising the definition of an 
``entity'' in Sec. 411.351 to include any physician's solo practice or 
any practice of multiple physicians that provides for the furnishing of 
a designated health service.
4. Fair Market Value
    The term ``fair market value'' appears in most of the compensation 
related exceptions. These exceptions, among other things, require that 
compensation between physicians (or family members) and entities be 
based on the fair market value of the particular items or services that 
these parties are exchanging. We defined this term in the August 1995 
final rule by using the definition in section 1877(h)(3). This 
provision defines fair market value as the value in arm's-length 
transactions, consistent with the general market value, with other 
specific terms for rentals or leases.
    We have previously defined the term fair market value in our 
regulations in part 413, in the context of reasonable cost 
reimbursement in payments for end stage renal disease services. Section 
413.134(b)(2) explains the circumstances under which an appropriate 
allowance for depreciation on buildings and equipment used in 
furnishing patient care can be an allowable cost. This provision 
defines ``fair market value'' for purposes of determining the costs 
incurred by a present owner in acquiring an asset. ``Fair market 
value'' is defined as ``the price that the asset would bring by bona 
fide bargaining between well-informed buyers and sellers at the date of 
acquisition. Usually the fair market price is the price that bona fide 
sales have been consummated for assets of like type, quality, and 
quantity in a particular market at the time of acquisition.''
    To be consistent, we are incorporating this definition of what 
constitutes ``fair market value'' into this proposed rule to explain, 
for purposes of those exceptions that involve compensation paid for 
assets, what we believe constitutes a value that is ``consistent with 
the general market value.'' However, we are modifying the definition as 
follows so that it also applies to any arrangements involving items or 
services, including employment relationships, personal services 
arrangements, and rental agreements:

    General market value is 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.

    The definition of ``fair market value'' will continue to include 
the additional requirements in section 1877(h)(3) for rentals or 
leases. Among other things, the statute defines the fair market value 
of rental property as its value for general commercial purposes, not 
taking into account its intended use.
5. Financial Relationship
    A referral alone is not a financial relationship. We wish to 
clarify that when a physician simply refers patients to an outside 
entity, he or she does not have a financial relationship with that 
entity. A financial relationship consists of an ownership or investment 
interest in the entity or a compensation arrangement with the entity. 
If the physician does not own any portion of the entity, and does not 
pay the entity or receive any kind of payment from the entity for the 
referral or for anything else, there is no financial relationship.
    A financial relationship can involve more than the Medicare or 
Medicaid programs. In Sec. 411.351 we defined a financial relationship 
as a direct or indirect relationship in which a physician or immediate 
family member has an ownership or investment interest in an entity or a 
compensation arrangement with the entity. We would like to emphasize 
that a financial relationship can exist between a physician and an 
entity even if that relationship does not involve designated health 
services or the Medicare or Medicaid programs. For example, a 
compensation arrangement is defined in Sec. 411.351 as, in general, any 
arrangement involving any remuneration between a physician (or family 
member) and an entity. This remuneration can involve payments for 
anything, such as payments for rent, payments for nonmedical types of 
items or services, or for housing or travel expenses.
    Ownership interests can be indirect. The statute and the August 
1995 final regulation specify that an ownership or investment interest 
in an entity can exist through equity, debt, or other means and 
includes an interest in an entity that holds an ownership or investment 
interest in any entity providing designated health services. We do not 
regard the last part of this provision as a limiting factor, but rather 
as an indication that Congress wished to include, in the concept of 
``ownership,'' an interest that is at least one level removed from 
direct ownership. We propose to interpret this provision to apply to 
interests that are removed by an unlimited number of levels.
    This interpretation would cover situations involving multiple 
levels, such as when a physician has an interest in an entity that has 
an interest in another entity that in turn holds the ownership interest 
in the entity that provides designated health services. We believe that 
this interpretation fulfills the intent of the statute, which was meant 
to prevent physicians from evading the prohibition by establishing 
their ownership interests indirectly in ``holding companies'' rather 
than in the entities that furnish designated health services. It is our 
view that the number of layers of ownership is irrelevant, as long as a 
physician or family member has established an indirect interest. To 
reflect this interpretation, we would revise the description of 
ownership in Sec. 411.351 (as part of the definition of ``financial 
relationship'') as follows: ``An ownership or investment interest in an 
entity that exists in the entity through equity, debt, or other means 
and includes any indirect ownership or investment interest, no matter 
how many levels removed from a direct interest; for example, ownership 
includes situations in which a physician or immediate family member has 
an interest in any entity that holds an ownership or investment 
interest in any entity providing designated health services.''
    Payments that result from an ownership or investment interest are 
not compensation. We would like to emphasize a point that we discussed 
at length in the preamble to the August 1995 final regulation. We 
explained there that when a physician or family member has an ownership 
or investment interest in an entity, we will not count as compensation 
any returns on that investment. For example, if a physician has an 
investment interest in an entity in the form of stock or

[[Page 1687]]

securities, we will not count any of the dividends or other payments 
that derive from that ownership or investment interest as a 
compensation arrangement between the physician and the entity. 
(However, a physician or family member can receive an ownership 
interest from an entity in a manner than could constitute a 
compensation arrangement, such as when a physician receives stock as 
part of a salary payment or in exchange for the sale of his or her 
practice.)
6. Group Practice
    The value of group practice status under the law. When a group of 
physicians qualifies as a ``group practice'' as defined under section 
1877(h)(4), the group may qualify for several exceptions in the law 
that are specifically designed to accommodate groups. For example, 
section 1877(b)(1) excepts from the referral prohibition physician 
services provided personally by (or under the personal supervision of) 
another physician in the same group practice as the referring 
physician. Similarly, section 1877(b)(2) excepts in-office ancillary 
services that are furnished personally by or are directly supervised by 
either the referring physician or by another physician who is a member 
of the same group practice as the referring physician. However, a group 
of physicians does not have to meet the definition of a group practice 
in order to qualify for other exceptions under the law that are based 
on characteristics other than the referring physician's group practice 
status.
    We wish to also point out that the definition of a group practice 
in section 1877(h)(4) is particular to the referral rules. That is, it 
was designed to allow physicians in specific kinds of groups to 
continue to refer patients for designated health services under certain 
circumstances. Therefore, the definition may have little or no bearing 
on which physicians qualify as a group practice for purposes of other 
Medicare or Medicaid provisions.
    Who can organize and control a group practice. The statute defines 
a ``group practice'' as a group of two or more physicians legally 
organized into a partnership, professional corporation, foundation, 
not-for-profit corporation, faculty practice plan, or similar 
association. The statute requires that a group practice consist of a 
legal entity. Thus, a group that is not legally organized, but is 
instead only holding itself out as a group, would not qualify as a 
group practice under the statutory definition. Moreover, we believe 
that the statute specifically requires that a partnership consist of 
two or more physicians who are partners and that a professional 
corporation consist of two or more physicians who are incorporated 
together.
    We believe that more complex business configurations may be 
involved when two or more physicians are ``legally organized'' into a 
foundation, not-for-profit corporation, or a faculty practice plan. As 
we pointed out in the preamble to the August 1995 final rule, the 
statute is silent about who must actually legally organize these kinds 
of associations. As a result, we interpreted this provision in the 
final rule to allow any individuals or entities to set up legal 
structures for these kinds of associations, provided two or more 
physicians have a role in providing services and the physicians meet 
all of the other specific requirements in section 1877(h)(4). In 
addition, the statute is silent about who must operate any of the group 
practice associations. We have interpreted the statute, in the August 
1995 final rule, to allow any individuals or entities to do this. For 
example, a hospital could own and operate a group practice, provided 
there are no State laws to prevent this.
    A group practice as one legal entity. In the August 1995 final rule 
we took the position that the statute contemplates a group practice 
that is composed of one single group of physicians who are organized 
into one legal entity. We stated that a group practice could not 
consist of two or more groups of physicians, each organized as separate 
legal entities, although we believed that a single group practice (that 
is, one single group of physicians) could own other legal entities 
(such as a billing entity) for the purpose of providing services to the 
group practice. We based this conclusion on the fact that section 
1877(h)(4)(A) defines a group practice as a group of two or more 
physicians who are legally organized as a partnership, professional 
corporation, etc. However, we continue to receive numerous inquiries 
about whether a group can consist of several legal entities that are, 
in turn, legally organized into the one group.
    We believe that Congress meant that a group must be one legal 
entity, and that it regarded this characteristic as a mark of a true 
group practice. It is our view that any other interpretation could pose 
the risk of multiple groups of physicians remaining in many ways 
separate, but joining together for the sole purpose of taking advantage 
of the exceptions in section 1877 that apply to group practices. 
Therefore, we propose to continue to require that a group consist of 
just one legal entity. Nonetheless, we would like to clarify that we 
believe that a group practice is still ``one legal entity'' even if it 
is composed of owners who are actually individual professional 
corporations or is owned by physicians who are individually 
incorporated. It is our understanding that a group can contain 
physicians who are individually incorporated as professional 
corporations, and who provide services to group patients. This kind of 
configuration is apparently common in group situations and generally 
results when an individual physician wishes to qualify for certain tax 
and pension advantages. The physician is employed by the professional 
corporation, which in turn contracts with the group. We believe that 
such a group is not a conglomeration of multiple physician groups, but 
may instead be a true group practice, provided all the other criteria 
in section 1877(h)(4) are met.
    We have also considered the issue of whether individuals who are 
separately incorporated as individual professional corporations and who 
contract with the group practice qualify as ``members'' of the group. 
We are proposing (in this section under the heading ``The requirement 
for physician-patient encounters'') to, in general, eliminate 
contractors from qualifying as ``members'' of a group practice, a 
proposal that a major group practice association asserted would be 
highly important to its membership. The association believes that many 
group practices would have difficulty meeting the ``substantially all'' 
requirement in the group practice definition if the groups have to 
consider as members the many specialists with whom they contract to 
furnish services through the group practice on a part-time basis. Thus, 
we are proposing to include only owner and employee physicians as 
``members'' of a group practice. However, we are also proposing to 
consider as owner ``members'' physicians who belong to individual 
professional corporations that, in turn, own the group practice.
    The ``full range of services'' test. A ``group practice'' is 
defined in some detail in section 1877(h)(4) of the statute. One of the 
criteria in the statutory definition is that each physician who is a 
member of the group must furnish substantially the full range of 
services that the physician routinely furnishes, including medical 
care, consultation, diagnosis, and treatment through the joint use of 
shared office space, facilities, equipment, and personnel. We defined 
the term ``group practice'' in Sec. 411.351 of the August 1995 final 
rule by using the statutory

[[Page 1688]]

definition and by adding certain interpretations. In one of these, we 
required physician members to furnish the full range of ``patient care 
services'' that they routinely furnish, rather than just ``services.'' 
Elsewhere in Sec. 411.351, we defined ``patient care services'' as any 
tasks performed by a member that address the medical needs of specific 
patients, regardless of whether they involve direct patient encounters.
    On considering this issue further, we propose revising the 
definition of ``patient care services'' to apply to any of a 
physician's tasks that address the medical needs of specific patients 
or patients in general, or that benefit the practice.
    We believe that the ``full range of services'' provision, along 
with most of the other criteria in the group practice definition, was 
designed to ensure that, as part of the group, a physician is actually 
practicing medicine as he or she ordinarily would and has not simply 
joined the group in name only. We realize, however, that a physician 
member can legitimately furnish other kinds of services to the group, 
beyond services that benefit only specific patients. For example, a 
physician member might spend time training staff members, arranging for 
equipment, or performing administrative or management tasks. As long as 
these tasks actually benefit the operation of the group practice, we 
believe they should be counted as part of the test for gauging 
``substantially the full range of'' a physician's services.
    The ``substantially all'' test and the group billing number 
requirement. The ``Substantially All'' Test--Effective January 1, 1995, 
substantially all of the services of the group members must be 
furnished through the group and be billed under a billing number 
assigned to the group (the ``substantially all'' test). We discussed 
the substantially all test, as it was effective on January 1, 1992, at 
great length in the August 1995 final rule. We wish to clarify certain 
aspects of the test, which appears as part of the definition of a group 
practice in Sec. 411.351.
    Section 411.351 requires that substantially all of the ``patient 
care services'' of the physicians who are group members (at least 75 
percent of the total patient care services of the members) be furnished 
through the group. The change we have described above in the section on 
the ``full range of services'' test, concerning our definition of 
``patient care services,'' would affect this test as well. As a result, 
a group would count any of a physician's tasks that address the medical 
needs of specific group patients or group patients in general or that 
benefit the group practice. The group would not consider in the 
calculation any time during a physician's week that he or she spent on 
nonpatient care services, such as teaching in a medical school or doing 
outside research. For example, if a physician spends 3 days a week 
furnishing patient care services as part of a group practice and 2 days 
a week doing research outside the practice, the physician is providing 
100 percent of his or her patient care services through the group 
practice.
    The definition in Sec. 411.351 also requires that patient care 
services be measured in terms of total patient care time that each 
member spends on patient care services. We wish to clarify that we 
expect a group practice to look at a physician's total patient care 
time during a week, furnished both inside and outside of the group 
practice, to determine what percentage of this time is furnished 
through the one group. For example, if a physician provides patient 
care services to a group practice 4 days a week and patient care 
services in an unrelated clinic 1 day a week, the physician is 
providing 80 percent of his or her patient care services through the 
group practice.
    Some group practices have informed us that patient care time is not 
a common measurement of how groups keep track of a physician's 
contributions to the group. The time standard in the regulation, they 
claim, will create a whole separate, burdensome administrative process. 
In light of these comments, we explored alternative options that were 
suggested to us. These included counting a percentage of the 
physician's personal income, counting physician-patient encounters, or 
counting resource-based Relative Value Units (RVUs), a method of 
assigning resources to CPT codes ([Physicians'] Current Procedural 
Terminology, 4th edition, 1993 (copyrighted by the American Medical 
Association)). We found that there is no perfect measure; each of these 
methods has advantages and disadvantages.
    The income option would require that a group determine what 
percentage of the physician's overall practice income is derived from 
the group practice. While this would be perhaps the easiest calculation 
to make, many physicians might consider the data involved to be 
intensely private. In addition, to the extent that a physician's 
billing practices differ among settings, an equivalent amount of income 
derived from within the practice may not account for the same amount of 
patient care activity that occurs outside the practice. For example, a 
physician who works at a clinic for low income patients while outside 
the group could receive considerably less income for patient care than 
he or she would receive for equivalent services furnished through the 
group practice.
    We also explored the possibility of counting the number of a 
physician's patient encounters. However, encounters do not capture the 
level of intensity involved in any task. For example, a physician might 
complete one encounter in an entire day, if it involves complex 
surgery. Another physician could have 30 encounters in the same day, 
each of which took 15 minutes to complete. In addition, a group would 
need to gather information about the number of a physician's encounters 
outside of the group practice to determine the percentage of encounters 
furnished through the group. One problem with counting the number of 
patient care encounters and also with counting RVUs, which is discussed 
immediately below, is that neither method can take into account work 
that benefits the group in general but is not a service furnished to a 
patient, for example, time a physician spends training technical 
personnel.
    We next explored the possibility of counting RVUs to determine the 
share of a physician's efforts furnished through a group practice, 
since RVUs capture the intensity level of different services. For 
Medicare purposes, a physician is paid based on the CPT code that is 
billed for a particular service. Each CPT code has assigned to it a 
certain intensity level (based on the content of the service and the 
time the physician has spent), and each intensity level translates into 
a specified number of RVUs. It is this associated RVU amount that 
determines a physician's payment for a service. The Medicare billing 
system can reveal all of the procedures for which a physician has 
billed, based on the CPT codes, and the value of all of the associated 
RVUs. There are thousands of CPT codes, many of which can be modified 
(for instance, to state that a physician acted as an assistant at 
surgery or co-surgeon, rather than as the surgeon). There is software 
available that can assign RVUs based on the CPT code and modifiers.
    To use this method, it would be necessary for a group to collect 
all CPT and modifier billing data for the physician both inside and 
outside the practice, assign RVUs, and compare the totals. There is no 
``full-time'' equivalent RVU amount that a group could use as a proxy 
to measure the inside RVUs against; therefore, the group would have to 
collect detailed data about outside practice time. We believe that the 
RVU method could

[[Page 1689]]

impose a burden on groups because of the high volume of codes that 
physicians are likely to submit, especially in large group practices. 
This method is further complicated by the fact that it is not clear 
that all insurers use CPT codes in all cases. For example, some HMOs 
provide a given payment for a particular kind of service and may not 
collect data on individual office visits or tests.
    As a result of our assessment, we believe that measuring a 
physician's activities by using time spent doing work for the group, as 
required in the August 1995 final rule, may be the most straightforward 
and least burdensome method for measuring a physician's efforts, 
especially because we do not intend to require that physicians keep 
detailed time sheets to verify their time. Practices should already be 
able to track the amount of time spent by each member in activities 
related to the practice. While this data may not be present in billing 
records, it should be present in appointment databases, personal 
schedules, and other easily accessible sources. To simplify matters, a 
group can assume a physician works a standard 40 hour week unless he or 
she can present evidence of a shorter or longer work week. A practice 
should be able to maintain records in the form of general schedules 
that are sufficient to demonstrate its calculations in the event of an 
audit. Finally, we consulted several group practice associations about 
their preference for measuring the standard. They informed us that they 
favor using time in calculating the standard.
    As a result of our investigation, we are therefore proposing to use 
the measure of physician time as the ``default'' standard. We believe 
that our carriers can evaluate the ``substantially all'' test only if 
we have one, or perhaps a few, standards. Therefore, we are soliciting 
comments on other possible methods that groups might use, provided 
these methods will provide verifiable data that demonstrates that a 
group meets the ``substantially all'' criteria. We will review all 
alternative methods, but only include those in the final rule that we 
believe are both verifiable and administratively feasible.
    The Billing Number Requirement--We are interpreting the new billing 
number requirement in the ``substantially all'' test to mean that a 
single group can have more than one billing number, as long as the 
group bills under a billing number that has been assigned to the group. 
We do not believe there is anything in the statute to preclude a group 
practice from having more than one number. This interpretation will 
accommodate situations in which one group practice has multiple numbers 
because it has many locations or operates in more than one State.
    It has also come to our attention that there are an increasing 
number of situations in which a group has another entity (not a wholly-
owned entity) bill for it, such as a management services organization 
(MSO) or billing agent. We propose to allow a group to meet the 
requirement that services have been ``billed under a billing number 
assigned to the group'' if an agent bills for the group, under the 
group's name, using the group's billing number, provided the 
arrangement meets the requirements in Sec. 424.80(b)(6). However, 
because of the specific terms of the statute, we do not believe a group 
can receive payments for its services through a separate entity (one 
that is not wholly owned) that bills in its own right, under its own 
billing number, even if the payments ultimately constitute group 
revenues.
    The requirement for physician-patient encounters and the definition 
of group ``members''. Effective January 1, 1995, the group practice 
definition in section 1877(h)(4)(A)(v) requires that members of the 
group must personally conduct no less than 75 percent of the physician-
patient encounters of the group practice. We believe this provision may 
have been designed to differentiate between legitimate group practices 
and those with ``member'' owners or investors who are members in name, 
but who treat few, if any, patients. In such a scenario, nonmember 
physician contractors could be hired to treat most of the group's 
patients. This arrangement would allow the nonpracticing ``outside'' 
physician owners to refer to the ``group'' for the furnishing of 
laboratory services or other ancillary types of services that are 
designated health services.
    In Sec. 411.351 of the August 1995 final rule, we defined 
``members'' of a group practice broadly as physician partners and full-
time and part-time physician contractors and employees during the time 
they furnish services to patients of the group practice that are 
furnished through the group and are billed in the name of the group. 
This definition would cover all of the physicians who are involved, in 
some capacity, in a group practice arrangement, while they are 
furnishing services to group patients. As a result, all group practice 
patients who have an encounter in the group setting with a physician 
would be treated by a member of the group practice. Our interpretation 
would thus render the encounter requirement in section 1877(h)(4)(A)(v) 
superfluous.
    It has come to our attention that group practices generally do not 
regard independent contractors as members of the group. In addition, 
when a group practice contracts with a number of independent 
contractors, the group can experience difficulties in meeting the 
``substantially all'' requirement, especially if the contractors work 
for the group only on a part-time basis. In order to remedy this 
problem, and to give meaning to the encounter requirement in section 
1877(h)(4)(A)(v), we propose a change in the definition of a member of 
a group practice. We propose to exclude independent contractors from 
the definition. In addition, we propose to redefine ``members of the 
group'' to include not just physician partners, but physicians with any 
other form of ownership in the practice (including physicians whose 
ownership is held by their individual professional corporations). We 
also propose to count any of the physicians listed under the definition 
as ``members'' during the time they furnish ``patient care services'' 
to the group rather than just during the time they furnish services to 
patients of the group that are furnished through the group and are 
billed in the name of the group. This change reflects our belief that a 
physician can legitimately be participating as a group member while 
providing services to the group for which the practice cannot directly 
bill, such as certain administrative services. We are also proposing to 
extend this definition to group practices in the context of the 
additional designated health services.
    Group practices should note that under the revised definition of a 
group ``member,'' independent contractors cannot supervise the 
provision of designated health services under the in-office ancillary 
services exception. Under section 1877(b)(2), services must be 
furnished personally by the referring physician, personally by a 
physician who is a member of the same group practice, or by individuals 
who are directly supervised by the referring physician or another 
physician in the group practice. We will no longer consider independent 
contractors as physicians who are ``in the group practice.'' An 
independent contractor may be able to refer to the group practice for 
the provision of designated health services, provided the physician 
qualifies for the personal services exception in section 1877(e)(3) of 
the Act, or the new general compensation exception in Sec. 411.357. We 
would also like to point out that the definition of who qualifies as a 
``member of a group practice'' in Sec. 411.351 applies only in

[[Page 1690]]

the context of the referral provisions in section 1877 of the Act. The 
concept of group membership may be different for purposes of other 
provisions of the Medicare or Medicaid statutes.
    As a result of our change in who constitutes a group practice 
member, at least 75 percent of all physician-patient encounters must 
occur between owner or employee physicians and patients. We regard an 
``encounter'' as any appointment during which a group practice patient 
is actually examined or treated by a physician.
    Methods for distributing group costs and revenues. The statute 
requires that a group distribute its income and overhead in accordance 
with methods that are ``previously determined.'' We regard this 
provision as ambiguous, since it is not clear prior to what event these 
methods must be in place. A method will always be in place just prior 
to a distribution, since a distribution can occur only if there is some 
method in place to carry it out.
    It is our view that this provision was meant to require that a 
group have an established plan for its distributions, rather than 
making ad hoc decisions about distributions just before making them. 
Congress may have feared that ad hoc disbursements would be more likely 
to reflect a physician's referrals. To give meaning to this provision, 
we propose to interpret it so that a group must have in place methods 
for distribution determined prior to the time period the group has 
earned the income or incurred the costs. We believe these methods can 
be determined by any party, and not just members of the group practice. 
For example, if a hospital has established a group practice to run a 
hospital affiliated clinic, the hospital might be the party that 
determines how clinic income will be distributed.
    We are also proposing that the overhead expenses of and the income 
from the practice be distributed according to methods that indicate 
that the practice is a unified business. That is, the methods must 
reflect centralized decision making, a pooling of expenses and 
revenues, and a distribution system that is not based on each satellite 
office operating as if it were a separate enterprise. We would impose 
this additional standard under our authority under section 
1877(h)(4)(A)(vi) to add standards by regulation to the definition of a 
group practice.
    Volume or value of referrals cannot be reflected in a physician 
member's compensation. Beginning on January 1, 1995, physicians who are 
group practice members cannot directly or indirectly receive 
compensation based on the volume or value of their own referrals. 
However, the statute qualifies this rule by allowing physicians to be 
paid a share of over-all profits of the group, or a productivity bonus, 
as described under the next two subheadings. (Groups should take note 
that the following discussion only describes what is appropriate under 
section 1877. You should be aware of and comply with other applicable 
statutes, including the anti-kickback statute, when entering into 
arrangements.)
    We believe that the ``volume or value'' standard precludes a group 
practice from paying physician members for each referral they 
personally make or based on the value of the referred services. This 
standard applies to any of a physician's actions that constitute 
``referrals,'' as these are defined in section 1877(h)(5)(A) and (B) of 
the Act. We include here a brief discussion of what constitutes a 
``referral'' for purposes of the ``volume or value'' standard:
    Section 1877(h)(5)(A) states that referrals include, subject to an 
exception for certain specialized services, the request by a physician 
for an item or service for which payment may be made under Part B, 
including the request for a consultation with another physician (and 
any test or procedure ordered by, or to be performed by (or under the 
supervision of) that other physician). We are interpreting this 
provision to apply not to a physician's requests for any Part B items 
or services, but only to a physician's requests for designated health 
services covered under Part B. We explain our rationale for this 
position in the next section, which discusses the definition of a 
``referral.''
    The second part of the statutory definition of ``referral'' in 
section 1877(h)(5)(B) covers (subject to an exception for certain 
specific services) the request or establishment of a plan of care by a 
physician that includes the provision of a designated health service. 
Although this second part is not drafted in Medicare-specific terms and 
could be interpreted to cover situations involving any designated 
health service, we are interpreting it as applying only to those 
designated health services covered under Medicare. We discuss this 
position, and our interpretation of referrals for Medicaid covered 
services, in more detail in the section dealing with what constitutes a 
``referral.''
    Because of our interpretation of what constitutes a ``referral,'' 
an entity wishing to be considered a group practice in order to use the 
in-office ancillary services exception cannot compensate its members 
based on the volume or value of referrals for designated health 
services for Medicare or Medicaid patients but could do so in the case 
of other patients. However, the most straightforward way for a group to 
demonstrate that it is meeting the requirements for the exception would 
be for the group to avoid a link between physician compensation and the 
volume or value of any referrals, regardless of whether the referrals 
involve Medicare or Medicaid patients. Alternatively, a group that 
wants to compensate its members on the basis of non-Medicare and non-
Medicaid referrals would be required to separately account for revenues 
and distributions relating to referrals for designated health services 
for Medicare and Medicaid patients. If a group purports to be making 
payments to its physicians for nonprogram referrals, but these appear 
to us to be inordinately high or otherwise inconsistent with the fair 
market value of those referrals, we could determine that the 
physicians' compensation does not meet the fair market value standard, 
and thus may actually reflect additional compensation for Medicare or 
Medicaid referrals.
    A physician member's compensation can reflect over-all profits. 
Although physician members cannot be compensated directly or indirectly 
based on their own referrals, under section 1877(h)(4)(A)(iv) and 
(B)(i), a physician can be paid a share of over-all profits of the 
group, as long as the share is not determined in a manner that is 
directly related to the volume or value of that physician's own 
referrals.
    In the case of over-all profits, we are interpreting the statute as 
follows: First, we are taking the position that the statute does not 
affect a physician's compensation for services other than designated 
health services. Thus, for purposes of section 1877, a group practice 
can distribute profits from services other than designated health 
services in any way it sees fit. For example, a group can distribute 
profits from the physicians' own nondesignated health services under an 
even split, based on referrals, or according to the amount of a 
physician's investment in the group, seniority, hours spent devoted to 
the practice, or the number or difficulty of services the physician has 
furnished. The practice can also offer different types of sharing of 
profits or other kinds of compensation arrangements, or combinations of 
arrangements, to different physicians or groups of physicians. (Groups 
should be careful to comply with other statutes, including the anti-
kickback statute, when creating compensation arrangements.)
    However, when a physician makes a referral for a designated health 
service

[[Page 1691]]

for a Medicare or Medicaid patient (for example, orders a laboratory 
test or occupational therapy), we believe the statute requires a 
different scheme. That is, the referring physician can receive a 
portion of the group's overall pooled revenues from these services as 
long as the group does not share these profits in a manner that relates 
directly to who made the referrals for them. We believe, for example, 
that these profits can be shared according to most of the principles 
described above, such as an even split, a physician's investment in the 
group, the number of hours a physician in general devotes to the group, 
or the difficulty of a physician's work. However, each physician's 
personal compensation cannot include payments based directly on the 
number or value of the referrals he or she has made.
    Since self-referrals are referrals under section 1877, profits 
should not be pooled and divided between group members so that they 
relate directly to the number of designated health services for 
Medicare or Medicaid patients physicians referred to themselves or the 
value of those self-referrals (such as a value based on the complexity 
of the service). Thus, a physician should not receive extra, specific 
compensation from the pooled profits for performing a designated health 
service he or she has self-referred. We believe that rewarding a 
physician each time he or she self-refers for a designated health 
service can constitute an incentive to overutilize services. Nor should 
a physician's compensation relate directly to the number of referrals 
for designated health services he or she has made to other group 
physicians, to the group's nonphysician staff, or to any other entity 
or individual.
    We regard ``over-all profits of the group'' to mean all of the 
profits or revenues a group can distribute in any form to group 
members, even if the group is located in two different States or has 
many different locations within one State. We would not interpret the 
concept of ``overall profits'' as the profits that belong only to a 
particular specialty or subspecialty group. We believe that the 
narrower the pooling, the more likely it will be that a physician will 
receive compensation for his or her own referrals (for example, a 
subspecialty group or location could contain only one or two 
physicians).
    A physician member's compensation can reflect productivity bonuses. 
Under section 1877(h)(4)(A)(iv) and (B)(i), a physician's compensation 
cannot directly or indirectly reflect the volume or value of his or her 
referrals, except that the physician can receive a productivity bonus, 
as long as the bonus is not determined in a manner that is directly 
related to the volume or value of that physician's own referrals. A 
productivity bonus must be based on services that are personally 
performed by a physician or incident to personally performed services.
    As we have noted above for sharing of profits, we have interpreted 
section 1877 as imposing no restrictions on productivity bonuses based 
on revenues that have nothing to do with a physician's referrals for 
designated health services under Medicare or Medicaid. Thus, for all 
nondesignated health services, a physician can be compensated under any 
productivity scheme that a group derives. We understand that group 
practices use many different measures of a physician's productivity, 
such as counting patient encounters, charges or collections 
attributable to the physician, or hours of patient care services, or 
factoring in the degree of difficulty of a physician's procedures, ways 
in which the physician has improved his or her professional 
qualifications, or the amount of time the physician is willing to be 
on-call. In addition, a group can pay physicians based on a percentage 
of profits, straight salary, or any combination of base and incentive 
payments.
    In terms of designated health services that a physician refers for 
Medicare or Medicaid patients, a physician's productivity bonus can 
only indirectly reflect those services that he or she personally 
performed or that are incident to those personally performed services. 
We regard services as ``personally performed'' by a physician when he 
or she participates directly in the delivery of the service. As we have 
noted elsewhere, we believe that a physician has made a ``referral'' if 
the physician refers a patient for a designated health service to him 
or herself, to other physicians in the group, or to the physician's own 
or the group practice's employees or contractors or to any other entity 
or individual. Unlike the over-all profit situation, in which amounts 
can be aggregated, the productivity bonus by its very nature will be 
based on a physician's individual referrals and performance, and will 
fluctuate accordingly. However, the statute precludes a productivity 
bonus for a physician that directly reflects the volume or value of 
that physician's own referrals.
    Thus, we believe a physician's compensation can reflect a bonus for 
designated health services the physician personally performs or 
``incident to'' services the physician directly supervises, provided 
the services result from the referral of a physician other than the one 
performing or supervising the service. A physician in this situation is 
not being compensated based on the volume or value of his or her own 
referrals. A physician can receive compensation for his or her own 
referrals for designated health services only through the aggregation 
that occurs as part of over-all sharing of profits.
    We regard the reference in section 1877(h)(4)(B)(i) to services 
performed ``incident to a physician's personally performed services'' 
as a reference to the services defined in section 1861(s)(2)(A) of the 
Act. Here they are listed under ``Medical and Other Health Services'' 
as services and supplies (including drugs and biologicals that cannot, 
as determined in accordance with regulations, be self-administered) 
furnished as an incident to a physician's professional service, of 
kinds that are commonly furnished in physicians' offices and are 
commonly either furnished without charge or included in the physicians' 
bills.
    Our longstanding interpretation of this provision appears in 
section 2050 of the Medicare Carriers Manual, Part 3--Claims 
Processing. This provision states that ``incident to'' services are 
those that are furnished as an integral, although incidental part, of 
the physician's personal professional services in the course of 
diagnosis or treatment of an illness or injury. The services of 
nonphysicians must be furnished under the physician's direct 
supervision by employees of the physician.
    Because the provision in section 1877(h)(4)(B)(i) on productivity 
bonuses is a difficult one, and because physicians are now compensated 
in many ways, we directly solicit comments on our interpretation of 
this provision.
7. Referral
    We have received a number of inquiries about what constitutes a 
``referral'' for purposes of section 1877. The concept of a referral 
appears in several places: physicians are prohibited from making 
certain referrals and a number of the compensation-related exceptions 
require that any payment passing between a physician and an entity not 
reflect the volume or value of the physician's referrals. We believe 
that the concept of a ``referral'' in the statute is a broad one, and 
that prohibited referrals are a subset of these. Below we discuss our 
interpretation of what constitutes a ``referral.''
    Under section 1877(h)(5)(A), referrals include, subject to an 
exception for

[[Page 1692]]

certain specialized services, the request by a physician for an item or 
service for which payment may be made under Part B, including the 
request for a consultation with another physician (and any test or 
procedure ordered by, or to be performed by (or under the supervision 
of) that other physician).
    We believe that ``an item or service for which payment may be made 
under Part B'' means a Part B item or service that ordinarily ``may 
be'' covered under Medicare (that is, that could be a covered service 
under Medicare at the present time in the community in which the 
service has been furnished) for a Medicare-eligible individual, 
regardless of whether Medicare would actually pay for this particular 
service, at the time, for the particular eligible individual who has 
been referred. (For example, Medicare might not pay for a service if 
the individual has not yet met his or her deductible.)
    The second part of the statutory definition of ``referral'' in 
section 1877(h)(5)(B) covers (subject to an exception for certain 
specialized services) the request or establishment of a plan of care by 
a physician that includes the provision of a designated health service. 
Although this second part is not drafted in Medicare-specific terms and 
could be interpreted to cover situations involving any designated 
health service, we are interpreting it as applying only to those 
designated health services that ``may be'' covered under Medicare. We 
base this position on the fact that the referral prohibition in section 
1877(a)(1) applies only to designated health services covered under 
Medicare.
    We are not aware of any rationale for the distinction between the 
definition for Part B services, in which a physician's request for any 
Part B item or service constitutes a referral, and the definition for 
other items or services, in which a referral consists of a physician's 
request for, or a plan of care providing for, only a designated health 
service. The broader definition for Part B services has no 
ramifications in terms of the actual referral prohibition, which 
encompasses only referrals for designated health services. However, it 
is significant in terms of the standard that appears in the ``group 
practice'' definition and in a number of the compensation-related 
exceptions that precludes compensation between parties that reflects 
the volume or value of a physician's referrals.
    It is our understanding that section 1877 was designed to prevent 
physicians from overutilizing the specific health care services 
designated in the statute, a list Congress derived based on its sense 
of which services tend to be subject to abuse. We do not believe the 
statute was meant to preclude physicians from being compensated for 
their referrals for totally different Part B services. Thus, we are 
taking the position that, since the prohibition relates only to 
referrals for designated health services, the concept of a referral for 
a Part B service under section 1877(h)(5)(A) should be limited to just 
referrals for designated health services.
    As we explained in the discussion on the definition of an 
``entity,'' we believe that the concept of a ``referral'' covers 
situations in which physicians refer to themselves or among themselves. 
(As we noted in that discussion, a physician could be prohibited from 
referring to him or herself or to other group practice members if the 
services do not meet the in-office ancillary services exception in 
section 1877(b)(2) or the physician services exception in section 
1877(b)(1) of the Act or some other exception.) We believe that a 
physician has made a referral under section 1877(h)(5) when he or she 
requests any designated health service covered under Part A or Part B 
or establishes a plan of care that includes a designated health service 
covered under Part A or B, even if the physician furnishes the service 
personally. We interpret this language to cover a physician's 
certifying or recertifying a patient's need for a designated health 
service. For Part B services, a referral can also include a 
consultation with another physician.
    We are interpreting a physician's ``request'' for an item or 
service, or the establishment of a plan of care, as a step that occurs 
after a physician has initially examined a patient or furnished 
physician services that are not designated health services, or 
otherwise concluded that the patient needs a designated health service. 
(We describe our rationale for this interpretation in more detail in 
section III.C.2 of this preamble, where we discuss the in-office 
ancillary services exception.)
    We are interpreting a ``request'' as occurring whenever a physician 
asks for a service in any way or indicates that he or she believes the 
service is necessary (for example, by verbally stating that the service 
is necessary, by entering description of the service into the patient's 
records or onto a medical chart or by writing a prescription).
    What constitutes a ``referral'' for a Medicaid service. Section 
1903(s) of the Act applies aspects of the referral prohibition to the 
Medicaid program for referrals that would result in a denial of payment 
for the service under Medicare, if Medicare covered the service to the 
same extent and under the same terms and conditions as under the State 
plan. We interpret this provision to mean that a State should apply the 
Medicare rules in section 1877 to a referral for a Medicaid service, 
even if the service is not covered under Medicare.
    However, the definition of a referral in section 1877(h)(5)(A) and 
(B) is cast specifically in terms of a request for certain Part B 
Medicare services and for ``other items,'' which in the Medicare 
context we have interpreted to mean Part A services. Since Medicaid 
services are not categorized this way, we propose to interpret this 
provision by establishing an analogous definition. That is, (subject to 
an exception for certain specialized services, which we describe below) 
a physician has made a referral if he or she has requested a Medicaid 
covered designated health service that is comparable to a service 
covered under Part B of Medicare (including a request for a 
consultation with another physician). A physician has also made a 
referral for any other Medicaid covered item or service if the service 
is a designated health service and the physician has requested it or 
has established a plan of care that includes it.
    We are also translating a ``referral'' from the Medicare context to 
mean a physician's requests for, or plan of care including, a 
designated health service that ordinarily ``may be'' covered under the 
particular State Medicaid program for an individual in the patient's 
eligibility category, regardless of whether the State Medicaid agency 
would actually pay for this particular service, at the time, for the 
particular Medicaid-eligible individual who has been referred.
    Prohibited referrals only involve designated health services. It is 
important to keep in mind that the only referrals that are prohibited 
under section 1877 of the Act are those that involve the furnishing of 
a designated health service listed in section 1877(h)(6). As we note in 
section IV.A.5 of this preamble in our discussion on referrals to 
immediate family members, a physician is free to make a referral for a 
service that is not a designated health service (or a service that does 
not include a designated health service), such as certain physician 
services. For example, a physician can refer a patient to an 
obstetrician for general prenatal care. If the obstetrician prescribes 
ultrasound as part of this prenatal care, it is the obstetrician who 
has made a referral for a designated health service, and not the 
original physician.
    The statutory exception to the definition of a ``referral.'' Before 
OBRA

[[Page 1693]]

'93, the definition of a ``referral'' under section 1877(h)(5)(A) was 
qualified by an exception in section 1877(h)(5)(C) for a request by a 
pathologist for certain clinical diagnostic laboratory tests and 
pathological examination services. These services had to be furnished 
by (or under the supervision of) the pathologist, as the result of a 
consultation requested by another physician. We incorporated this 
provision into the August 1995 final rule in Sec. 411.351.
    We are also proposing to interpret the level of supervision that a 
pathologist must provide if another individual, such as a technician, 
actually furnishes the services. The statute requires ``supervision,'' 
rather than the ``direct supervision'' that appears as part of the in-
office ancillary services exception. We are interpreting 
``supervision'' to mean the level of supervision ordinarily required 
under Medicare coverage and payment rules or, when they apply, the 
health and safety standards, for the particular services at issue in 
the particular locations in which the services will be furnished.
    As the result of OBRA '93, beginning on January 1, 1995, the 
exception to what constitutes a ``referral'' in section 1877(h)(5)(C) 
was expanded to include a request by a radiologist for diagnostic 
radiology services and a request by a radiation oncologist for 
radiation therapy, if the services are furnished by (or under the 
supervision of) the radiologist or radiation oncologist as the result 
of a consultation requested by another physician. We are incorporating 
this amendment into the definition of a ``referral'' in Sec. 411.351. 
Diagnostic radiology services and radiation therapy are also defined in 
Sec. 411.351, where we have presented our proposed definitions of the 
different designated health services.
    When a physician has requested a ``consultation.'' The services 
that are excepted from the ``referral definition'' under section 
1877(h)(5)(C) must result from a consultation requested by a physician 
other than the pathologist, radiologist, or radiation oncologist who 
actually performs or supervises the performance of the services listed 
above. We discussed the concept of a consultation briefly in the 
preamble to the proposed rule covering referrals for clinical 
laboratory services at 57 FR 8595. We said that, for purposes of 
Medicare coverage, a ``consultation'' is--

a professional service furnished to a patient by a physician (the 
consultant) at the request of the patient's attending physician. A 
consultation includes the history and examination of the patient as 
well as a written report that is transmitted to the attending 
physician for inclusion in the patient's permanent record ***. Other 
referrals, such as sending a patient to a specialist who assumes 
responsibility for furnishing the appropriate treatment, or 
providing a list of referrals for a second opinion, are not 
``consultations'' or ``referrals'' that would trigger the laboratory 
services use prohibition.

    We would like to clarify that a consultation occurs whenever a 
physician requests that a patient see another physician, such as a 
particular specialist, but the original physician retains control over 
the care of the patient, including any care related to the condition 
that prompted the consultation. Section 1877(h)(5)(A) implies that a 
``consultation'' is still a consultation even if the consultant 
physician takes the initiative to order, perform, or supervise the 
performance of, tests for the patient. The consultant physician, as we 
noted in the preamble of the August 1995 rule, must provide the 
original physician with a report. Nonetheless, we regard this as a 
consultation as long as it is the original physician who gathers 
information from the consultant physician about his or her examination 
of the patient and any test results and then makes a decision about how 
to proceed with the patient's care.
    Conversely, the original physician has not arranged for a 
consultation, but instead has made a referral, in situations in which 
the specialist takes over the patient's care for purposes of the 
condition that prompted the referral. For example, a physician might 
send a patient to a specific cardiologist, who examines the patient 
thoroughly, sends a report to the attending physician but is the only 
one who sees the patient thereafter for the purpose of treating a heart 
problem.
8. Remuneration
    Remuneration that does not result in a compensation arrangement. A 
compensation arrangement is defined in section 1877(h)(1) as any 
arrangement involving any remuneration between a physician (or family 
member) and an entity, other than an arrangement involving only 
remuneration described in section 1877(h)(1)(C). Section 1877(h)(1)(C) 
lists certain specific kinds of remuneration that do not result in a 
compensation arrangement, such as the forgiveness of amounts owed for 
inaccurate tests, mistakenly performed tests, or for the correction of 
minor billing errors.
    We believe there is some ambiguity in section 1877(h)(1) concerning 
the requirement that excepted remuneration must result from an 
arrangement involving only the remuneration described in section 
1877(h)(1)(C). This provision could be read to mean that the items in 
section 1877(h)(1)(C) are excepted when the arrangement that exists 
between the physician and entity involves nothing but the excepted 
forms of payment. As a practical matter, we realize that the kinds of 
remuneration listed in section 1877(h)(1)(C) seldom occur as isolated 
transactions, but are often subsets or components of other 
arrangements. For example, the forgiveness of minor billing errors 
suggests that the parties transact and exchange services or items for 
payment when there are no billing errors; those transactions that 
contain billing errors may be only a small fraction of the parties' 
overall business dealings.
    To clarify this provision, we are interpreting it to mean that the 
portion of a business arrangement that consists of the remuneration 
listed in section 1877(h)(1)(C) alone does not constitute a 
compensation arrangement. Any other forms of remuneration that might 
accompany these payments are not excepted and could constitute a 
compensation arrangement, provided they do not otherwise meet one of 
the other exceptions in this proposed regulation.
    Section 1877(h)(1)(C)(ii) excepts from the definition of 
``remuneration'' the provision of items, devices, or supplies that are 
used solely to collect, transport, process, or store specimens for the 
entity providing the item, device, or supply, or order or communicate 
the results of tests or procedures for the entity. We believe that some 
pathology laboratories have been furnishing physicians with materials 
ranging from basic collection items and storage items (for example, 
jars for urine samples and vials for blood samples) to more specialized 
or sophisticated items, devices, or equipment (snares used to remove 
gastrointestinal polyps, needles used for biopsies or to draw bone 
marrow or samples of amniotic fluid for amniocentesis, and computers or 
fax machines used to transmit results).
    In order for these items and devices to meet the statutory 
requirement, they must be used solely to collect, transport, process, 
or store specimens for the laboratory or other entity that provided the 
items and devices. We interpret ``solely'' in this context to mean that 
these items are used solely for the purposes listed in the statute, 
such as cups used for urine collection or vials used to hold and 
transport blood to the entity that supplied the items or devices.

[[Page 1694]]

    We do not believe that an item or device meets this requirement if 
it is used for any purposes besides these. For example, we do not 
regard specialized equipment such as disposable or reusable aspiration 
and injection needles and snares as solely collection or storage 
devices. Instead, these items are also surgical tools that are 
routinely used as part of a surgical or medical procedure. For example, 
the Food and Drug Administration (FDA) regulations in 21 CFR 
878.4800(a) define a ``manual surgical instrument for general use'' as 
a ``non-powered, hand-held, or hand-manipulated device, either reusable 
or disposable, intended to be used in various general surgical 
procedures.'' Surgical instruments listed in the regulation include 
disposable or reusable aspiration and injection needles, snares, and 
other similar devices. Snares are also listed in these regulations as 
components of various specialized surgical devices, such as ear, nose, 
and throat manual surgical instruments, endoscopic electrosurgical 
units, and manual gastroenterology-urology surgical instruments and 
accessories.
    In addition, to ensure that items or devices that could qualify for 
this exception are used solely for the entity that supplied them, the 
number or amount of these items should be consistent with the number or 
amount that is used for specimens that are actually sent to this entity 
for processing. That is, if a physician tends to annually perform 400 
blood tests that are sent to a particular laboratory for analysis, we 
would not expect the physician to accept from that laboratory items, 
devices, or supplies in excess of an amount that is reasonable for the 
projected tests. In determining the amount of goods that are 
reasonable, we would consider not just quantity, but such facts as 
whether the laboratory packages together a set of items to be used for 
just one tissue collection or one use, or whether an item can be used 
multiple times, for multiple entities.
    If, on the other hand, a physician keeps a particular item or 
device and uses it repeatedly or could use it repeatedly for any 
patients or for other uses, we would presume that the item or device is 
not one that meets the requirement, unless the physician can 
demonstrate otherwise. For example, if computer equipment or fax 
machines can be used for a number of purposes in addition to ordering 
or receiving results from an entity, we would presume that the 
``solely'' requirement is not met, unless the physician can demonstrate 
that the equipment is integral to, and used exclusively for, performing 
the outside entity's work. Detailed records concerning the use of the 
machine would be necessary to overcome this presumption.
    Section 1877(h)(1)(C)(iii) ``excepts'' from a compensation 
arrangement situations involving certain payments made by an insurer or 
a self-insured plan to a physician. The payments must be those that 
satisfy a claim, submitted on a fee-for-service basis, for the 
furnishing of health services by that physician to an individual who is 
covered by a policy with the insurer or by the self-insured plan. The 
payments must meet certain specified conditions.
    We believe that this provision was designed for situations in which 
an insurer is involved in the delivery of health care services. If the 
insurer owns a health care facility, a physician might otherwise be 
precluded from referring to that facility just because the physician 
receives compensation from the insurer in the form of payments that 
satisfy claims the physician has submitted. If the physician is seeking 
fee-for-service payments from an insurer, he or she may not have an 
arrangement with the insurer that could qualify as a personal services 
arrangement, or otherwise qualify under any of the other statutory 
exceptions.
    Discounts can be a form of remuneration for some of the designated 
health services. In the August 1995 final rule, we defined remuneration 
to include discounts. In the preamble to that rule, we explained that 
we believe that, for most items or services that a physician might 
purchase, the statute dictates this result. Section 1877(e)(8)(B) 
excepts from a compensation arrangement payments made by a physician to 
an entity as compensation for items or services (other than clinical 
laboratory services) if the items or services are furnished at fair 
market value. As a result, any amounts that a physician pays for items 
or services that do not reflect fair market value, such as certain 
discounted items or services, would not meet the exception.
    We may have implied in the August 1995 final rule that all 
discounts would fail to meet the fair market value standard. We wish to 
clarify here that we believe a discount does meet the fair market value 
standard if it is an arm's-length transaction; an entity offers it to 
all similarly situated individuals, regardless of whether they make 
referrals to the entity; the discount does not reflect the volume or 
value of any referrals the physician has made or will make to the 
entity; and the discount is passed on to Medicare or other insurers. We 
are aware of situations in which discounts enure to the benefit of 
referring physicians. For example, physicians will sometimes purchase 
oncology drugs from manufacturers at a discount, yet mark the drugs up 
to eliminate the discount when billing Medicare. Such arrangements 
would not meet the standard.
    We are also creating a new exception under our authority in section 
1877(b)(4), which allows us to except any other financial relationship 
that we determine does not pose a risk of program or patient abuse. The 
new exception would allow physicians to receive a discount based on the 
volume of their referrals to an entity, provided the discount is passed 
on in full to the patients or their insurers (including Medicare), and 
does not enure to the benefit of the physicians in any way.
    The statute provides a different exception for laboratory services. 
Section 1877(e)(8)(A) states that there is no compensation arrangement 
when a physician makes payments to a laboratory in exchange for the 
laboratory providing clinical laboratory services. This exception does 
not include a fair market value standard. Congress may not have 
included this standard based on its belief that, under the Medicare 
program, physicians cannot purchase laboratory services at a discount, 
and then bill the Medicare program for them at a marked up rate.
    We agree that physicians are precluded from purchasing and marking 
up laboratory services covered under Medicare under section 
1833(h)(5)(A) of the Act. This provision states that, in general, 
Medicare payment for a clinical diagnostic laboratory test may be made 
only to the person or entity that performed or supervised the 
performance of the test. In addition, payment for laboratory tests is 
made on the basis of a fee schedule.

B. General Prohibition on Referrals

    Which designated health services are covered by the prohibition. 
Section 1877(a)(1)(A) prohibits referrals to an entity for the 
furnishing of designated health services ``for which payment otherwise 
may be made under [Medicare], * * *.'' We believe that this means any 
designated health service that ordinarily ``may be'' covered under 
Medicare (that is, that could be a covered service under Medicare in 
the community in which the service has been provided) for a Medicare-
eligible individual, regardless of whether Medicare would actually pay 
for this particular service, at the time, for that particular 
individual (for example, the individual may not have met his or her 
deductible).

[[Page 1695]]

    We believe that the same principles apply for designated health 
services under the Medicaid program. Section 1903(s) says that the 
Secretary cannot make Federal financial participation payments to a 
State for designated health services, as they are defined under section 
1877(h)(6), furnished to an individual on the basis of a referral that 
would result in a denial of payment under Medicare, if Medicare covered 
the services to the same extent and under the same terms and conditions 
as under the State plan. We interpret this provision to mean that the 
Medicare rules in section 1877 apply to Medicaid services, as if 
Medicare covered the same items and services as a State's Medicaid 
program.
    As a result, a referral could affect a State's FFP if the 
designated health service is one ``for which payment otherwise may be 
made'' under a State's Medicaid program, regardless of whether a State 
agency would actually pay for this particular service, at the time, for 
that particular individual. Therefore, if a State plan could cover the 
service for a Medicaid eligible individual in the individual's 
eligibility group, we believe it is a service that is covered by the 
referral prohibition.
    Limitations on billing and refunds on a timely basis. As part of 
the prohibition on referrals in section 1877(a), the statute also 
provides that an entity may not present or cause to be presented a 
Medicare claim or a bill to any individual, third party payor, or other 
entity for designated health services furnished under a prohibited 
referral. In the August 1995 final rule, we included in Sec. 411.353(d) 
the requirement that an entity that collects payment for a laboratory 
service that was performed under a prohibited referral must refund all 
collected amounts on a timely basis. We are proposing to apply this 
provision to such amounts collected for any of the designated health 
services. We are also proposing to define ``timely basis'' by cross 
referring to Sec. 1003.101 in the OIG civil money penalty regulations. 
While Sec. 1003.101 currently defines this term as ``the 60-day period 
from the time the prohibited amounts are collected by the individual or 
entity,'' the OIG is planning to issue shortly revised final 
regulations that will amend this term. Under the amended version, the 
60-day timeframe for a refund will begin when the individual or entity 
knew or should have known that the amount collected was related to a 
prohibited referral. We plan to adopt this revised definition as well.

C. General Exceptions That Apply to Ownership or Investment Interests 
and to Compensation Arrangements

1. Exception for Physician Services
    The statute provides that the referral prohibition does not apply 
in cases involving physician services (as defined in section 1861(q)) 
provided personally by (or under the personal supervision of) another 
physician in the same group practice as the referring physician. 
Physician services are generally defined in section 1861(q) as 
professional services performed by physicians, including surgery, 
consultation, and home, office, and institutional calls. The Medicare 
regulations have interpreted this provision in Sec. 410.20(a) to 
include diagnosis, therapy, surgery, consultations, and home, office, 
and institutional calls, provided the services are furnished by one of 
the types of doctors listed in Sec. 410.20(b).
    Note that this exception applies to physician services that 
constitute designated health services, as we would define designated 
health services in Sec. 411.351. The exception in the Medicare context 
does not cover services that are performed by nonphysicians but are 
furnished under a physician's supervision, such as ancillary or 
``incident-to'' services. Under Medicare, physician services can only 
be performed by a physician. Thus, we believe the exception applies 
only to services that are provided personally by a physician who is a 
member of the same group practice as the referring physician or that 
are provided by a nonmember physician who is personally supervised by a 
group practice physician. We would interpret ``personal supervision'' 
to mean that the group practice physician is legally responsible for 
monitoring the results of any test or other designated health service 
and is available to assist the individual who is furnishing the 
service, even though the member physician need not be present while the 
service is being furnished.
2. Exception for In-office Ancillary Services
    This exception applies to services other than parenteral and 
enteral nutrients, equipment and supplies and durable medical equipment 
(although it does apply to infusion pumps) that are referred by a solo 
practitioner or group practice member within his or her own practice. 
The exception requires that the services be performed by the referring 
physician or group practice member, or by another member of the same 
group practice as the referring physician, or be directly supervised by 
one of these physicians (we discussed the direct supervision 
requirement in section III.A.2 of this preamble), that the services be 
furnished in certain locations, and that the services be billed in a 
particular way. We discuss these last two requirements below.

a. The site requirement

    Where a service is actually ``furnished.'' Section 
1877(b)(2)(A)(ii)(I) requires, for a solo or group practice, that the 
services be furnished in a building in which the referring physician or 
another member of the group practice furnishes physician services 
unrelated to the furnishing of designated health services. It is our 
view that a service is furnished wherever a procedure is actually 
performed upon a patient or in the location in which a patient receives 
and begins using an item.
    For example, if a patient receives an MRI (magnetic resonance 
image) in a physician's office, the service has been furnished there. 
If a patient is fitted for and receives a brace in the physician's 
office, the brace has been furnished there. The same rule would apply 
to a prosthetic device that is implanted in a physician's office. 
However, any item that is given to a patient but is meant to be used at 
home or outside the physician's office, or any item that is delivered 
to the patient's home, has not been ``furnished'' in the physician's 
office.
    What constitutes the ``same building'' in which the physician is 
practicing. We are interpreting ``the same building'' to mean one 
physical structure, with one address, and not multiple structures that 
are connected by tunnels or walkways. In addition, we believe ``the 
building'' consists of parts of the physical structure that are used as 
office or other commercial space. For example, a mobile X-ray van that 
is pulled into the garage of a building would not be part of that 
building.
    When a physician is furnishing physician services ``unrelated to 
the furnishing of designated health services.'' To meet this criterion, 
we believe that a physician must be providing in the same building any 
amount of physician services (as defined in Sec. 410.20(a)) other than 
those listed as designated health services as we have defined them in 
Sec. 411.351. Thus, we would regard as ``unrelated to designated health 
services'' a physician's examination of a patient and diagnosis, even 
if these lead to the physician requesting a designated health service, 
such as an X-ray or laboratory test.

[[Page 1696]]

    The location test for group practices. In the case of a group 
practice, the group has the option of meeting a location test other 
than the one requiring that the designated health services be provided 
in the same building in which a group member provides physician 
services. The group can provide clinical laboratory services in any 
other building that is used by the group for the provision of some or 
all of the group's clinical laboratory services.
    A group can furnish the other designated health services in another 
building that is used by the group for the centralized provision of the 
group's designated health services. We believe that a location meets 
this ``centralized'' requirement if it services more than one of a 
group's offices, and if it furnishes one or any combination of 
designated health services. It is also our view that a group can have 
more than one of these centralized locations. To meet the in-office 
ancillary exception, a group would be required to have a physician 
member present in the ``centralized'' location to perform or directly 
supervise the performance of designated health services, but the 
physician would not be required to perform physician services that are 
unrelated to the designated health services in this location.

b. The billing requirement

    Section 1877(b)(2)(B) requires that in-office ancillary services be 
billed by the physician performing or supervising the services, by the 
referring or supervising physician's group practice under a billing 
number assigned to the group, or by an entity that is wholly owned by 
the physician or group practice. For a group practice that bills, we 
discussed a similar requirement for a group billing number in section 
III.A.6 of this preamble, where we covered the definition of a group 
practice. There, as here, we are interpreting this provision to allow a 
single group to bill under any billing number that has been assigned to 
the group in situations in which a group has more than one number, and 
to allow an agent to bill for the group in the group's name, using the 
group's number, provided the arrangement meets the requirements in 
Sec. 424.80(b)(6).
    In situations in which a ``wholly-owned'' entity bills for a group, 
we do not believe the statute requires that the service be billed under 
the group number, if the wholly owned entity can bill under its own 
provider number. Also, we are interpreting ``a wholly-owned'' entity 
that bills to cover an entity that provides billing or administrative 
services to a physician or group practice. Alternatively, this entity 
can be a wholly-owned provider of designated health services, such as a 
laboratory or radiology facility that is wholly owned by a physician or 
group, but bills for its own services. However, because the provision 
refers to an entity that is ``wholly owned,'' we do not believe that it 
covers billing entities that are owned jointly by a physician or group 
practice with any other individuals or entities.
    We also believe that a group practice member cannot use the in-
office ancillary services exception to refer to other group practice 
members for services he or she intends to bill independently. Section 
1877(b)(2)(B) states that the services must be billed by the physician 
performing or supervising the services or by a group practice of which 
the physician is a member, or by entities wholly owned by the physician 
or the group. Nonetheless, under the definition of who qualifies as a 
``member'' of a group practice in Sec. 411.351, a group practice 
physician billing under his or her own provider status would be 
considered a solo practicing physician for purposes of the in-office 
ancillary exception.
    In Sec. 411.351, we defined who can qualify as a ``member'' of a 
group practice broadly in order to accommodate the many part-time and 
contract physicians who often participate in one or more group 
practices. The definition of a ``member'' covered physician partners 
and full and part-time physician contractors and employees. Physicians 
under the definition qualify as ``members'' only during the time they 
furnish services to patients of the group practice that are furnished 
through the group and are billed in the name of the group. Therefore, 
whenever a physician bills separately for a lab service the physician 
has personally performed or supervised, he or she is functioning as a 
solo practitioner and not as a group member. (We are currently 
proposing to amend the definition of a ``member'' to exclude 
independent contractors and to regard a physician as a member during 
the time he or she furnishes ``patient care services'' to the group. 
These changes would not affect our interpretation.)
    If a physician bills for a service independently, other group 
members cannot directly supervise those services for the referring 
physician. In addition, if a group member bills for too many services 
independently, the group practice may fail to meet the ``substantially 
all'' test under the definition of a group practice in section 
1877(h)(4)(A)(ii). That provision requires that substantially all of 
the services provided by group members be billed under a billing number 
assigned to the group.

c. Designated health services that do not trigger the in-office 
exception

    The location requirements for this exception specify that 
designated health services must be provided in a building in which a 
solo practitioner or a group practice physician also provides physician 
services unrelated to the furnishing of designated health services or, 
for group practices, in a building that serves as a centralized 
location in which a group provides designated health services. Thus, 
this exception would not cover services provided elsewhere, such as 
home health services.
    If services are furnished in a hospital or skilled nursing 
facility, we believe they can be covered under this exception if these 
locations serve as a centralized location in which a group provides 
designated health services or if the referring physician or a member of 
the same group practice furnishes unrelated physician services in the 
building, and the physicians can meet the requirement for direct 
supervision and billing.
3. Exception for Services Provided Under Prepaid Health Plans
    We are aware that the health care world is evolving rapidly, 
consisting of a broad spectrum that ranges from traditional practices 
using fee-for-service billing all the way to fully capitated managed 
care systems, many of which are excepted under the ``prepaid'' 
provision in the statute. In between these extremes exist a host of 
``hybrid'' systems that display a mixture of fee-for-service and 
managed care characteristics. Section 1877 addresses some of these 
systems directly; most others we believe can continue to function by 
meeting the exceptions in the statute and in this proposed regulation. 
We specifically solicit comments on whether our assessment is accurate.
    In this section we describe how we propose to interpret the law in 
a manner that we believe will help to safeguard the Medicare and 
Medicaid programs from abuse, while facilitating the evolution of 
integrated delivery and other health care delivery systems. We also 
discuss how we believe the law affects referrals for designated health 
services provided under demonstration projects and waivers.

a. Physicians, suppliers, and providers that contract with prepaid 
organizations

    The ``prepaid plan'' exception covers services furnished by certain 
specified organizations to their enrollees. Under

[[Page 1697]]

section 1877(b)(3), these include health maintenance organizations and 
competitive medical plans that have a contract with Medicare, certain 
prepaid organizations functioning under a demonstration project, and 
Federally qualified health maintenance organizations. We have 
incorporated this exception into the regulations at Sec. 411.355(c). We 
are aware that a number of these organizations do not furnish services 
directly but often contract with outside physicians, providers, or 
suppliers to furnish items or services to their enrollees, for which 
the organizations bill. The outside physicians, providers, or suppliers 
may, in turn, contract with other physicians or entities for certain 
supplies or services. In order to accommodate these situations, we are 
interpreting this exception broadly to cover not only services 
furnished by the organizations themselves, but also those furnished to 
the organization's enrollees by outside physicians, providers, or 
suppliers under contract with these organizations. The exception would 
also cover services furnished to enrollees by those with whom the 
outside physicians, providers, or suppliers have contracted.

b. Managed care organizations under the Medicaid program

    We propose to add to the regulation a new exception in 
Sec. 435.1012(b) for designated health services provided by managed 
care entities analogous to those listed in section 1877(b)(3) that 
provide services to Medicaid eligible enrollees under contracts with 
State Medicaid agencies. We are basing this addition on our analysis of 
section 1903(s) of the Act. Under section 1903(s), a State can receive 
no FFP for expenditures for medical assistance under the State plan 
consisting of a designated health service furnished to an individual on 
the basis of a referral that would result in a denial of payment for 
the service under Medicare if Medicare covered the service to the same 
extent and under the same terms and conditions as under the State plan. 
We read this provision to mean that the Medicare-based rules in section 
1877 must be applied to services furnished under a State's Medicaid 
program to determine when a referral is a ``prohibited'' one.
    Section 1877(b)(3) excepts from the referral prohibition services 
furnished to enrollees of certain ``prepaid'' plans; however, all of 
the entities listed in that exception provide services to Medicare 
patients. As a result, the exception for prepaid arrangements has no 
meaning for physicians who wish to refer in the context of the Medicaid 
program. In order to give some meaning to this provision in the 
Medicaid context, when it is read in conjunction with section 1903(s), 
we are adding an exception for services furnished by the Medicaid 
counterparts of the Medicare managed care contracts expressly 
referenced in section 1877(b).
    In section 1877(b)(3), Congress exempted all types of Medicare 
contracts with prepaid managed care health plans. We propose to extend 
this exemption to the categories of Medicaid-contracting managed care 
plans analogous to those exempted for Medicare in section 1877(b)(3). 
Like the section 1876 Medicare contracts exempted under section 
1877(b)(3)(A), section 1903(m) governs Medicaid HMO contracts 
(specifically, comprehensive risk contracts), and requires that 
contracting HMOs comply with the physician incentive plan requirements 
in section 1876(i)(8).
    The type of Medicare prepaid health plan exempted under section 
1877(b)(3)(B) is an entity with a less than comprehensive contract 
(involving only Part B, or outpatient, services) under section 
1833(a)(1)(A) of the Act and regulations at 42 CFR Part 417, Subpart U. 
These entities are known as ``health care prepayment plans'' (HCPPs). 
The Medicaid equivalent of a Medicare HCPP is a ``prepaid health 
plan,'' or PHP. Like an HCPP, PHPs generally contract for less than a 
comprehensive range of services (a PHP can also be a nonrisk 
comprehensive contract, since section 1903(m) only governs 
comprehensive risk contracts). Like HCPPs, PHPs are not subject to the 
full range of requirements that HMOs must satisfy under section 1876 or 
section 1903(m).
    Section 1877(b)(3)(C) exempts entities receiving payment on a 
prepaid basis under a demonstration project under section 402(a) of the 
Social Security Amendments of 1967 or section 222(a) of the Social 
Security Amendments of 1972. The Medicaid counterpart of section 402(a) 
is section 1115(a) of the Social Security Act. Indeed, several 
demonstration projects under section 402(a) involving Medicaid-eligible 
Medicare beneficiaries also involve Medicaid capitation payments under 
the authority in section 1115(a). We accordingly are proposing to 
exempt entities receiving payments on a prepaid capitation basis under 
a demonstration project under section 1115(a) of the Act.
    Finally, in order to cover the full range of Medicaid managed care 
contractors paid on a prepaid basis, as Congress did for Medicare, it 
is also necessary to exempt ``Health Insuring Organizations'' (HIOs) if 
they furnish or arrange for services as a managed care contractor. We 
are accordingly proposing to exempt these entities as well.

c. Evolving structures of integrated delivery and other health care 
delivery systems

    As described above, the statute directly excepts from the referral 
prohibition all of the services provided by ``prepaid'' entities 
described in section 1877(b)(3) to the entities' enrollees. We realize 
that a host of organizations and integrated systems are not 
specifically excepted under the statute, so the services they provide 
to Medicare and Medicaid patients may be subject to the referral 
prohibition. For example, Medicare may provide secondary coverage to 
patients who participate in employer group health plans and are treated 
by HMOs that do not have contracts with Medicare or are not Federally 
qualified. Also, there are nontraditional systems that use both fee-
for-service and capitated billing and are not specifically excepted 
under the law. We can find no grounds to create a blanket exception for 
these arrangements; we see no guarantee that these ``hybrid'' 
structures will all be free from any risk of patient or program abuse.
    It is our view that a large percentage of the new and evolving 
structures will continue to thrive by meeting the exceptions in the 
statute and in this proposed regulation. For example, entities such as 
preferred provider organizations (PPOs) and physician hospital 
organizations (PHOs) that are not excepted under section 1877(b)(3) 
normally contract with physicians to provide services to the 
organization's patients, including Medicare or Medicaid patients. These 
physicians can continue to refer Medicare and Medicaid patients to the 
organization for designated health services, provided the physicians' 
arrangements with the organization qualify for the personal services 
exception in section 1877(e)(3) (and in Sec. 411.357(d) of this 
proposed regulation).
    This exception provides, among other things, that the arrangement 
must be for at least 1 year, the physician's compensation must be based 
on fair market value and cannot reflect the volume or value of the 
physician's referrals, except as allowed under certain physician 
incentive plans. We have defined ``fair market value'' in Sec. 411.351 
to allow payment that is consistent with the general market value of 
the services; that is, the compensation that would be included in a 
comparable service agreement, as the result of bona

[[Page 1698]]

fide bargaining between well-informed parties, at the time the 
agreement takes place.
    If a physician has contracted with an organization for less than 1 
year, the arrangement could meet the new general exception for 
compensation arrangements that we have added in Sec. 411.357(l). We 
have added this new exception to accommodate the many complex 
arrangements that we believe exist between physicians and entities, as 
described below in section II.E.1. Also, as described in section 
II.E.3, we have interpreted the ``volume or value of referrals'' 
standard (one of the standards in the personal services exception and 
in many of the compensation-related exceptions) in a manner that we 
believe will not obstruct physicians who are required to refer for 
certain services within a network when the entity furnishing the 
services is at substantial financial risk for their cost. In section 
IV, in which we answer questions about the law, we present a discussion 
about physicians who have contracted with HMOs or other prepaid 
organizations, but who wish to refer fee-for-service patients to the 
HMO or to other physicians or providers who are affiliated with the 
HMO.

d. Designated health services furnished under a demonstration project 
or waiver

    We propose to interpret section 1877 in a manner that we believe 
will allow most Medicare or Medicaid patients to continue to receive 
designated health services under demonstration projects or waivers. Our 
analysis of this issue depends upon whether the organization is paid on 
a prepaid basis under section 1115(a) of the Social Security Act or 
under one of the demonstration authorities specified in section 
1877(b)(3)(C).
    Prepaid demonstration contracts. Entities receiving payment on a 
prepaid basis under section 402(a) of the Social Security Amendments of 
1967 or section 222 of the Social Security Amendments of 1972, have 
been exempted from the referral prohibition by section 1877(b)(3)(C). 
Entities receiving payment on a prepaid basis under a Medicaid 
demonstration project under section 1115(a) of the Social Security Act 
would be exempt under the proposed Medicaid analogue, as discussed 
earlier in this section.
    We would note that the exemption for Medicare prepaid demonstration 
contractors extends not only to demonstration projects initiated by the 
Secretary under her discretionary authority in sections 402(a) and 222, 
but to all demonstrations that incorporate or rely upon section 402 
authority, including such congressionally-mandated demonstrations as 
the PACE (``Program for All-inclusive Care for the Elderly'') 
demonstration projects, under which a public or non-profit entity 
contracts to provide comprehensive care to frail elderly Medicare 
beneficiaries, including dual eligibles who have been certified for 
skilled nursing facility level care, and the ``Social HMO'' (SHMO) 
demonstration projects, including the ESRD SHMO demonstration.
    Demonstration projects that are not prepaid. If a demonstration 
project does not involve an organization receiving payments on a 
prepaid basis, the Medicare ``prepaid'' exception in section 
1877(b)(3)(C) and the Medicaid analogue we are proposing in this rule 
would not apply.
    We believe that the referral prohibition applies to services 
furnished under a demonstration project or waiver that does not qualify 
under section 1877(b)(3)(C) or the Medicaid prepaid demonstration 
exception proposed in this rule; however, the Secretary can exercise 
authority to waive or otherwise alter the requirements in sections 1877 
or 1903(s). For example, section 402(a) of the Social Security 
Amendments of 1967 permits the Secretary to conduct demonstrations for 
a variety of purposes specified in section 402(a)(1)(A) through (K) 
(for example, to test whether changes in methods of reimbursement and 
payment for services, or covering additional services, would have the 
effect of increasing efficiency and economy without adversely affecting 
quality). Section 402(b) of these amendments permits the Secretary to 
waive compliance with the requirements of the Medicare statute for such 
research, insofar as these requirements are related to reimbursement or 
payment. We have determined that the requirements in section 1877 
constitute requirements related to reimbursement and payment and thus 
may be waived for the kind of demonstration project described above, 
when there are no prepaid payments.
    In the Medicaid context, where a demonstration project does not 
fall within the general exception proposed in this rule, the Secretary 
has the authority under section 1115(a)(2) to consider as expenditures 
under the State plan costs of the demonstration project that would not 
otherwise be included as expenditures under section 1903, to the extent 
and for the period prescribed by the Secretary. Hence, section 1115 
could allow the Secretary to provide to a State the FFP that would 
otherwise be precluded under section 1903(s).

D. Exceptions That Apply Only to Ownership or Investment Interests

1. Exception for Ownership in Publicly Traded Securities
    To qualify for the securities exception under section 1877(c)(1), 
the statute originally required that a physician's or family member's 
investment had to be in securities ``which were purchased on terms 
generally available to the public * * *.'' (Emphasis added.) OBRA '93 
amended this provision to require that the securities be those ``which 
may be purchased on terms generally available to the public.'' 
(Emphasis added.) This amendment went into effect retroactively to 
January 1, 1992, and is reflected in the August 1995 final rule. We did 
not, however, interpret this change in the final rule.
    We believe the purpose of this exception is to allow physicians or 
family members to acquire stock in large companies if the transaction 
does not particularly favor the physicians over other purchasers. In 
keeping with this purpose, we propose to interpret ``may be purchased'' 
to mean that, at the time the physician or family member obtained the 
securities, they could be purchased on the open market, even if the 
physician or family member did not actually purchase the securities on 
those terms. For example, the physician or family member may have 
inherited the securities or otherwise acquired them without actually 
purchasing them. We have reflected this interpretation in 
Sec. 411.356(a).
    Section 1877(c)(1) also requires that the securities be in a 
corporation that had, at the end of the corporation's most recent 
fiscal year, or on average during the previous 3 fiscal years, 
stockholder equity exceeding $75,000,000. In proposed 411.356(a)(2), we 
define stockholder equity as the difference in value between a 
corporation's total assets and total liabilities.
2. Exception for Hospital Ownership
    Section 1877(d)(3) excepts designated health services ``provided by 
a hospital'' (other than a hospital located in Puerto Rico) if the 
referring physician is authorized to perform services at the hospital, 
and the ownership or investment interest is in the hospital itself (and 
not merely in a subdivision of the hospital). We believe that this 
exception applies only to designated health services that are furnished 
by a hospital, and not to services furnished by any other health care 
providers the hospital owns, such as a hospital-owned home health 
agency or SNF. It is our view that services ``provided by a hospital'' 
corresponds only to those

[[Page 1699]]

services provided by an entity that qualifies as a ``hospital'' under 
the Medicare conditions of participation. We further believe that 
section 1877(d)(3) covers any ``designated health services'' provided 
by a hospital, rather than just ``inpatient or outpatient hospital 
services,'' because hospitals can provide services to individuals who 
are neither inpatients nor outpatients (for example, they provide 
laboratory services to outside patients).

E. Exceptions That Apply Only to Compensation Arrangements

1. A new exception for all compensation arrangements that meet certain 
standards
    Section 1877 of the Act contains a number of exceptions to the 
referral prohibition that apply only to compensation arrangements. 
Section 1877(e) contains eight exceptions to the referral prohibition 
based specifically on various kinds of compensation arrangements, and 
these are reflected in Sec. 411.357 of the August 1995 final rule. If a 
physician's (or family member's) arrangement with an entity falls 
within one of the categories covered by these exceptions, and the 
arrangement meets the specific criteria listed for that category, the 
physician is not prohibited from making referrals to the entity.
    It has come to our attention that the statutory categories, because 
of their specificity, do not encompass some compensation arrangements 
even though they may be common in the provider community, are based on 
fair market value or are otherwise commercially reasonable, and do not 
reflect the volume or value of a physician's referrals. For example, a 
physician can continue to make referrals to an entity under section 
1877(e)(8)(B) even if the physician purchases items from the entity, 
provided the items are furnished at fair market value. On the other 
hand, the law does not exempt from the referral prohibition situations 
in which entities purchase items from a physician, even if the purchase 
price is comparably fair.
    In light of the increase in recent years of integrated delivery 
systems, and the complex nature of financial arrangements between 
physicians and entities, it is our view that any compensation 
arrangements that are based on fair value, and that meet certain other 
criteria, should be excepted. Therefore, we are proposing to establish 
a new paragraph (l) in Sec. 431.357 to provide an additional exception 
for compensation arrangements under the authority of section 
1877(b)(4). This provision allows the Secretary to establish exceptions 
for any other financial relationship that she determines, and specifies 
in regulations, does not pose a risk of program or patient abuse. To 
meet this requirement, we are proposing an exception for any 
compensation arrangement between a physician (or immediate family 
member), or any group of physicians (even if the group does not qualify 
as a group practice) and an entity, provided the arrangement meets the 
following criteria, which we believe by their terms will prevent 
program or patient abuse. The arrangement must--
     Be in writing, be signed by the parties, and cover only 
identifiable items or services, all of which are specified in the 
agreement;
     Cover all of the items and services to be provided by the 
physician or immediate family member to the entity or, alternatively, 
cross refer to any other agreements for items or services between any 
of these parties.
     Specify the timeframe for the arrangement, which can be 
for any period of time and contain a termination clause, provided the 
parties enter into only one arrangement covering the same items or 
services during the course of a year. An arrangement made for less than 
1 year may be renewed any number of times if the terms of the 
arrangement and the compensation for the same items or services do not 
change;
     Specify the compensation that will be provided under the 
arrangement, which has been set in advance. The compensation must be 
consistent with fair market value and not be determined in a manner 
that takes into account the volume or value of any referrals (as 
defined in Sec. 411.351), payments for referrals for medical services 
that are not covered under Medicare or Medicaid, or other business 
generated between the parties;
     Involve a transaction that is commercially reasonable and 
furthers the legitimate business purposes of the parties; and
     Meet a safe harbor under the anti-kickback statute or 
otherwise be in compliance with the anti-kickback provisions in section 
1128B(b) of the Act.
    We would advise the parties involved in a compensation arrangement 
to use this exception if they have any doubts about whether they meet 
the requirements in the other exceptions listed in Sec. 411.357.
2. A new exception for certain forms of ``de minimis'' compensation
    We are aware that there are a number of situations in which 
physicians or their immediate family members receive compensation in 
the form of incidental benefits that are not part of a formal, written 
agreement. For example, a physician might receive free samples of 
certain drugs or chemicals from a laboratory, training sessions for his 
or her staff before entering into an agreement with a facility that 
furnishes a designated health service, or training sessions that are 
not considered part of the agreement. Also, a provider might furnish a 
physician with free coffee mugs or note pads. We are exercising our 
authority under section 1877(b)(4) to create a new exception that we 
believe will allow physicians or their family members to receive de 
minimis amounts of compensation, without a risk that the compensation 
will result in any Medicare program or patient abuse.
    We have drafted the exception, which would appear at 
Sec. 411.357(k), to apply to noncash items or services. Items cannot 
include cash equivalents, such as gift certificates, stocks or bonds, 
or airline frequent flier miles. We propose to limit the exception to a 
value of $50 per gift, with a $300 per year aggregate. This exception 
would apply only in situations in which the entity providing the 
compensation makes it available to all similarly situated individuals, 
regardless of whether these individuals refer patients to the entity 
for services. In addition, any compensation a physician or family 
member receives from an entity cannot be based in any way on the volume 
or value of the physician's referrals. We believe the criteria for this 
exception, by their terms, will prevent patient or program abuse.
3. The ``volume or value of referrals'' standard
    Most of the exceptions in the law covering specific kinds of 
compensation arrangements state that the compensation involved cannot 
reflect the volume or value of any referrals. (We have included a 
similar standard in the two new compensation exceptions described 
above.) We are applying our interpretation of that standard as it 
appears in section III.A.6 under our discussion of the criteria a group 
of physicians must meet to qualify as a ``group practice.'' In that 
section, we describe what constitutes a ``referral'' for purposes of 
the ``volume or value'' standard.
    The volume or value of referrals standard appears in the exceptions 
for the rental of space or equipment, bona fide employment 
relationships, personal services arrangements, physician recruitment, 
isolated transactions, and group practice arrangements with a

[[Page 1700]]

hospital. It also appears in the definition of ``remuneration,'' which 
excepts certain payments made by an insurer or self-insured plan to a 
physician to satisfy a claim, and in the definition of a group 
practice. The exceptions for the rental of office space, rental of 
equipment, personal service arrangements, and group practice 
arrangements with a hospital also state that the compensation cannot 
reflect, directly or indirectly, the volume or value of referrals or 
any other business generated between the parties.
    It is our view that Congress intended to except arrangements in 
which a physician or family member receives fair market compensation 
for providing a particular item or service. We believe Congress may not 
have wished to except arrangements that include additional compensation 
for other business dealings. We also believe that it would be 
administratively difficult for us to sort out, from a particular 
business arrangement, different strands of payment that are meant to 
compensate an individual for things other than the items or services 
that qualify for the exception. In sum, we believe that the ``or other 
business generated between the parties'' merely clarifies this concept.
    As a result of this analysis, we are proposing to interpret the 
``volume or value'' standard that appears in the compensation 
exceptions and elsewhere as a standard that uniformly is meant to cover 
(and thus exclude from an exception) other business generated between 
the parties. We are doing so under our authority, in each of the 
compensation exceptions and under the definitions, to add other 
requirements that we may impose by regulation as needed to protect 
against patient and program abuse. If a party's compensation contains 
payment for other business generated between the parties, we would 
expect the parties to separately determine if this extra payment falls 
within one of the exceptions.
    The volume or value standard also varies from exception to 
exception in terms of simply precluding compensation that takes into 
account the volume or value of referrals, as opposed to not taking into 
account, directly or indirectly, the volume or value of referrals. We 
regard these provisions as essentially equivalent, since we believe not 
accounting for referrals can be interpreted as not accounting for them 
in any way.
    We have been asked whether an arrangement fails to meet the 
``volume or value'' of referrals standard only in situations in which a 
physician's payments from an entity fluctuate in a manner that reflects 
referrals. It is our view that an arrangement can also fail to meet 
this standard in some cases when a physician's payments from an entity 
are stable, but predicated, either expressly or otherwise, on the 
physician making referrals to a particular provider. For example, a 
hospital might include as a condition of a physician's employment the 
requirement that the physician refer only within the hospital's own 
network of ancillary service providers, such as to the hospital's own 
home health agency. We believe that in these situations, a physician's 
compensation reflects the volume or value of his or her referrals in 
the sense that the physician will receive no future compensation if he 
or she fails to refer as required.
    However, we do not intend to include, in this interpretation, 
situations in which physicians are not required to refer within the 
entity's network, but choose to on their own. Nor do we believe the 
volume or value standard is violated in those situations in which 
physicians refer patients within a network at the patients' own 
request, rather than under an entity's mandate, even if the entity has 
encouraged patients to remain within the network through various 
incentives.
    In addition, we do not believe that an arrangement affects the 
volume or value standard for any designated health services a physician 
is required to refer within a network, provided the entity itself is, 
through a risk sharing arrangement, at substantial financial risk for 
the cost or utilization of items or services that the entity is 
obligated to provide. In these situations, we believe the requirement 
that a physician refer within the network addresses the issue of where 
a physician must refer, rather than whether the physician is encouraged 
or discouraged from making a referral (resulting in under or 
overutilization).
4. The commercial reasonableness standard
    A number of the compensation-related exceptions in section 1877(e) 
include the requirement that remuneration provided under an agreement 
``would be commercially reasonable'' even if no referrals were made 
between the parties. We are interpreting ``commercially reasonable'' to 
mean that an arrangement appears to be a sensible, prudent business 
agreement, from the perspective of the particular parties involved, 
even in the absence of any potential referrals.
5. The Secretary's authority to create additional requirements
    Several of the statutory exceptions (particularly the compensation-
related exceptions) permit the Secretary to impose additional 
conditions if the conditions are needed to protect against program or 
patient abuse. In promulgating these regulations, the Secretary has 
taken into account the fact that many of the excepted arrangements are 
also subject to the Medicare and Medicaid anti-kickback statute. The 
Secretary believes that the proposed regulatory exceptions, in 
conjunction with the independent requirements of the anti-kickback 
statute, are such that in most cases no additional conditions are 
necessary at this time to protect against program or patient abuse (we 
have included in this proposed regulation several specific new 
requirements that we believe are necessary). However, with respect to 
those exceptions for which the Secretary has authority to impose 
additional requirements, the Secretary invites comments from interested 
parties on whether additional conditions are necessary and if so, what 
conditions would be appropriate.
6. Exception for bona fide employment relationships
    Section 1877(e)(2) excepts from a ``compensation arrangement'' any 
amount paid by an employer to a physician (or immediate family member) 
who has a bona fide employment relationship for the provision of 
services if the employment arrangement meets certain standards (these 
appear in Sec. 411.357(c)). One standard specifies that remuneration 
under the employment cannot be determined in a manner that takes into 
account (directly or indirectly) the volume or value of referrals by 
the referring physician. Nonetheless, this exception specifically 
allows remuneration in the form of a productivity bonus based on 
services performed personally by the physician or an immediate family 
member. Thus, under the terms of the statute, physician or family 
member employees can receive payments based on any work they actually 
personally perform, including designated health services that a 
physician refers to him or herself. Under such a scheme, the more a 
physician self-refers, the more profit he or she will make.
    Because we regard this provision as an open-ended invitation for 
physicians to generate self-referrals for designated health services, 
we are proposing to equalize this provision with the one

[[Page 1701]]

allowing productivity bonuses under the definition of a group practice 
in section 1877(h)(4)(B)(i). This provision allows group practices to 
pay members a productivity bonus only if the bonus is not directly 
related to the volume or value of a physician's own referrals. We are 
equalizing the provisions in this regard under the authority in section 
1877(e)(2)(D), which allows the Secretary to impose by regulation other 
requirements as are needed to protect against patient or program abuse. 
Without this change, we believe that physicians have an incentive to 
overutilize designated health services, since they can be compensated 
directly for every self referral they make.
    We would like to point out that because we have interpreted the 
concept of a ``referral'' to involve only a physician's requests for 
designated health services covered under Medicare or Medicaid, the new 
requirement will in no way affect a physician's ability to receive a 
productivity bonus for any nondesignated health services or noncovered 
services he or she refers or performs, or designated health services 
referred by another physician.
    The bona fide employment exception does not, by its terms, allow 
for indirect compensation based on profit sharing and productivity 
bonuses for a physician's ``incident to'' services. The group practice 
definition does allow for such compensation. We do not believe that we 
can equalize the provisions in this regard, since it is our view that 
there are situations in which compensating a physician even indirectly 
for his or her self referrals could encourage overutilization and 
abuse.
7. Exception for personal services arrangements
    Section 1877(e)(3) excepts from the referral prohibition situations 
involving remuneration from an entity under a personal services 
arrangement if certain criteria are met. The statute does not specify 
to whom the remuneration must be paid or for what kinds of services, 
although we believe the services must be ``personal services.''
    One of the criteria for this exception requires that the 
arrangement cover all of the services to be furnished to the entity by 
the referring physician or an immediate family member of the physician. 
Therefore, we are interpreting this exception as covering services 
furnished by these individuals. We believe there is nothing in the 
statute to preclude a physician or family member from having personal 
services arrangements with several entities. (For example, a physician 
might have a contract to serve as a hospital's medical director and 
another contract with an unrelated group practice to perform surgery.) 
However, the statute does appear to require, in section 
1877(e)(3)(A)(ii), that an excepted arrangement with one entity cover 
all of the services to be provided by the physician (or family member) 
to that entity.
    We are aware that at times it will not be logical for all of a 
physician's or family member's contracts for personal services to be in 
one agreement. However, we are also aware that entities have used 
multiple contracts, at times, in devising schemes to reward physicians 
for their referrals. In order to provide physicians and entities with 
more flexibility than the statutory requirement that all services 
appear in one agreement, we propose to allow multiple agreements, 
provided that the agreements each meet all of the requirements 
described in section 1877(e)(3) and all separate agreements between the 
entity and the physician and the entity and any family members 
incorporate each other by reference. We base our proposal on section 
1877(b)(4), which allows the Secretary to specify, in regulations, an 
exception for any other financial relationship that she determines does 
not pose a risk of patient or program abuse. In this case, because all 
excepted agreements will be subject to the fair market value and other 
standards, and because each agreement will make us aware of all other 
agreements, we see no potential risk for abuse.
    It is our view that ``personal services'' are not simply the 
generic Medicare services (which are defined in Sec. 400.202 to include 
``items'') but are services of any kind performed personally by an 
individual for an entity (but not including any items or equipment). We 
are using the broader, more common notion of what constitutes a 
``service'' based on the fact that all kinds of business relationships 
can trigger the referral prohibition; hence, the exception should be 
read to apply to business-oriented services in general.
    We are also interpreting the exception to mean that the physician 
or family member can actually perform the services, or that these 
individuals can enter into an agreement to provide the services through 
technicians or others whom they employ. A physician or family member 
cannot, though, include equipment or other items as part of an excepted 
personal services arrangement. For example, if a hospital contracts 
with a nephrologist to provide dialysis services to its patients, the 
physician could have a personal services arrangement with the hospital 
even if the dialysis services are actually furnished by technicians 
whom the physician employs. However, if the physician also provides 
dialysis equipment to the hospital, this arrangement would have to 
separately meet the exception for the rental of equipment in section 
1877(e)(1), since we do not regard items or equipment as ``personal 
services.''
    The personal services exception specifies that compensation under 
an arrangement cannot be determined in a manner that takes into account 
the volume or value of any referrals or other business generated 
between the parties. However, this requirement is qualified to allow 
compensation to reflect these under certain situations in which there 
is a physician incentive plan between a physician and an entity. We 
would like to emphasize that the physician incentive plan aspect of 
section 1877(e)(3) applies only in the context of personal services 
arrangements, and not to any other compensation arrangements.
    ``Physician incentive plans'' are defined in section 
1877(e)(3)(B)(ii) as certain compensation arrangements between an 
entity and a physician or physician group. We have defined a physician 
group for purposes of the physician incentive rules more broadly than a 
group practice under section 1877, so that a group practice is a subset 
of physician groups. (A final rule with comment period governing 
physician incentive plans was published on March 27, 1996, at 61 FR 
13430. This rule was amended on December 31, 1996, at 61 FR 69034.)
    A physician incentive plan is any compensation arrangement between 
an entity and a physician or physician group that may directly or 
indirectly have the effect of reducing or limiting services provided 
with respect to individuals enrolled with the entity. We believe that 
the incentive plan qualification applies only when the entity paying 
the physician or physician group is the kind of entity that enrolls its 
patients, such as a health maintenance organization. Section 
1877(b)(3), the exception for prepaid plans, does exempt from the 
referral prohibition almost all designated health services provided by 
these entities to Medicare patients who are enrollees. In addition, 
this regulation proposes to exempt services provided to Medicaid 
patients by analogous kinds of entities (see our discussion of this 
issue earlier in this preamble). Nonetheless, the personal services 
exception, with its physician incentive aspect, is still a viable 
exception. This exception could

[[Page 1702]]

apply, for example, to situations in which a physician refers a fee for 
service patient covered under Medicare to an HMO when he or she also 
has a contract to provide services to the HMO's enrollees. The 
physician's contract with the HMO is an underlying financial 
relationship and, in order for the physician to refer fee-for-service 
patients to the HMO, the financial relationship must meet an exception. 
In order to qualify for the personal services exception, the 
physician's payments from the HMO for treating HMO enrollees cannot 
vary with the volume or value of his or her referrals, except under a 
physician incentive plan, as described in section 1877(e)(3)(B).
    The personal services exception in section 1877(e)(3) as a whole is 
silent about to whom an entity must be paying remuneration or with whom 
it must have an arrangement. As a result, we are interpreting the 
personal services exception to apply to situations in which an entity 
has an arrangement with either an individual physician (or family 
member) or a group practice to provide personal services. For example, 
a hospital could use the exception if it contracts with a group 
practice for purposes of having group members serve as the hospital's 
staff.
8. Exception for remuneration unrelated to the provision of designated 
health services
    Section 1877(e)(4) provides for an exception for remuneration that 
is provided by a hospital to a physician if the remuneration does not 
relate to the provision of designated health services. (As we have 
noted earlier in this preamble, this exception does not apply to 
remuneration from entities other than hospitals, nor does it apply to 
payments to a physician's family members.) We are interpreting this 
provision to except any remuneration that is completely unrelated to 
the furnishing of designated health services. By this we mean that the 
parties must be able to demonstrate that the remuneration does not in 
any direct or indirect way involve these services, and that the 
remuneration in no way reflects the volume or value of a physician's 
referrals for designated health services. If a physician is receiving 
payments from a hospital that appear to be inordinately high for an 
``unrelated'' item or service and is also making referrals to the 
hospital for designated health services, we will presume that the 
overpayments relate to the designated health services because they 
reflect the volume or value of the physician's referrals.
    On the other hand, we realize there can be situations in which a 
hospital's payments are completely unrelated to the provision of 
designated health services. For example, a teaching hospital might pay 
a physician rental payments for his or her house in order to use the 
house as a residence for a visiting faculty member. If the parties 
involved can demonstrate that the rental payments are based on fair 
market value and in no way reflect the physician owner's referrals to 
the hospital, we believe this exception would apply. Similarly a 
physician might receive compensation for teaching or for providing an 
entity with general utilization review or administrative services.
    We do not intend to apply this exception in any situation involving 
remuneration that might have a nexus with the provision of, or 
referrals for, a designated health service. For example, if a hospital 
pays a physician to supply a heart valve that the physician has 
perfected, we believe that the exception does not apply. It is our 
position that the physician is receiving payment for an item that will 
likely be used by the hospital in furnishing inpatient hospital 
services, which are a designated health service. Similarly, if a 
hospital pays for a physician's malpractice insurance or other general 
costs to enable the physician to provide a designated health service, 
such as radiology, the payments are related to furnishing a designated 
health service. Nonetheless, these financial relationships could still 
be excepted under one of the statutory exceptions or under the new 
exception we would include in Sec. 431.357(l), which covers any 
compensation arrangement that meets certain criteria.
9. Exception for a hospital's payments for physician recruitment
    Section 1877(e)(5) includes an exception for remuneration provided 
by a hospital to an individual physician to induce the physician to 
relocate to the geographic area served by the hospital in order to be a 
member of the medical staff of the hospital. We believe that the terms 
of the statute dictate that this exception applies just to those 
situations in which a physician resides outside the geographic area and 
must actually relocate in order to join the hospital's staff.
    We considered a number of ways to define the concept of a 
hospital's ``geographic area,'' including mileage requirements or the 
likelihood that the physician would be able to bring patients along 
when he or she relocates. Because we believe that what constitutes a 
hospital's ``geographic area'' may depend on a variety of 
circumstances, we are specifically soliciting comments on how to define 
this term.
    If a hospital makes recruitment payments to physicians who are 
living in the hospital's geographic area (for example, to retain 
residents) or to a group practice that intends to employ the physician 
and contracts with the hospital, these payments might be excepted under 
the new compensation-related exception that we have included in 
Sec. 431.357(l).
10. Exception for certain group practice arrangements with a hospital
    Under section 1877(e)(7), this exception applies to only a limited 
number of arrangements; that is, arrangements that began before 
December 19, 1989, and have continued in effect without interruption 
since that date. We are interpreting this provision to mean that the 
arrangement between the hospital and the specific group practice must 
have been in effect within the timeframe specified in the statute. 
However, we realize that most agreements do not remain static over 
time. As a result, it is our view that this criterion may still be met, 
even if the agreement between the parties has changed over time so that 
it covers different services or so that the services are provided by 
different individuals within the same group practice.
    We also intend in this provision to make an editorial change that 
we believe removes an ambiguity in the statutory language. Existing 
Sec. 411.357(h)(2) states ``[t]he arrangement began before December 19, 
1989, and has continued in effect without interruption since then.'' 
Upon closer consideration, we believe that ``since then'' is ambiguous. 
(Does it mean since the actual date before December 19, 1989 on which 
the arrangement began, or does it mean since December 19, 1989?) We 
believe that by revising this provision to read ``[t]he arrangement 
began before, and has continued in effect without interruption since, 
December 19, 1989,'' we have provided a reasonable interpretation that 
removes this ambiguity.
    Section 1877(e)(7)(A)(ii) requires that, with respect to the 
designated health services covered under the arrangement, substantially 
all of the services furnished to patients of the hospital are furnished 
by the group under the arrangement. We believe this standard means that 
whatever portion of a particular designated health service the 
agreement covers, the group must actually provide ``substantially all'' 
of that portion. For example, if the group

[[Page 1703]]

has agreed to provide 35 percent of a hospital's laboratory services, 
the group must actually provide a substantial part of this percentage.
    In keeping with our interpretation of the term ``substantially 
all'' in other parts of section 1877, we are interpreting that term 
here as being 75 percent of all the services at issue.
11. Exception for payments by a physician for items and services
    Section 1877(e)(8) excepts payments that a physician makes to a 
laboratory in exchange for clinical laboratory services (we have 
discussed this provision in some detail in section III.A.8 of this 
preamble). In addition, the statute excepts payments that a physician 
makes to any entity for other items or services if these are furnished 
at fair market value. We are proposing to interpret ``other items or 
services'' to mean any kinds of items or services that a physician 
might purchase, but not including clinical laboratory services or those 
specifically listed under the other compensation exceptions. For 
example, we do not believe that Congress meant for the ``items or 
services'' exception to cover a rental agreement as a service that a 
physician might purchase, when it has already included in the statute a 
specific rental exception, with specific standards, in section 
1877(e)(1).

F. The Reporting Requirements

1. Which financial relationships must be reported
    Under section 1877(f), each entity providing Medicare-covered 
services must provide the Secretary with information concerning the 
entity's ownership, investment, and compensation arrangements, 
including the names and UPINs (unique physician identification numbers) 
of all physicians with an ownership or investment interest (as 
described in section 1877(a)(2)(A)) in the entity or with a 
compensation arrangement (as described in section 1877(a)(2)(B)) with 
the entity, or whose immediate relatives have such a relationship. The 
information must be provided in such form, manner, and at such times as 
the Secretary specifies.
    Section 411.361 currently states that entities must submit the 
required information on a HCFA-prescribed form within the time period 
specified by the servicing carrier or intermediary. Entities are given 
at least 30 days from the date of the request to provide the 
information. Thereafter, entities must provide updated information 
within 60 days from the date of any change in the submitted 
information.
    At this time, we are still developing a procedure for implementing 
the reporting requirements and plan to notify affected parties about 
the procedure at a later date. Until that time, physicians and entities 
are not required to report to us. In addition, we are aware that the 60 
day timeframe for updated information could be onerous, especially for 
large entities that must collect information about their employees, 
owners, and contractors and who would then have to update that 
information approximately every two months. As a result, we are 
proposing to modify Sec. 411.361 to require that entities report to us 
once a year on all of the changes that have occurred in the previous 12 
months.
    Under the reporting regulation in Sec. 411.361(d), a ``reportable 
financial relationship'' is any ownership or investment interest or any 
compensation arrangement, as described in section 1877 of the Act. 
Under section 1877(a)(2), a financial relationship of a physician (or 
family member) with an entity is defined as an ownership or investment 
interest in the entity, except as provided in subsections (c) and (d), 
or a compensation arrangement between the physician (or family member) 
and the entity, except as provided in subsection (e). Subsections (c) 
and (d) contain lists of ownership interests that ``shall not be 
considered to be an ownership or investment interest described in 
subsection (a)(2)(A).'' Subsection (e) contains a list of arrangements 
that are not to be considered as ``compensation arrangements described 
in (a)(2)(B).'' Thus, entities must only report their ownership or 
investment interests, or compensation arrangements, if these 
relationships do not meet the exceptions in subsections (c), (d), or 
(e) of section 1877. However, if an entity's financial relationship is 
excepted under subsection (b) of section 1877 (which contains 
exceptions for physician services, in-office ancillary services, 
services furnished under certain prepaid plans, or other new exceptions 
included by the Secretary) the entity must still report.
    As the rule reads now, an entity can decide that it is excepted 
under (c), (d), or (e) and not report any data. As a result, we will 
have no opportunity to scrutinize the entity's arrangements to see if 
its assessment is correct. We believe that the statute allows us to 
gather a broader scope of data. We base this interpretation on the 
opening paragraph in section 1877(f), which states that each entity 
providing any covered items or services for which payment may be made 
under Medicare shall provide the Secretary ``with the information'' 
concerning the entity's ownership, investment, and compensation 
arrangements, including the names and UPINs of all physicians with an 
ownership interest (as described in (a)(2)(A)), or with a compensation 
arrangement (as described in (a)(2)(B)). Thus, we believe the statute 
allows us to gather any data on financial relationships, including,  
but not necessarily limited to, relationships for which there are no 
exceptions under (a)(2)(A) or (B). Therefore, we are proposing to amend 
the rule, at Sec. 411.361(d), to reflect our authority to ask for a 
broader scope of information than the regulation currently allows.
    A number of entities have pointed out to us that the amounts of 
data they are required to report under the statute will, in some 
circumstances, be overwhelming and perhaps almost impossible to 
acquire. In addition, if we require every entity that is subject to the 
referral rules to report on every financial relationship, excepted or 
not, the administrative burden could be enormous. For example, a large 
publicly-held enterprise would be required to report (and hence retain 
records documenting) all of its owners who are physicians, all owners 
who are relatives of physicians, all physicians with whom it has 
compensation arrangements of any kind, and all relatives of physicians 
with whom it has compensation arrangements.
    A publicly traded corporation with thousands of stockholders may 
find it extremely difficult to identify all of its owners and their 
relatives, and to identify which of these owners and relatives are 
physicians. In addition, such a corporation could be owned by mutual 
funds which in turn have hundreds of thousands of additional owners, 
some of whom may be physicians or have relatives who are physicians. In 
order to make the reporting requirements more manageable, we intend to 
develop a streamlined ``reporting'' system that does not require 
entities to retain and submit large quantities of data. However, we 
believe that entities should retain enough records to demonstrate, in 
the event of an audit, that they have correctly determined that 
particular relationships are excepted under the law.
    We are proposing to limit the information that an entity must 
acquire, retain and, at some later point, possibly submit to us. We 
would include only those records covering information that the entity 
knows or should know about, in the course of prudently conducting 
business, including records that the

[[Page 1704]]

entity is already required to retain to meet Internal Revenue Service 
and Securities and Exchange Commission rules, and other rules under the 
Medicare or Medicaid programs. We are circumscribing these records 
under the Secretary's discretion in section 1877(f) to ask entities to 
provide information in such form, manner, and at such times as the 
Secretary specifies. When we develop a form for reporting information 
to us, we plan to first publish it as a proposed notice in order to 
receive public comment. If we later find that this plan is inadequate 
and elect to change the scope of the requirement, we will provide 
entities with adequate notice to comply. We specifically solicit 
comments on this proposal.
2. What entities outside the United States must report
    Section 1877(f) states that the reporting requirements do not apply 
to designated health services furnished outside the United States. The 
reporting requirements in general apply to each entity furnishing 
services covered under Medicare, and not just to those furnishing 
designated health services. Arguably, then, the statute relieves an 
entity from the reporting requirements involved when it furnishes 
designated health services, but not when it furnishes other covered 
services. Because we believe that referrals for designated health 
services are the focus of section 1877, and because Medicare covers 
only a limited number of services when they are furnished outside of 
the United States, we are interpreting section 1877(f) to relieve an 
entity from reporting any Medicare services it has furnished outside of 
the United States.

G. How the Referral Prohibition Applies to the Medicaid Program

1. Who qualifies as a ``physician'' for purposes of section 1903(s)
    Under the Medicare definition of ``physician'' in section 1861(r), 
paragraphs (r)(1) through (r)(5) cover a doctor of medicine or 
osteopathy, a doctor of dental surgery or of dental medicine, a doctor 
of podiatric medicine, a doctor of optometry, and a chiropractor. Under 
the Medicaid statute in section 1905(a)(5)(A), physician services are 
those furnished by a physician as defined in section 1861(r)(1), which 
covers only a doctor of medicine or osteopathy.
    In determining whether an individual is a ``physician'' for 
purposes of section 1903(s), we believe that it is the Medicare 
definition that would apply. That is because this provision prohibits 
the Secretary from paying FFP to a State for services that result from 
a referral for a designated health service that would be prohibited 
under Medicare if Medicare covered the service in the same way (to the 
same extent and under the same terms and conditions) as under the State 
plan. A referral by any of the ``physicians'' listed in section 1861(r) 
could result in a prohibited referral under Medicare.
    We believe that a physician is still a physician for purposes of 
section 1903(s), even if he or she does not participate in the Medicaid 
program. For example, a provider of designated health services may 
participate in and bill Medicaid when the referring physician, who has 
an interest in the entity, does not participate. The rules in section 
1877 apply to services furnished under Medicaid in the same manner as 
they would apply if furnished under Medicare. As a general rule under 
section 1877(a)(1), if a physician (or immediate family member) has a 
financial relationship with an entity, then the physician may not make 
a referral to the entity to furnish designated health services for 
which payment may otherwise be made under Medicare. This provision 
appears to apply to all physicians, regardless of whether they 
participate in either the Medicare or Medicaid programs, as long as the 
services involved are covered services under Medicare or Medicaid.
2. How the referral prohibition and sanctions affect Medicaid providers
    Absent an exception, section 1877(a)(1) in general prohibits a 
physician from making a referral to an entity with which he or she has 
a financial relationship for the furnishing of a designated health 
service covered under Medicare. The entity, in turn, may not present a 
claim to Medicare or bill any other individual or entity for the 
service furnished as the result of a prohibited referral. If physicians 
or entities violate these rules, they are subject to certain sanctions 
under section 1877(g). However, we do not believe these rules and 
sanctions apply to physicians and providers when the referral involves 
Medicaid services. The first part of section 1903(s) prohibits the 
Secretary from paying FFP to a State for designated health services 
furnished on the basis of a referral that would result in a denial of 
payment under Medicare if Medicare covered the services in the same way 
as the State plan. This part of the provision is strictly an FFP 
provision. It imposes a requirement on the Secretary to review a 
Medicaid claim, as if it were under Medicare, and deny FFP if a 
referral would result in the denial of payment under Medicare. Section 
1903(s) does not, for the most part, make the provisions in section 
1877 that govern the actions of Medicare physicians and providers of 
designated health services apply directly to Medicaid physicians and 
providers. As such, these individuals and entities are not precluded 
from referring Medicaid patients or from billing for designated health 
services. A State may pay for these services, but cannot receive FFP 
for them. However, States are free to establish their own sanctions for 
situations in which physicians refer to related entities.
3. How the referral rules apply when Medicaid-covered designated health 
services differ from the services covered under Medicare
    The statute specifically provides that a State cannot receive FFP 
for a designated health service if it is furnished to an individual on 
the basis of a referral that would result in a denial of payment for 
the service under Medicare if Medicare covered the services to the same 
extent and under the same terms and conditions as under the State plan. 
We believe this means that Congress was aware of differences in the two 
programs and specifically intended to cover under section 1877 
designated health services as they are covered under a State's Medicaid 
plan whenever this coverage differs from coverage under Medicare.
4. How the reporting requirements apply under the Medicaid program
    Section 1903(s) states that subsections (f) and (g)(5) of section 
1877 shall apply to a provider of Medicaid-covered designated health 
services in the same manner as these subsections apply to a provider of 
Medicare-covered designated health services. Section 1877(f) requires 
that each entity providing Medicare-covered items or services must 
provide the Secretary with certain information about the entity's 
ownership, investment, and compensation arrangements. The information 
must include the covered items and services the entity provides, and 
the names and UPINs of all physicians who have (or whose immediate 
relatives have) an ownership or investment interest in or compensation 
arrangement with the entity. These requirements do not apply to 
designated health services furnished outside of the United States, or 
to entities the Secretary determines furnish Medicare-covered services 
infrequently.
    Section 1903(s) could be read to mean that section 1877(f) must 
apply identically to Medicare and Medicaid providers, so that Medicaid 
entities

[[Page 1705]]

must furnish information to the Secretary (that is, to HCFA). However, 
we are taking the position that the provision allows us to require that 
entities report directly to the States. Section 1903(s) provides that 
section 1877(f) applies ``in the same manner'' in the Medicaid program 
as it does in Medicare. In Medicare, the reports are made to the 
Secretary, the official who is responsible for making payment under 
Medicare. ``In the same manner,'' in the context of the Medicaid 
program, would mean that the reports would be made to the entity that 
makes payment; that is, the State, thus maintaining a symmetry between 
reporting in the two programs.
    We have taken this position because, under section 1903(s), it is 
the States that are at risk of losing FFP for paying improper claims 
for designated health services submitted by entities that have 
financial relationships with physicians. Therefore, in order to ensure 
that FFP will be available, States must determine whether a physician 
has a financial relationship with an entity that would prohibit 
referrals under Medicare. Our interpretation will allow States to 
protect themselves and to avoid any duplication of effort with HCFA.
    We are amending the regulations to create a new Subpart C, 
``Disclosure of Information by Providers for Purposes of the 
Prohibition on Certain Physician Referrals.'' In Sec. 455.108, 
``Basis,'' we state that, based on section 1903(s), we are applying the 
reporting requirements of section 1877(f) and (g) to Medicaid providers 
of designated health services. Section 455.109(a) would state that the 
Medicaid agency must require that each entity that furnishes designated 
health services submit information to the Medicaid agency concerning 
its financial relationships, in such form, manner, and at such times as 
the agency specifies. Although the statute requires that entities 
submit information to the Secretary, we believe that the State should 
receive this information in the Medicaid context, in order to help 
States ensure that they will receive FFP.
    Section 455.109(b) would specify that the requirements of 
Sec. 455.109(a) do not apply to entities that provide 20 or fewer 
designated health services under the State plan during a calendar year, 
or to any entity for items or services provided outside the United 
States. We have derived the limit of 20 or fewer designated health 
services from the Medicare regulation interpreting section 1877(f) 
(Sec. 411.361).
    Section 455.109(c) would specify that the information submitted to 
the Medicaid agency under Sec. 455.109(a) must include at least the 
following:
     The name and Medicaid State Specific Identifier (MSSI) of 
each physician who has a financial relationship with the entity that 
provides services.
     The name and MSSI of each physician who has an immediate 
relative (as defined in Sec. 411.351) who has a financial relationship 
with the entity.
     The covered items and services furnished by the entity.
     With respect to each physician identified above, the 
nature of the financial relationship (including the extent and/or value 
of the ownership or investment interest or the compensation 
arrangement), if requested by the Medicaid agency.
    Section 455.109(d) would define a reportable financial relationship 
as an ownership or investment interest or any compensation arrangement, 
as defined in Sec. 411.351, including relationships that qualify for an 
exception described in Secs. 411.355 through 411.357.
    Section 455.109(e) would specify that--
     Entities that are subject to the reporting requirements 
must submit the required information on a prescribed form within the 
time period specified by the Medicaid agency. Similarly, entities must 
report to the Medicaid agency all changes in the submitted information 
within a timeframe specified by the State. We believe that States have 
the discretion to determine these deadlines in line with 
Sec. 455.109(a), which requires that the Medicaid agency gather 
information on financial relationships in such form, manner, and at 
such times as the agency specifies.
     Entities must retain documentation sufficient to verify 
the information provided on the forms and, upon request, must make that 
documentation available to the Medicaid State agency, HCFA, or the OIG.
    Section 455.109(f) would reflect section 1877(g)(5), specifying 
that any entity that is required, but has failed, to meet the reporting 
requirements of Sec. 455.109(a), is subject to a civil money penalty of 
not more than $10,000 for each day of the period beginning on the day 
following the applicable deadline until the information is submitted. 
It would further specify that assessment of the penalty will comply 
with the applicable provisions of 42 CFR part 1003.

IV. Our Responses to Questions About the Law

    In this section of the preamble, we have included some of the most 
common questions concerning physician referrals that we have received 
from physicians, providers, and others in the health care community. 
(Note that, in this section, we are using the term ``provider'' in the 
generic sense to include all providers of health care services. That 
is, we are not using the term with the special meaning given in our 
regulations at Sec. 400.202.) We summarize these questions below and 
present our interpretation of how we believe the law applies in the 
situations that have been described to us. We have organized this 
section so that the issues raised by the questions appear in the order 
in which they appear in the regulation.

A. Definitions

1. Compensation Arrangement
    What is an ``indirect'' compensation arrangement? We defined a 
``compensation arrangement'' in the August 1995 final rule, in line 
with the statute, as any arrangement involving any remuneration, direct 
or indirect, between a physician (or family member) and an entity. This 
means that a compensation arrangement can result when remuneration 
flows from an entity to a physician or family member, or from a 
physician or family member to an entity. We have received a number of 
inquiries on what constitutes an ``indirect'' compensation arrangement. 
We believe that a physician or family member can receive compensation 
from an entity, even if the payment is ``funneled through'' a business 
or other entity or association and even if the payment changes form 
before the physician actually receives it.
    For example, suppose that a hospital has contracted with a group 
practice for the group to furnish physician services and to otherwise 
staff the hospital. The hospital pays the group practice, which might 
be a professional corporation or a similar association or entity, for 
the physician services under a personal services arrangement, rather 
than directly compensating the individual physicians. The group 
practice, in turn, pays the individual physicians a salary that in some 
way reflects the hospital's payments.
    It is our position that, in such a scenario, each physician has 
been indirectly compensated by the hospital for his or her own 
services. As a result, the physicians have a compensation arrangement 
with the hospital. In the absence of an exception, the physicians would 
be prohibited from referring to the hospital for the furnishing of 
designated health services.
    We believe that a physician has received indirect compensation 
whether the ``intervening'' professional

[[Page 1706]]

association, corporation, or other entity directly receiving payment is 
a group practice or any other type of physician or nonphysician owned 
entity. We also believe a physician can receive indirect compensation 
through a nonprofit enterprise if that enterprise is controlled by an 
individual who is in a position to influence the physician's referrals. 
For example, the owner of a clinical laboratory who also serves as the 
director of a nonprofit research facility could provide a physician 
with research grants in exchange for referrals to the laboratory. We 
are considering regarding as indirect compensation any payment to a 
physician that passes from an entity that provides for the furnishing 
of designated health services, no matter how many intervening 
``levels'' the payment passes through or how often it changes form. We 
directly solicit comments on this approach.
    We would also like to reiterate a point that we made in the 
preamble to the August 1995 final rule. Just because a hospital or 
similar entity is affiliated with a physician or group of physicians 
does not automatically mean that the hospital or similar entity is 
compensating the physicians. Physicians and entities can have joint 
ventures and similar relationships in which the hospital or similar 
entity and the physicians share profits, but do not compensate each 
other.
    Which exceptions apply in indirect situations? We have also 
received questions about which exception applies when an indirect 
payment changes form. For example, in the situation described above, a 
hospital makes payments to a group practice under a personal services 
arrangement. The group practice, in turn, passes the payments on in the 
form of salary payments to its physician employees. We believe that the 
compensation at issue involves a personal services arrangement between 
the hospital and the group practice (see the discussion in III.E.6 of 
this preamble about personal services arrangements between entities and 
group practices, rather than between entities and individual 
physicians).
    We are interpreting the statute to focus on the payment the entity 
furnishing designated health services initially makes to determine the 
appropriate exception. In this case, the hospital is making a payment 
under a personal services arrangement, and is not in any way making a 
salary payment to its own employees. Thus, we believe the physicians 
could make referrals to the hospital if the group practice's personal 
services arrangement with the hospital meets the criteria under the 
personal services exception.
    It is our view that the salary payment from the group practice to 
its physician employees is a payment separate from the remuneration 
flowing indirectly from the hospital to the physicians. As a result, 
this payment, as a payment from the group practice, should itself have 
no additional effect on a physician's ability to refer to the hospital. 
(The nature of the payment might, however, affect whether the 
physicians qualify as a group practice. See the discussion in section 
III.A.6 of this preamble covering the characteristics of a group 
practice.)
2. Entity
    What are the characteristics of an ``entity'' that provides for the 
furnishing of designated health services? We have received a number of 
questions about what constitutes an ``entity'' involved in the 
furnishing of designated health services and who owns that entity. For 
example, a group of individuals asked us whether they own a hospital 
based solely on the fact that they own the building that houses the 
hospital. We believe that an ``entity'' for purposes of section 1877 is 
the business, organization, or other association that actually 
furnishes, or provides for the furnishing of, a service to a Medicare 
or Medicaid patient and bills for that service (or receives payment for 
the service from the billing entity as part of an ``under 
arrangements'' or similar agreement).
    An ``entity,'' therefore, does not include any person, business, or 
other organization or association that owns the components of the 
operation--such as owning the building that houses the entity or the 
equipment the entity uses--without owning the operation itself. For 
example, a physician might own and operate an MRI machine in his or her 
office. If this physician enters into a lease arrangement for the use 
of the MRI machine every Tuesday by the physician down the hall, who 
bills for the services, we believe that the physician down the hall is 
the entity providing MRI services to his or her patients on Tuesday. 
This physician could refer patients for MRI services if he or she 
qualifies for an exception, such as the in-office ancillary services 
exception.
    When is an entity furnishing, or providing for the furnishing of, 
designated health services? Section 1877(a)(1)(A) prohibits a physician 
from making a referral to an entity ``for the furnishing of designated 
health services'' if the physician or a family member has a financial 
relationship with that entity. The health care community has expressed 
some confusion about when an entity is one involved in the ``furnishing 
of'' designated health services.
    We have, for example, received questions about which entities are 
the relevant ones when some entities only bill for services, while 
others actually directly ``furnish'' the services. For example in an 
``under arrangements'' situation, a hospital, rural primary care 
hospital, skilled nursing facility (SNF), home health agency, or 
hospice program contracts with a separate provider to furnish services 
to the hospital's, SNF's, or other contracting entity's patients, for 
which the hospital, SNF or other contracting entity ultimately bills.
    The statutory provisions that mention ``under arrangements'' draw a 
distinction between services that are actually furnished by the 
hospital or SNF and those that are actually furnished by the separate, 
outside entity. (Under section 1861(w)(1), HCFA's payment to the 
hospital, SNF, or other contracting entity discharges the beneficiary's 
liability. ``Under arrangements'' situations are further referenced in 
sections 1861(b)(3) and 1862(a)(14).) We are aware that there are 
comparable agreements in the community between entities other than 
hospitals, SNFs, and the other contracting entities listed above, such 
as agreements between group practices that furnish services to HMO 
patients, with the HMO billing for the services.
    We believe that, absent an exception, the referral prohibition 
applies to a physician's referrals to any entity that directly 
furnishes designated health services to Medicare or Medicaid patients. 
We believe the prohibition also applies to referrals to any entities 
that arrange ``for the furnishing of'' these services to Medicare or 
Medicaid patients by contracting with other providers, whenever it is 
the arranging entity that bills for the services.
    This interpretation is consistent with the intent of the statute. 
Congress intended, in enacting section 1877, to prohibit referrals in 
situations in which a physician has a financial incentive to 
overutilize the various designated health services and to steer 
patients toward certain providers of these services. For example, a 
physician might routinely refer patients to a SNF in which he has a 
financial interest and prescribe occupational therapy (OT) services. 
The SNF, in turn, might contract with a separate, unrelated entity to 
furnish SNF patients with the OT, for which the SNF bills. Even if the 
physician has no relationship with the separate OT provider, he does 
have a

[[Page 1707]]

financial relationship with the SNF that is providing for ``the 
furnishing of'' OT to referred patients. As a result, the physician can 
potentially profit from each referral he or she makes for OT, even if 
the SNF must first purchase those services from an outside source 
before passing on the cost to its patients.
    If, however, the unrelated OT entity itself bills for the services 
under Part B, so that the SNF only helps to make these services 
available to its patients, our conclusion would be different. In this 
situation, we do not believe that the physician has a financial 
incentive to overutilize OT services. As a result, we would not regard 
the SNF as an entity involved in ``the furnishing of'' a designated 
health service.
    We also believe that a physician can have an incentive to 
overutilize services if he or she has a financial relationship with the 
entity that directly furnishes designated health services, even if this 
is not the entity ultimately billing for the services. In these 
situations, the physician can potentially recognize a profit from each 
referral based on the fact that the designated health services will, in 
essence, be sold to the entity that bills.
    For example, a physician who is a member of a group practice might 
work in a hospital as a staff physician and refer patients to the 
group's own outside laboratory in which the physician has an ownership 
interest. The laboratory, in turn, furnishes services to hospital 
patients under arrangements. The hospital will therefore be billing 
Medicare for laboratory services furnished by the physician's own 
laboratory. In this case, the physician is in a position to influence 
how many services the laboratory will be able to ``sell'' to the 
hospital. Thus, the physician should be prohibited from making these 
referrals, unless one of the exceptions applies.
    We believe our policy of including entities that contract for 
services as those that provide for ``the furnishing of'' designated 
health services is consistent with the structure of section 1877 and 
the way the exceptions are drafted. For example, under section 
1877(b)(3), services are excepted if furnished by an organization that 
functions under a prepaid plan, such as an HMO. It is our understanding 
that such services are very often made available in a manner that is 
comparable to ``under arrangements'' situations; that is, the prepaid 
organization contracts with a broad range of independent suppliers and 
providers to furnish services to its enrollees. This exception makes no 
distinction between services that are furnished directly by the HMO and 
those that are furnished under contract by outside providers: all such 
services appear to be considered as furnished by the HMO, and would be 
excepted.
    Similarly, section 1877(d)(3) excepts certain ``designated health 
services provided by a hospital,'' but makes no distinctions between 
services the hospital itself furnishes and those furnished by the 
hospital under arrangements.
3. Financial Relationship
    How do equity and debt qualify as ownership? The statute states 
that an ownership interest can be through equity or debt. We have 
received a number of inquiries about what this provision means and what 
kinds of debt situations constitute a form of ownership. We believe 
that ``ownership through equity'' refers to a direct ownership interest 
that does not involve debt; for example, one in which the physician or 
family member has actually purchased assets of a business entity with 
cash or other property. This interest could be in the form of stock in 
a publicly-held entity or an investment (such as a capital 
contribution) in a partnership.
    We believe that a physician or family member holds an ownership 
interest in an entity ``through debt'' anytime the physician or family 
member has lent money or given other valuable consideration to the 
entity and the debt is secured (in whole or in part) by the entity or 
by the entity's assets or property. For example, the physician could 
hold such an interest by providing the entity with a note, a mortgage 
or by purchasing bonds. This interpretation is consistent with the 
definition of an ownership or control interest in section 1124(a)(3) of 
the Act, which governs which suppliers and providers must disclose 
these interests to us for purposes other than the referral prohibition. 
Section 1124(a)(3)(A)(ii) defines a person with an ownership or control 
interest as a person who is the owner of a whole or part interest in 
any mortgage, deed of trust, note, or other obligation secured (in 
whole or in part) by the entity or any of the entity's property or 
assets, if the interest is worth a certain amount.
    We also believe that ownership through debt can exist in any other 
debtor-creditor relationships that have some indicia of ownership. For 
example, such indicia could include the creditor's participation in 
revenue or profits, subordinated payment terms, low or no interest 
terms, or ownership of convertible debentures (bonds that a physician 
or family member can convert into the common stock of the issuer or an 
affiliate until the convertible feature expires).
    However, if a physician or family member has made an unsecured or 
nonconvertible loan to an entity, or a loan with no other indicia of 
ownership, we do not believe the loan is an ownership interest. The 
loan would likely qualify as a compensation arrangement, to which an 
exception might apply.
    We do not believe that a physician or family member has ``ownership 
through debt'' when either of them has received a loan from an entity. 
In ordinary business transactions, when a debtor receives a loan, this 
transaction in no way establishes for the debtor an ownership interest 
in the creditor. We also assume that in providing the loan, the 
creditor entity has provided remuneration to the physician or family 
member, resulting in a compensation arrangement. This kind of 
compensation arrangement could meet one of the exceptions to the 
prohibition. For example, the loan might be one form of payment an 
entity makes to a physician to recruit the physician or as part of the 
physician's employment contract. The loan would be an excepted 
arrangement if it met the fair market value and other standards in 
these exceptions.
    Is membership in a nonprofit corporation an ownership or investment 
interest? We have received a number of inquiries concerning whether 
membership in a nonprofit corporation constitutes an ownership or 
investment interest in that corporation. (We are assuming that a 
``member'' is someone who establishes, sponsors, directs, or controls a 
nonprofit corporation.) Most nonprofit health care corporations that 
are exempt from Federal income taxation are exempt under section 
501(c)(3) or (4) of the Internal Revenue Code. These provisions state 
that the net earnings of such a corporation cannot inure to the benefit 
of any private shareholder or individual. Therefore, while members of 
such a nonprofit corporation may exercise control over the activities 
of the corporation, they do not have the pecuniary incentive that for-
profit investors have to enhance their investment interests. As such, 
we do not regard being a member of these kinds of nonprofit 
corporations as an ownership or investment interest analogous to being 
a shareholder in a for-profit corporation. However, any remuneration 
that the physician or family member receives from the corporation, such 
as a salary, would be compensation and must meet an exception.

[[Page 1708]]

    Do stock options and nonvested interests constitute ownership? We 
have been asked whether a physician or family member has an ownership 
interest in an entity if he or she receives an option to purchase the 
stock of the entity or an affiliate, such as when an employee has a 
stock option that constitutes part of his or her pay. We have also 
received questions about retirement funds or similar options that do 
not vest until a future date. For example, a physician might hold an 
option to purchase stock at a particular price, but not be able to 
exercise that option until he or she retires. Similarly, a physician 
might be entitled to certain retirement funds only after he or she has 
retired after having worked a specified number of years.
    The statute defines an ownership interest in section 1877(a)(2) as 
an interest held through equity, debt, or other means. It is our view 
that options and nonvested interests are inchoate or partial ownership 
interests that qualify as ``ownership'' for purposes of this law. We 
base our interpretation on the fact that a physician has a tremendous 
incentive to refer to an entity in which he or she is invested, whether 
the interest is a present or future one. For example, if a physician 
has an option to buy stock at a certain price in a clinical laboratory, 
the physician will have an interest in generating business for the 
entity in order to enhance the value of that stock.
4. Group practice
    What is the ``full range of services'' test? One of the criteria in 
the statutory definition of a group practice is that each member must 
furnish substantially the full range of services that the physician 
routinely furnishes, including medical care, consultation, diagnosis, 
and treatment through the joint use of shared office space, facilities, 
equipment, and personnel. We have been asked about the meaning and 
purpose of this provision, and how it will affect a physician's normal 
practice patterns. only token tasks, for the group. It is our view that 
this standard should not alter a physician's ordinary schedule or 
practice habits. For example, one physician described himself as having 
two specialty areas, which resulted in his providing dermatology 
services to one group one day a week, and another kind of service to 
another group on a different day. We believe that different kinds of 
services such as these on different days can reflect a physician's 
normal ``routine of services.'' That is, a physician can furnish one 
type of service that is that physician's ``full range of services'' on 
a particular day, as long as the physician is legitimately practicing 
medicine for the group practice on that day.
5. Immediate family member or member of a physician's immediate family
    How does the prohibition affect a physician's referrals to 
immediate family members? The referral prohibition in section 1877(a) 
states that if a physician, or immediate family member, has a financial 
relationship with an entity, the physician cannot refer a Medicare 
patient to that entity for the furnishing of designated health 
services, unless an exception applies. In Sec. 411.351 of the August 
1995 final rule, we listed the individuals who qualify as a physician's 
``immediate'' family members. These individuals include, among others, 
spouses and children of a referring physician.
    We have received a number of inquiries from physicians about 
whether the statute precludes a physician from referring patients to a 
family member to receive designated health services, if the referring 
physician has no financial relationship with the entity furnishing the 
services. We believe the answer to this question depends upon the 
nature of the family member's financial relationship with the 
furnishing entity.
    If a family member has a compensation arrangement with the entity 
furnishing the designated health services, the physician cannot refer 
to the entity, unless the arrangement meets one of the exceptions under 
the statute. For example, a physician might wish to refer a patient to 
her husband for occupational therapy services. The husband furnishes OT 
services as an employee of an occupational therapy facility. The 
husband, who is an immediate family member of the referring physician, 
has a compensation arrangement with an entity that furnishes a 
designated health service (the OT facility pays him a salary). However, 
the referral would be acceptable if the arrangement meets the 
requirements in section 1877(e)(2), which excepts bona fide employment 
relationships between employers and physicians or immediate family 
members if the relationship meets fair market value and other 
standards.
    The situation is similar if a physician refers a patient to an 
immediate family member who has an ownership or investment interest in 
the facility that furnishes the designated health services. For 
example, the physician may wish to refer a patient to his wife, who is 
a solo practicing physician who herself furnishes OT. If the wife owns 
the practice, she would have a financial relationship with the entity 
that furnishes the designated health services. The husband's referral 
would not be prohibited if the wife's relationship qualifies for one of 
the exceptions under the statute. For example, the wife's practice 
might qualify as a rural entity, the ownership of which is excepted 
under section 1877(d)(2) of the Act. However, if an exception does not 
apply, the referring physician would be precluded from referring to his 
spouse.
    Physicians have also asked us whether the in-office ancillary 
services exception in section 1877(b)(2) applies to those situations in 
which a physician refers a patient to an immediate family member who 
furnishes designated health services outside of the referring 
physician's practice. The ancillary services exception applies when a 
physician refers a patient for a service that the referring physician 
either will personally perform or directly supervise, or that will be 
personally performed or directly supervised by another member of the 
referring physician's group practice. As a result, referring physicians 
can refer patients to and among themselves, within their own practices, 
if they meet the section 1877(b)(2) requirements. However, the 
exception does not apply when physicians refer to their spouses or to 
other close relatives who furnish services outside of the practice.
    In creating the in-office ancillary services exception, we believe 
that Congress made a policy decision not to restrict certain referrals 
that occur within the confines of one practice. We are not aware of any 
rationale for extending this ``single practice'' exception to any 
outside entities, whether or not those entities have a financial 
relationship with an immediate family member.
    We would also like to point out that a physician may send a patient 
to an immediate relative without actually ``referring'' that patient 
for a designated health service. A referral is defined in section 1877 
for purposes of Part B services as, with an exception for certain 
specialized services, the request by a physician for an item or 
service, including the request for a consultation with another 
physician (including any test or procedure ordered by, or to be 
performed by (or under the supervision of) that other physician). We 
have interpreted this provision in section III.A.7 of this preamble to 
apply to just requests by the physician for designated health services 
covered under Part B, rather than any Part B item or service. For other 
kinds of items and services, a referral is, with an exception for 
certain specialized services, the request or establishment of a plan of 
care by a

[[Page 1709]]

physician, which includes the provision of a designated health service.
    We believe a referral would be acceptable where the referral is not 
for a designated health service. For example, a physician who is a 
general practitioner might believe that a patient has a neurological 
problem, but be unsure of a diagnosis. This physician could refer the 
patient to his or her neurologist spouse, if the referral is not a 
``consultation'' (see our discussion of ``consultations'' in section 
III.A.7 of this preamble). That is because the referring physician has 
not requested a designated health service or established a plan of care 
including one, nor has he or she requested a consultation. We believe 
the referral, in this case, is for physician services, which are 
generally not designated health services. If the spouse, in turn, 
determines that the patient requires an MRI, the spouse would be the 
one making the referral for this designated health service.
    If one member of a group practice cannot make a referral to an 
entity, are all other group practice physicians also precluded? Group 
practices have informed us that they are concerned about the definition 
of a ``referring physician'' in Sec. 411.351, and how it affects a 
group when one member is precluded from referring to a particular 
entity that furnishes designated health services. In particular, 
several groups wondered whether having a physician member whose 
immediate relative has an unexcepted ownership interest in an entity 
would preclude all group practice members from referring to that 
entity. Groups believe that the preamble to the final rule covering 
referrals to clinical laboratories implied that the referral 
prohibition would be imputed to all physician members.
    Section 411.351 defines a ``referring physician'' as a physician 
(or group practice) who makes a referral (as defined elsewhere in the 
regulations). We interpreted this definition to mean that when an 
individual group member refers, the entire group has referred. As a 
result, any member of a group who has an unexcepted financial 
relationship (or whose relative has such a relationship) with an entity 
could ``taint'' the referrals of the entire group.
    We have reconsidered this issue and now propose to amend the 
definition to exclude any reference to the entire group practice. We 
believe that the statute was drafted to cover the referral behavior of 
individual physicians and to regulate the entities to which they refer. 
There does not appear to us to be any clear reason to extend the 
effects of one physician's relationships and behaviors to other 
physicians, just because they are all members of the same group 
practice. As several practices have pointed out to us, being members of 
the same group practice does not mean that physicians automatically 
have the opportunity, power, or incentive to exert pressure on each 
other to refer to their related entities.
    However, in any instance in which a group member is in a position 
to exert influence or control over the referrals of other group 
physicians, the prohibition could still apply. For example, group 
members could be subject to sanctions if their referral patterns reveal 
a circumvention scheme between them. Similarly, if a group practice 
owner conditions payment to his or her employee members on referrals to 
the owner's laboratory, the employment could be a compensation 
arrangement that triggers the prohibition.
6. Remuneration
    Do payments qualify as remuneration only if they result in a net 
benefit? Certain members of the provider community have requested that 
we interpret a payment as remuneration only if it is made in exchange 
for identifiable property or services. Under this theory, if the 
physician or entity making the payment has no expectation of or 
entitlement to something of value in return for the payment, there 
would be no compensation arrangement, even if other physicians or 
entities might benefit from the exchange.
    In the August 1995 final regulation, we defined remuneration as 
``any payment, discount, forgiveness of debt, or other benefit made 
directly or indirectly, overtly or covertly, in cash or in kind,'' 
except for a narrow list of remuneration excluded from the definition 
by section 1877(h)(1)(C). We believe that remuneration generally 
involves any payment of cash, property, or services, whether or not 
either or both parties receive a net benefit. For example, we would 
regard as remuneration the repayment of a loan, even if there are no 
accompanying interest payments.
    We base this interpretation on the statute, which excepts from 
compensation arrangements under section 1877(h)(1)(C) only very limited 
and specific types of remuneration. Among the list is the forgiveness 
of amounts for the correction of minor billing errors; that is, small 
amounts that are excused by one party in order to even out the parties' 
accounts. However, the statute does not except amounts that are 
forgiven to even out larger billing errors, nor does it contain a 
general exception for remuneration that does not result in a net 
benefit for one or both of the parties. (The correction of a large 
billing error might, however, qualify as an ``isolated transaction'' or 
qualify for the new exception in Sec. 411.357(l) as part of a fair 
market value exchange.)
    We believe that the statute is designed to prohibit referrals 
whenever a physician makes a payment to an entity or an entity makes a 
payment to a physician, regardless of who profits or gains. The 
statute, in our view, contains a presumption that if there has been a 
payment of any kind, a physician should not refer. As a result, the 
agency need not ``look behind'' each transaction to ascertain whether 
the physician has gained some benefit as a result of the transaction, 
has realized little or no net benefit, or has benefitted too much. The 
law does, however, designate certain very specific compensation 
arrangements that require that the Secretary ``look behind'' them and 
except them if the exchanges of payment meet fair market value and 
certain other standards.
    It is our view that the one-way payments described by the providers 
are remuneration. If a payment does not reflect an actual fair market 
value exchange, it could easily serve as the vehicle for referral 
payments. We believe the law was meant to prevent a physician from 
referring to an entity if that physician (or a family member) is 
receiving payments of any kind that cannot be accounted for as part of 
a fair exchange.

B. General Prohibition--What Constitutes a Prohibited Referral

    Does the prohibition apply only if a physician refers directly to a 
particular related entity? As we mentioned in the section above 
covering the definition of ``entity,'' section 1877(a)(1) prohibits a 
physician from making a referral to an entity for the furnishing of 
designated health services if the physician or immediate family member 
of the physician has a financial relationship with that entity. Section 
1877(h)(5) defines a referral very broadly: A referral is the request 
by a physician for a Part B item or service (including certain 
consultations). In addition, ``the request or establishment of a plan 
of care by a physician that includes the provision of [a] designated 
health service'' constitutes a ``referral'' by a ``referring 
physician.'' We have interpreted this provision in Sec. 411.351 of the 
August 1995 final clinical laboratory rule to mean that a physician has 
made a referral if he or she has made a request for a Part B item or 
service or a request for other items or services that includes the 
provision of laboratory services or if he or she has

[[Page 1710]]

established a plan of care that includes the provision of laboratory 
services.
    The ``referral'' provision requires that a physician only request 
an item or service or include it in a plan of care; it does not require 
that the physician directly send a patient to a particular entity or 
specifically indicate in a plan of care that the service must be 
provided by a particular entity. However, section 1877(h)(5) must be 
read in conjunction with the prohibition in section 1877(a)(1). The 
general prohibition applies only when a physician makes a referral to 
an entity for the furnishing of a designated health service if the 
physician or a family member has a financial relationship with that 
entity.
    For example, a physician might have a small noncontrolling 
ownership interest in a provider of a designated health service, such 
as a physical therapy (PT) facility. The physician does not directly 
refer patients to this provider. However, the physician does establish 
plans of care for patients in a hospital setting, which include PT 
services. When a particular patient leaves the hospital, the physician 
may refer the patient to an unrelated skilled nursing facility (SNF) 
that, in turn, refers the patient to the related PT provider. The PT 
facility bills the patient separately. As a result, the patient may 
receive services prescribed by the physician from an entity with which 
the physician has a financial relationship.
    In situations such as this one, the physician has prescribed a plan 
of care that includes designated health services, an action that 
constitutes a referral. However, the physician has not made the 
referral to an entity with which he or she has a financial 
relationship. Instead, the physician has made the referral to an SNF 
with which he or she has no financial relationship. As such, the 
referral prohibition would generally not apply. Nonetheless, if there 
was any evidence that the physician has an agreement with the SNF that 
involves the SNF systematically referring the physician's Medicare 
patients to the physician's PT facility, we would likely investigate 
the situation as a possible circumvention scheme.
    When is the owner of a designated health services provider 
considered as equivalent to that provider? We have received several 
comments about when a physician who has an ownership interest in an 
entity that furnishes designated health services should be equated with 
that entity. For example, suppose that a physician regularly refers 
patients to an SNF in which the physician has no investment interest. 
The SNF, in turn, buys PT services from a PT facility that also 
provides other noncovered items and services to the SNF and is owned 
solely by the physician. Arguably the referring physician, as sole 
proprietor of the PT facility, is related to the SNF because the 
physician's PT facility sells PT and other, noncovered services to the 
SNF. We believe that it is likely, in this situation, that the 
physician is in a position to negotiate or influence the terms of the 
arrangement, as well as to initiate patient referrals to the SNF.
    We believe that there is a potential for abuse in such situations. 
For example, the physician may be referring as many patients as 
possible to the SNF in exchange for inflated rates from the SNF for the 
variety of noncovered items and services that the PT facility 
furnishes, or for any covered services that are not subject to a fee 
schedule. Although the SNF may be negotiating with the PT facility as a 
corporate or other business entity, we would equate the referring 
physician and the PT facility with each other when the referring 
physician (or a family member) has a significant ownership or 
controlling interest that allows him or her to determine how the PT 
facility conducts its business and with whom. We will consider a number 
of factors in these situations, such as whether the physician or the 
physician in combination with his or her immediate family members owns 
all or a controlling amount of the stock of an entity, and whether the 
physician and/or the family members are making decisions for the 
entity, particularly on a day-to-day basis. Our analysis will depend 
upon the entire record of the interrelationship between the physician 
and/or immediate family members and the entity, whether the 
relationships are direct or indirect, and the totality of the 
circumstances.
    We believe the analysis is similar when a referring physician 
receives compensation from an entity that is owned or controlled by a 
party that also owns a designated health services provider. For 
example, suppose that a physician owns a controlling interest in a 
general practice clinic, and also independently owns a controlling 
interest in an outside laboratory in which the clinic itself has no 
interest. The clinic also employs a number of physicians who receive 
salaries from the clinic corporation.
    Arguably, the employee physicians in this situation have no 
financial relationship with the outside laboratory. That is, they do 
not themselves own any part of the laboratory, nor do they receive 
compensation from or pay compensation to the laboratory entity. 
However, if we were to take the position that there is no financial 
relationship, and hence no referral prohibition, the physician owner of 
the laboratory, by controlling the clinic, could arrange to compensate 
the employee physicians with inflated salaries based directly on the 
number of referrals they make to the outside laboratory.
    In order to avoid this result, we propose to equate the owner 
physician with the outside laboratory and with the clinic when he or 
she owns or controls them. Under this interpretation, we would regard 
the employee physicians as receiving compensation from the laboratory. 
Although this compensation is indirect, we believe it is covered by the 
statute. Section 1877(h)(1) defines a ``compensation arrangement'' as 
any arrangement involving any remuneration (with certain narrow 
exceptions). ``Remuneration,'' in turn, is defined as any remuneration 
paid directly or indirectly.
    If the physician, on the other hand, has a noncontrolling interest 
in the outside laboratory, we would not equate the owner physician with 
the laboratory. However, we would regard this situation as a potential 
circumvention scheme. That is, we would regard the physician owner in 
this situation as referring indirectly, through the employee 
physicians, to a designated health services provider to which the owner 
physician cannot personally refer. The inflated salaries of the 
employee physicians, in fact, could serve as evidence of the existence 
of such a circumvention scheme.
    The analysis would vary somewhat if the referring physicians are 
compensated by an entity, rather than an individual physician. Suppose, 
for example, that a hospital hires physicians to serve on its staff. 
The hospital compensates the physicians for their services, but 
inflates their salaries to reflect all the referrals they make to a 
separate MRI subsidiary that is not part of the hospital but is owned 
by it. If the hospital owns a controlling share of the MRI entity, we 
would regard the hospital and the entity as equivalent.
    The analysis would be different if the hospital owns less than a 
controlling interest in the MRI facility. Arguably, the physicians are 
compensated by an entity (the hospital) that is technically separate 
from the one providing the referred MRI services. The physicians do not 
own the MRI facility, nor do they receive payment from it. Nonetheless, 
if the physicians receive payments from the hospital that exceed fair 
market value for the services they are otherwise providing, we propose 
to presume that they are being indirectly compensated by the MRI 
facility, through the hospital, for their referrals.

[[Page 1711]]

    Has a physician made a referral to a particular entity if another 
individual directs the patient there?
    We have received inquiries about situations in which a physician 
requests a designated health service, but it is another individual, 
such as a discharge planner, who follows the physician's plan of care 
and refers the patient directly to a specific provider. We discussed 
this issue in the August 1995 final rule. In the preamble to that rule 
at 60 FR 41941, we stated that a physician who establishes a plan of 
care or requests an item or service is responsible for the referral, 
even if it is another individual or an institutional entity that 
carries out that plan of care for the physician. For example, we stated 
that we would not allow a hospital physician to avoid the referral 
prohibition by claiming that it is the hospital that actually makes the 
referral or selects the provider in his or her place. We took this 
position in order to prevent a physician from disavowing all referrals 
by having personnel or employers carry them out.
    In light of our analysis in the responses to the last two 
questions, we would like to refine our position on this issue. That is, 
we want to qualify our position to ``impute'' a physician's referrals 
to others only in those situations in which the physician has the 
ability to control or influence the individuals who select an entity. 
We would also ``impute'' referrals if a physician is him or herself in 
a position to be compensated for the referrals by those who can control 
or influence the actions of the person who actually selects the entity.
    For example, suppose that a physician works for a hospital and 
refers a patient to the hospital's discharge planner for laboratory 
tests. The discharge planner in turn refers the patient to the 
hospital's laboratory. We would regard the physician's request and 
referral to the discharge planner as a referral to an agent of the 
entity that owns the laboratory; that is, to an agent of the entity 
that furnishes designated health services. We believe that such a 
referral would be governed by the rules in section 1877. Suppose, on 
the other hand, that the discharge planner refers the patient to an 
outside laboratory that happens to be owned by the hospital. The 
physician in this situation may not be able to compensate the discharge 
planner or otherwise in any way influence that individual's actions. 
Nonetheless, if the hospital pays the physician to order as many 
laboratory tests as possible, and in turn pays the discharge planner to 
refer patients directly to a hospital-owned provider, we would impute 
the referral to the physician.
    We can translate these rules into a group practice setting. For 
example, a group practice member might request a designated health 
service, but allow a nonphysician employee to direct the patient to a 
particular provider. If the nonphysician refers the patient to the 
group's own provider, we would regard the referral as the physician's 
own referral to an agent of a provider of designated health services. 
This arrangement, we believe, would be subject to the referral rules. 
For outside referrals, we would gauge whether the physician member is 
in any position to control the actions of the nonphysician. In order to 
gauge whether a physician is in a position to affect a nonphysician's 
actions, we propose to use the same ownership and control rules that we 
mentioned above. We would also impute the referral to the physician if 
the entity compensating the physician is in a position to both 
compensate the physician for his or her referrals and to control the 
actions of the individual who selects the provider.
    How will HCFA interpret situations in which it is not clear whether 
a physician has referred to a particular entity?
    A physician might request or order a designated health service for 
a patient without establishing a record of whether he or she referred 
the patient to a specific provider. If the patient receives the 
designated health service from an entity with which the physician (or a 
family member) has a financial relationship, as the result of the 
referral, we will presume that the service results from the physician 
referring to that specific entity. We will allow physicians to rebut 
that presumption by establishing that they mentioned no specific 
provider or supplier or that the patient was directly referred by some 
other independent individual or through an unrelated entity.

C. General Exceptions That Apply to Ownership or Investment Interests 
and to Compensation Arrangements

1. The in-office ancillary services exception
    Can a physician supply crutches as in-office ancillary services? 
The in-office ancillary services exception in section 1877(b)(2) 
applies to services that meet the requirements for supervision, 
location, and billing, but not to any parenteral and enteral nutrients, 
equipment and supplies or to durable medical equipment (DME) (although 
the exception does apply to infusion pumps). Many physicians have 
brought to our attention the problems with excluding crutches from the 
exception. That is, an orthopaedist might diagnose a patient with a 
broken leg, set the leg, personally furnish the patient in his or her 
own office with crutches, and then bill for those crutches. If the 
patient will use the crutches at home, they qualify as DME. Physicians 
have pointed out that this exclusion will cause great inconvenience to 
such patients, who will have to obtain crutches or similar equipment 
elsewhere.
    We agree that excluding crutches from the section 1877(b)(2) 
exception could cause great inconvenience to patients, and disrupt the 
efficient delivery of health care services. We regard crutches as 
different from other DME in that a patient very often needs them 
immediately after treatment for an injury that has resulted from an 
unexpected traumatic event. Thus, patients may often be precluded from 
arranging to receive crutches in advance from other, unrelated 
entities. Nonetheless, the Secretary does not have the authority to 
simply create a blanket exception for crutches. The Secretary only has 
the authority, under section 1877(b)(4), to create new exceptions in 
the case of any other financial relationship that the Secretary 
determines, and specifies in regulations, does not pose a risk of 
program or patient abuse. We have no evidence that allowing physicians 
a blanket exception to self-refer for crutches will be free from abuse. 
In the ownership context, for example, each referral will inherently 
increase a physician's or group practices' profits.
    We are thus proposing to create an exception, at Sec. 411.355(e), 
that we believe will remedy this problem, while meeting the statutory 
condition. That is, the exception would apply only to situations in 
which a physician furnishes crutches in a manner that meets the in-
office ancillary services requirements in section 1877(b)(2) (and in 
Sec. 411.355(b)), provided the physician realizes no direct or indirect 
profit from furnishing the crutches. In other words, Medicare will pay 
for the crutches if the physician bills only for the cost he or she 
incurred to acquire and supply the crutches or to create or manufacture 
the crutches. We believe that there is no threat of abuse in these 
situations, since physicians will have no incentive to overutilize 
crutches.
2. Exception for services furnished by organizations operating under 
prepaid plans
    Can a physician refer non-enrollees to a related prepaid 
organization or to its physicians and providers?

[[Page 1712]]

    We have been asked about situations in which a physician furnishes 
services to managed care patients under a personal services contract, 
but wishes to refer his or her own outside, fee-for-service Medicare 
patients for designated health services to the managed care entity, or 
to physicians, suppliers, or providers that are affiliated with the 
managed care entity. If the physician refers to an otherwise unrelated 
physician, provider, or supplier that is affiliated with the managed 
care entity, but is not part of it and accepts the fee-for-service 
patient independently, the referral prohibition should not apply. That 
is, the physician would not be referring to the managed care entity 
with which he or she has a financial relationship.
    The analysis would be different, however, if the other physician, 
provider, or supplier is functioning as part of the managed care 
entity. For example, a physician might provide services to enrollees of 
a Federally qualified HMO under a contract arrangement. These services 
are excepted from the referral prohibition by section 1877(b)(3). 
However, when the physician wishes to refer a fee-for-service Medicare 
patient to the HMO's laboratory, the physician is making a referral to 
an entity with which the physician has a financial relationship. That 
is, the physician's personal services contract constitutes a 
compensation arrangement with the HMO.
    In order for the physician in this situation to refer, the 
financial relationship must meet one of the compensation-related 
exceptions in section 1877 or in this proposed rule. For example, the 
physician could continue to refer if his or her arrangement meets the 
criteria in the personal services exception in section 1877(e)(3) and 
in Sec. 411.357(d) of this proposed rule. The compensation the 
physician receives from the HMO would have to be, among other things, 
consistent with fair market value, and could not reflect the volume or 
value of the physician's referrals (except as allowed under a physician 
incentive plan). We have proposed to define the concept of a 
``referral,'' for purposes of section 1877, as limited to a referral 
for a designated health service that may be covered under Medicare or 
Medicaid (see our discussion of the definition in section III.A.7 of 
this preamble). Thus, the ``volume or value'' standard would 
automatically be met if (in the context of the physician's HMO 
practice) the physician treated and referred only non-Medicare or non-
Medicaid HMO enrollees (that is, the physician's HMO compensation would 
never reflect the volume or value of Medicare or Medicaid referrals).
    If, on the other hand, the physician is compensated by the HMO for 
treating HMO enrollees who are covered by Medicare or Medicaid, the 
compensation would be subject to the ``volume or value'' standard. 
Hence, the arrangement could still meet the personal services exception 
if the physician's compensation does not reflect Medicare or Medicaid 
covered referrals or reflects them only as part of a physician 
incentive plan, as these plans are described in section 1877(e)(3)(B), 
and in Sec. 411.351 of this proposed rule.
    As noted earlier in this preamble, we believe that, for the most 
part, physicians working for managed care organizations or as part of 
an integrated delivery system will be able to refer Medicare and 
Medicaid patients within these systems, provided their arrangements 
with these entities meet certain standards. However, we anticipate that 
there may be some unusual situations in which an exception does not 
apply. One example of providers in a delivery system who may be 
adversely affected by the referral prohibition involves providers under 
Medicaid primary care case management (PCCM) programs.
    We are aware that, under certain circumstances, some providers 
contracting under these managed fee-for-service programs may not be 
eligible for any of the existing exceptions written into the law or 
proposed in this rule. Because the Secretary can only create new 
exceptions for financial relationships which she determines pose no 
risk of program or patient abuse, we have not created a blanket 
exception for Medicaid PCCM programs. However, we do not wish, as an 
unintended consequence of this decision, to discourage the 
participation of Medicaid providers in PCCM programs, thereby 
threatening Medicaid beneficiaries' access to care. Therefore, we are 
soliciting comments from States and others on the potential impact of 
the referral prohibition on Medicaid PCCM programs and the providers 
who contract under them.
    One example of a situation in which a PCCM provider might be 
prohibited from making a referral involves HMOs that contract as 
primary care case managers. While HMO participation in PCCM programs is 
relatively rare, HMOs in some States have contracted to serve as case 
managers to the disabled population. Such contracts allow the HMO to 
gain experience in serving the disabled without having to accept the 
financial risk that an HMO would normally accept under a capitation 
contract. As States move to enroll more of their disabled populations 
into capitated programs, involving HMOs in PCCM programs could serve as 
a transitionary method of developing a managed care provider network 
that is experienced in caring for the disabled.
    If an HMO physician who is required by contract to refer within the 
HMO's network wishes to refer a PCCM patient within that network, his 
or her financial relationship with the HMO would have to meet one of 
the existing exceptions in the law or in this proposed rule. Because 
the HMO in the above example is paid on a fee-for-service basis under 
the PCCM program, none of the exceptions for services furnished by pre-
paid risk plans would be appropriate.
    The manner in which we have interpreted the volume or value of 
referrals standard in this proposed rule could prevent the financial 
relationship from qualifying for one of the compensation-related 
exceptions. Most of these exceptions can be satisfied only if a 
physician's compensation does not reflect the volume or value of his or 
her referrals. Certain provider contracts that require a physician to 
refer within a defined network of providers could violate that 
standard. (We discuss our interpretation of this standard in section 
III.E.3.) That is, regardless of whether the physician's income 
actually varies based on the volume or value of referrals, the 
physician's income reflects the referrals because it could be lost 
entirely if the physician repeatedly refers patients out-of-network. If 
the financial relationship does not qualify for an exception, there may 
be no Federal matching funds for any in-network referral of PCCM 
patients made by this physician.
3. Other permissible exceptions for financial relationships that do not 
pose a risk of program or patient abuse
    Should situations that meet a safe harbor under the anti-kickback 
statute be automatically excepted? We have received inquiries about the 
Secretary's authority under section 1877(b)(4) to create additional 
exceptions for financial relationships which the Secretary determines, 
and specifies in regulations, do not pose a risk of program or patient 
abuse. We have had some requests that the Secretary create an exception 
for any financial relationship that meets a safe harbor under the anti-
kickback statute. As we have stated elsewhere in this preamble, the 
anti-kickback statute in section 1128B(b) and section 1877 are totally 
independent laws, with separate

[[Page 1713]]

requirements. In order for a physician who has a financial relationship 
with an entity to refer to that entity, the arrangement must meet the 
requirements in both laws. However, we are willing to consider this 
option and specifically solicit comments on whether meeting a safe 
harbor would qualify an arrangement as one that involves no risk of 
program or patient abuse.

D. Exceptions That Apply Only to Ownership or Investment Interests

1. Exception for ownership in publicly traded securities or mutual 
funds
    Does the exception for publicly traded securities apply to stock 
options? We have been asked whether ownership of an option to purchase 
stock in an entity that furnishes a designated health service 
constitutes an excepted ownership interest in the entity. As we stated 
in section IV.A.3 above, we regard the option to purchase stock in an 
entity as an inchoate ownership interest that could subject a physician 
to the referral prohibition. As such, all of the exceptions that 
ordinarily apply to ownership interests would apply. However, the 
exception for publicly traded securities would not apply if the stock 
option involves investment securities that may not be purchased on 
terms generally available to the public, as required by section 
1877(c)(1).
2. Exception for services provided by a hospital in which a physician 
or family member has an interest
    Can a physician or family member own an interest in a chain of 
hospitals? Section 1877(d)(3) contains an exception for designated 
health services provided by a hospital (other than a hospital in Puerto 
Rico) if the referring physician is authorized to perform services 
there, and the ownership or investment interest is in the hospital 
itself (and not merely in a subdivision of the hospital). We discussed 
at some length in the August 1995 final rule how we believe an 
individual can hold an interest in a subdivision of a hospital.
    We have received inquiries about whether this exception applies if 
a physician or family member holds an interest in a company or network 
that owns a chain of hospitals, rather than an interest in the one 
hospital to which the physician makes referrals. It is our view that a 
physician can have an ownership or investment interest in a hospital 
that is part of a chain by virtue of holding an interest in the 
organization that owns the chain. We base our position on the language 
of the exception, which does not require that the physician have a 
direct interest in the hospital. In addition, we believe that the 
exception in section 1877(d)(3) must be read in conjunction with 
section 1877(a)(2), which states that a physician's or family member's 
ownership or investment interest in an entity that provides a 
designated health service constitutes a financial relationship with 
that entity. This provision further defines an ownership or investment 
interest in an entity to include an interest in an entity that holds an 
ownership or investment interest in any entity providing the designated 
health services. Thus, by definition, a physician who has an ownership 
interest in a health system that owns a hospital that provides 
designated health services has an ownership interest in that individual 
hospital. If that indirect interest is in the hospital as a whole, and 
not in a subdivision, then the exception should apply. In fact, we 
believe that it would be illogical to specifically apply the referral 
prohibition in section 1877(a)(1) to any indirect ownership interest, 
yet deny an exception in section 1877(d) that is based on ownership 
just because the interest is indirect, especially when the exception 
itself does not require a direct interest.
    Nonetheless, in order to meet the hospital ownership exception, we 
believe the law requires that the physician be authorized to perform 
services at the hospital to which he or she wishes to refer. We do not 
believe that this last requirement is met if the physician has these 
privileges with any one of the other hospitals in the chain, but not 
with the referral hospital.
    We also wish to make the point that any ownership interest a 
physician or family member has in a hospital could involve a separate 
compensation arrangement. For example, if a physician acquires an 
interest in a hospital from a health care network, this acquisition 
could constitute remuneration from an entity that provides designated 
health services. Consequently, for the physician to refer to the 
entity, the arrangement would have to meet a compensation-related 
exception.

E. Exceptions That Apply Only to Compensation Arrangements

1. Compensation arrangements in general
    Can a lease or arrangement for items or services have a termination 
clause? The lease exceptions for space and equipment and a number of 
the other compensation exceptions require that, among other things, the 
arrangement be in writing and provide for a term of at least 1 year. We 
believe that this requirement has been met as long as the arrangement 
clearly establishes a business relationship that will last for at least 
1 year. Nonetheless, it is our view that the arrangement can still 
qualify for the exception even if it also includes a clause allowing 
the parties to terminate sooner for good cause, provided the parties do 
not enter into a new arrangement within the originally established 1 
year time period.
    We believe that Congress included the 1 year requirement with the 
intention of excepting stable arrangements that cannot be renegotiated 
frequently to reflect the current volume or value of a physician's 
referrals. Nonetheless, we do not believe that Congress intended, in 
creating this requirement, to bind parties to an arrangement once that 
arrangement has become unsatisfactory to some or all of the parties. 
Therefore, we are interpreting all of the exceptions with the 1 year 
requirement to allow terminations for good cause, provided the parties 
do not, within the 1 year period, enter into a new arrangement. We also 
believe that a lease or arrangement must be renewed in at least 1 year 
increments, so that it is always an agreement that provides for a term 
of at least 1 year. That is, once the first year of an agreement 
expires, it cannot be converted into, for example, a month-by-month 
arrangement that could fluctuate with a physician's referrals.
    Will a physician's referrals be prohibited if an entity pays for 
certain incidental benefits? Entities, such as hospitals, often provide 
physicians with certain incidental benefits, such as their malpractice 
insurance, or with reduced or free parking, meals, or other incidental 
benefits. We believe the answer to this question hinges on the nature 
of any other financial relationship the physician has with the entity. 
For example, if a physician receives free ``extras'' such as 
malpractice insurance, parking, or meals while he or she serves as the 
entity's employee, then these extras might qualify as part of the 
compensation that the physician receives under a bona fide employment 
relationship, provided they are specified in the employment agreement. 
If the physician or entity can demonstrate that the extras constitute 
part of the payment that such entities typically provide to physicians, 
regardless of whether they make referrals to the entity, the extras 
might constitute payment that is consistent with fair market value and 
that furthers the entity's legitimate business purposes. If an 
incidental benefit cannot meet the requirements under a statutory 
exception or the new general exception

[[Page 1714]]

for compensation arrangements we have included in Sec. 411.357(l), it 
might still meet the de minimis exception we have added in 
Sec. 411.357(k) if it has limited value. We have also been asked about 
parking spaces that a hospital provides to physicians who have 
privileges to treat their patients in the hospital. It is our view 
that, while a physician is making rounds, the parking benefits both the 
hospital and its patients, rather than providing the physician with any 
personal benefit. Thus, we do not intend to regard parking for this 
purpose as remuneration furnished by the hospital to the physician, but 
instead as part of the physician's privileges. However, if a hospital 
provides parking to a physician for periods of time that do not 
coincide with his or her rounds, that parking could constitute 
remuneration.
2. Exception for agreements involving the rental of office space or 
equipment
    Can a lessee sublet office space or equipment? Section 1877(c)(1) 
and (2) excepts from compensation arrangements that trigger the 
referral prohibition, payments made by a lessee to a lessor for the use 
of premises or equipment if certain criteria are met. We have listed 
these requirements in the regulation at Sec. 411.357(a) and (b). Among 
these is the requirement that the office space or equipment be ``used 
exclusively by the lessee when being used by the lessee.'' We believe 
Congress included this requirement to ensure that excepted rental 
agreements are valid ones, rather than ``paper'' leases that might 
involve payments passing between the lessor and lessee, when the lessee 
is not actually using or intending to use the space or the equipment. 
As a result, we believe that this requirement precludes the lessee from 
subletting the space or equipment during any portion of a lease during 
which the lessee is expected to be using them.
    A sublease arrangement might nonetheless qualify under the new 
compensation exception that we are proposing under Sec. 411.357(l). 
That exception requires, among other things, that the rental payments 
be consistent with fair market value and not take into account the 
volume or value of any referrals between the parties. In addition, the 
lease arrangement must be commercially reasonable and further the 
legitimate business purposes of the parties. We envision that there 
could be arrangements in which both the lease arrangement and the 
sublease would meet all of these criteria.
    Does the lease exception apply to any kind of lease covering space 
or equipment? As we understand general accounting principles, there are 
differences between operational leases and capital leases that may be 
relevant to our application of section 1877. Operational leases are 
basic, simple leases in which the lessee makes rental payments to the 
lessor in order to use the lessor's property or space. These kinds of 
leases, we believe, could fall within the exceptions in section 
1877(e)(1)(A) and (B) because they constitute payments made by the 
lessee for the use of space or equipment.
    Capital leases, on the other hand, are very much like installment 
sales purchases. Upon entering into such a lease, the lessee receives 
all of the benefits and obligations of ownership of the property. That 
is, the lessee (and not the lessor) can depreciate the property and 
record it on its books as a capital asset and the long-term capital 
lease payments as a liability (very much like the way the lessee would 
record a loan). In most cases, the title to the property at issue will 
pass to the lessee at the end of the term of the lease. In other words, 
the property that is covered by capital leases is treated by 
accountants as property that a lessee has purchased or is in the 
process of purchasing. We believe that such leases go beyond the 
section 1877(e)(1) exceptions, which except only payments for the use 
of equipment or space.
    Can a lease provide for payment based on how often the equipment is 
used? We have been asked about situations in which a physician rents 
equipment to an entity that furnishes a designated health service, such 
as a hospital that rents an MRI machine, with the physician receiving 
rental payments on a ``per click'' basis (that is, rental payments go 
up each time the machine is used). We believe that this arrangement 
will not prohibit the physician from otherwise referring to the entity, 
provided that these kinds of arrangements are typical and comply with 
the fair market value and other standards that are included under the 
rental exception. However, because a physician's compensation under 
this exception cannot reflect the volume or value of the physician's 
own referrals, the rental payments cannot reflect ``per click'' 
payments for patients who are referred for the service by the lessor 
physician.
3. Exception for personal services arrangements
    How does the physician incentive plan exception apply when an 
enrolling entity contracts with a group practice? The exception for 
personal services arrangements includes the criteria that any 
compensation paid by an entity under the arrangement cannot reflect the 
volume or value of a physician's referrals, unless the compensation is 
paid under a physician incentive plan, as that term is defined in 
section 1877(e)(3)(B). A physician incentive plan is defined by this 
provision as any compensation arrangement between an entity and a 
physician or physician group that may directly or indirectly have the 
effect of reducing or limiting services furnished with respect to 
individuals enrolled with the entity. We have defined ``physician 
group'' broadly in our March 27, 1996, final rule (61 FR 13430) 
interpreting physician incentive plans under section 1876(i)(8), of 
which group practices as defined under section 1877(h) are a subset.
    Although an entity can compensate a physician group to reflect the 
volume or value of referrals under a physician incentive plan, the 
definition of a group practice under section 1877(h)(4)(A)(iv) 
precludes the group, with certain exceptions, from compensating its 
members based directly or indirectly on the volume or value of their 
referrals (it does not contain the exception for physician incentive 
plans). As we have described earlier in this preamble, we believe the 
volume or value standard applies only to a physician's own referrals 
for designated health services covered under Medicare or Medicaid.
    Several interested parties have asked us whether these provisions 
contain contradictory standards, which could make it difficult for 
entities that enroll patients to continue their common practice of 
contracting with group practices to provide services to the entities' 
enrollees. We believe that the two provisions need not be read as 
contradictory. While the group practice definition in general precludes 
a group from compensating its physician members based on their 
referrals, it does allow groups to pay physicians a share of the 
overall profits of the group, or a productivity bonus based on services 
personally performed or services incident to such personally performed 
services, so long as the share or bonus is not determined in a manner 
that is directly related to the volume or value of a physician's own 
referrals. We have discussed our interpretation of these principles 
elsewhere in this preamble. In the context of a physician incentive 
plan, a physician group as a whole could be compensated more by an 
entity based on providing or referring for fewer services. We believe 
that the group practice could then pass any additional compensation it 
receives from a physician incentive plan on to the individual physician 
members via overall profit sharing, which would only

[[Page 1715]]

indirectly compensate them for the volume of their referrals. Also, the 
physicians could receive a productivity bonus for their decreased 
utilization of any services that are not designated health services 
covered under Medicare or Medicaid.

V. Regulatory Impact Statement

A. Background

    We have examined the impacts of this proposed rule as required by 
Executive Order 12866 and the Regulatory Flexibility Act (RFA) (Public 
Law 96-354). Executive Order 12866 directs agencies to assess all costs 
and benefits of available regulatory alternatives and, when regulation 
is necessary, to select regulatory approaches that maximize net 
benefits (including potential economic, environmental, public health 
and safety effects, distributive impacts, and equity). The RFA requires 
agencies to analyze options for regulatory relief of small businesses. 
For purposes of the RFA, most hospitals, and most other providers, 
physicians, and health care suppliers are small entities, either by 
nonprofit status or by having revenues of $5 million or less annually.
    Section 202 of the Unfunded Mandates Reform Act provides for 
``Regulatory Accountability and Reform.'' It requires the agency to 
engage in certain procedures, including a cost benefit analysis and 
consultation with affected State and local governments, for proposed 
and certain final rules that include ``Federal mandates'' that may 
result in the expenditure by State, local, and tribal governments, in 
the aggregate, or by the private sector, of $100 million or more 
annually. Section 201 of the Unfunded Mandates Reform Act requires this 
assessment only to the extent that a regulation incorporates 
requirements other than those specifically set forth in the law.
    Section 1102(b) of the Social Security Act requires us to prepare a 
regulatory impact analysis for any proposed rule that may have a 
significant impact on the operations of a substantial number of small 
rural hospitals. This analysis must conform to the provisions of 
section 603 of the RFA. For purposes of section 1102(b) of the Act, we 
define a small rural hospital as a hospital that is located outside a 
Metropolitan Statistical Area and has fewer than 50 beds.
    Sections 1877 and 1903(s) of the Act were enacted in order to 
correct an abuse highlighted by a number of studies: The ordering by 
some physicians of unnecessary services because they have a financial 
incentive do so. (See section I.A. of this preamble for citations to 
the studies.) The legislation identified those types of services 
(referred to as ``designated health services'') where the existence of, 
or potential for, abuse appeared to be the greatest. The approach taken 
in the legislation was to assume that, in general, if a financial 
relationship exists between a physician or a physician's immediate 
family member and an entity that provides designated health services, 
an incentive to overutilize those services also exists. The statute 
defined a financial relationship as an ownership or investment interest 
in, or compensation arrangement with, an entity. Congress created a 
number of exceptions to the prohibition in recognition of certain 
existing business practices. In addition, the legislation provides the 
Secretary with authority to create new exceptions. However, we must 
first determine, and specify in regulations, that any new exception 
will not pose a risk of program or patient abuse.
    Because of its exceptions, the current law is complicated. However, 
the essence of the prohibition in section 1877 is clear: If a physician 
or a physician's immediate family member has a financial relationship 
with an entity, the physician cannot refer patients to that entity for 
the furnishing of a designated health service for which payment 
otherwise may be made under Medicare. Unlike the anti-kickback statute 
discussed in the preamble, the law is triggered by the mere fact that a 
financial relationship exists; the intention of the referring physician 
is not taken into consideration.
    Section 1903(s) denies Federal financial participation payment 
under the Medicaid program to a State for designated health services 
furnished to an individual on the basis of a physician referral that 
would result in a denial of payment under the Medicare program if 
Medicare covered the services to the same extent and under the same 
terms and conditions as under the State Medicaid plan.
    The goal of this proposed rule is to integrate section 1877 (as 
amended by OBRA '93 and SSA '94) into the Medicare regulations and 
section 1903(s) into the Medicaid regulations, and to interpret the 
statute in accordance with its language and intent.

B. Anticipated Effects and Alternatives Considered

    For the reasons described below, we believe any estimate of the 
individual or aggregate economic impact of the provisions of this 
proposed rule would be purely speculative. Although the provisions 
proposed in this rule do not lend themselves to a quantitative impact 
estimate, for reasons discussed below and elsewhere in the preamble, we 
do not anticipate that they would have a significant economic impact on 
a substantial number of small entities. However, to the extent that our 
proposals may have significant effects on some health care 
practitioners or be viewed as controversial, we believe it is desirable 
to inform the public of what we view as the possible effects of the 
proposals. This analysis, together with the other sections of the 
preamble, constitutes a regulatory flexibility analysis and analysis 
for purposes of section 1102(b) of the Act.
    We expect that some kinds of entities could be affected to varying 
degrees by this proposed rule. Following are the groups we believe are 
most likely to experience some economic impact:
1. Physicians
    A physician can be financially related to an entity either through 
an ownership or investment interest in the entity, or through a 
compensation arrangement with the entity. We begin by first discussing 
ownership/investment interests.
    Ownership or investment interests. A physician who has (or whose 
immediate family member has) an ownership or investment interest in an 
entity and does not qualify for an exception is prohibited from 
referring Medicare patients to that entity for the provision of 
designated health services. Also, when a physician with such an 
ownership or investment interest makes a prohibited referral, there is 
a risk that the entity will receive no Medicare payment for those 
designated health services. Under Medicaid, a State may receive no FFP 
for services that result from a referral that would be prohibited under 
Medicare, if Medicare covered the same designated health services as 
are covered under the State plan. The State may, in turn, choose not to 
pay the furnishing entity.
    The American Medical Association's (AMA) Center for Health Policy 
Research (hereafter, the Center) reviewed three studies that analyze 
self-referral: (1) ``Financial Arrangements Between Physicians and 
Health Care Businesses: Report to Congress,'' Office of Inspector 
General, DHHS, pages 18 and 21 (May 1989); (2) ``Joint Ventures Among 
Health Care Providers in Florida,'' State of Florida Health Care Cost 
Containment Board (Sept. 1991); and (3) ``Frequency and Costs of 
Diagnostic Imagining in Office Practice--A Comparison of Self-Referring 
and Radiologist-Referring

[[Page 1716]]

Physicians,'' Bruce J. Hillman and others, The New England Journal of 
Medicine (December 1990; pp. 1604-1608). As reported in the Journal of 
the American Medical Association (JAMA, May 6, 1992, Vol 267. No. 17), 
the Center found that approximately 10 percent of physicians nationwide 
have ownership interests in health care entities that have been 
associated with potential self-referral issues. It pointed out, 
however, that not all of these physicians engage in self-referral. The 
Center also reported that there was no evidence in the studies they 
reviewed on the extent to which physicians may profit from self-
referrals. Therefore, it concluded that the degree of conflict of 
interest presented by a physician's investment in entities to which he 
or she refers patients is unknown.
    If we were to assume that the 10 percent figure cited above is 
currently true, this would mean, based on the number of active 
physicians in 1995, that approximately 79,000 physicians have an 
ownership interest in health care entities that furnish designated 
health services. Note, however, that others cite higher percentages. 
For example, the 1991 study issued by the Florida Health Care Cost 
Containment Board found that at least 40 percent of Florida physicians 
involved in direct patient care had an investment in a health care 
business to which they could--in the absence of prohibiting 
legislation--refer patients for services. We would also like to point 
out that ownership information or information on the investments of 
physicians and all of their immediate family members in the entities 
that furnish any of eleven designated health services constitutes an 
enormous amount of data that is continually subject to change.
    In 1991, the AMA's Council on Ethical and Judicial Affairs had 
concluded that physicians should not refer patients to a health care 
facility outside their office at which they do not directly provide 
services if they have an investment interest in the facility. The 
Council stated that physicians have a special fiduciary responsibility 
to their patients and that there are some activities involving their 
patients that physicians should avoid whether or not there is evidence 
of abuse. In December 1992, the AMA voted to declare self-referral 
unethical, with a few exceptions. Exceptions are allowed if there is a 
demonstrated need in the community and alternative financing is not 
available.
    As of October 1994, 27 States had enacted legislation that 
restricts or qualifies self-referral. There is great variation among 
the States. Some only require disclosure of the financial relationship 
to the patient, while others prohibit such referrals.
    We believe that this increased examination of self-referral 
arrangements and enactment of both Federal and State laws prohibiting 
such arrangements has led to a decline in self-referral activity and 
financial relationships between physicians and entities. However, we 
lack the data necessary to either confirm or refute this supposition. 
We also lack data that would tell us how many of the financial 
relationships that physicians have with an entity that furnishes a 
designated health service would be exempted under the statute. We would 
welcome receiving current relevant data.
    One exception that may have broad application is the in-office 
ancillary services exception. With regard to this exception, which 
applies to both ownership/investment interests and compensation 
arrangements, we offer the following discussion.
    To qualify as in-office ancillary services, the services must, 
among other things, be furnished personally by the referring physician 
or another physician in the same group practice as the referring 
physician, or be furnished by individuals who are directly supervised 
by one of these physicians. How we interpret a number of elements in 
this provision would affect whether certain referrals qualify for the 
in-office ancillary services exception. These include how we define 
``group practice,'' ``members of the group,'' and ``direct 
supervision.'' We discuss these definitions below.
    The in-office ancillary services exception allows physicians who 
are members of a group practice to supervise designated health services 
referred by any group member. Paragraph (h)(4)(A) of section 1877 
provides a definition of a ``group practice.'' That definition, 
however, consists of elements that require interpretation--for example, 
what qualifies a group of physicians as ``a legal entity,'' what is 
meant by the ``full range of a physician's services,'' which must be 
furnished through group arrangements, and what constitutes 
``substantially all'' of a physician's services, which must also be 
furnished through the group. We discuss these elements in section 
III.A.6 of this preamble. As noted in that discussion, we propose to 
modify some of the interpretations that we made in the August 1995 
final rule. We believe that these modifications, which recognize 
established business practices that do not pose the risk of program or 
patient abuse, will enable more physicians to meet the definition of a 
group practice than would the interpretations in the August 1995 rule. 
If a group of physicians qualifies as a group practice, services can be 
furnished by certain individuals other than the referring physician and 
still qualify for the in-office ancillary services exception. We are 
unable, however, to make an estimate of the economic impact of these 
modifications.
    Also affecting the in-office ancillary services exception is how we 
would define ``members of the group.'' Again, this proposed rule would 
modify the definition we established in the August 1995 final rule. 
This modification, discussed in detail in section III.A.6 of this 
preamble, would not regard independent contractors as members of the 
group. This interpretation may make it easier for a group of physicians 
to meet the ``substantially all'' test to qualify as a group practice 
than would the interpretation in the August 1995 rule. On the other 
hand, independent contractors could not supervise the provision of 
designated health services. We are unable to estimate the impact of 
these opposing effects.
    The in-office ancillary services exception provides both solo 
practitioners as well as group practice physicians with the ability to 
refer within their own practices. As we discussed in detail in the 
August 1995 final rule, this provision can except solo practitioners 
with certain shared arrangements who do not wish to become a group 
practice. For example, two solo practitioners who share one office and 
jointly own a laboratory can continue to refer to that laboratory, as 
long as each physician furnishes physician services unrelated to the 
designated health services in the office, directly supervises the 
laboratory services for his or her own Medicare and Medicaid patients 
while they are being furnished, and bills for the services. If only one 
of the solo practitioners owns the laboratory in a shared office, the 
non-owning physician can refer to the laboratory as long as he or she 
is not receiving compensation from the owner in exchange for referrals. 
We are aware, however, that this exception may not accommodate the 
variety of different arrangements physicians have entered into to share 
facilities or otherwise group together without losing their status as 
solo practitioners. We directly solicit comments on the effects of the 
referral prohibition on these arrangements.
    The proposed regulation defines the statutory requirement for a 
physician's ``direct supervision'' of individuals furnishing designated 
health services

[[Page 1717]]

under the in-office ancillary services exception. Under the definition, 
``direct supervision'' requires that a physician be present in the 
office suite and immediately available to provide assistance and 
direction during the time services are being performed.
    One option for defining ``direct supervision'' would be to say that 
it means that the service is furnished under the physician's overall 
supervision and control but that the physician need not be physically 
present in the office suite in which the services are performed while 
they are being performed. This rule would not adopt such a definition, 
however. We believe that the supervision requirement is meant to 
establish as ``in-office ancillary'' services those services that are 
integral to the physician's own practice and that are conducted within 
his or her own sphere of activity. We believe Congress intended this 
exception to apply to services that are closely attached to the 
activities of the referring physician.
    If we were to allow physicians to supervise the furnishing of 
designated health services from a distance, we believe that we would be 
creating an opportunity for physicians to refer to entities outside 
their own practices, for services which are not actually ``in-office 
ancillary'' in nature. Although our proposed definition may result in 
fewer referrals qualifying for the ``in-office'' exception than a more 
liberal definition, we believe our definition is necessary to achieve 
the purposes of the statute. We are not, however, proposing that there 
must be a particular configuration of rooms for an office to qualify as 
a ``suite,'' for example, that the rooms be contiguous. As stated in 
section III.A.2 of this preamble, the question of physician proximity 
for purposes of meeting the direct supervision requirement is a 
decision that would be made by the local carrier based on the 
circumstances. We have also proposed to liberalize the concept of 
``present in the office suite,'' as we interpreted it in the August 
1995 final rule, to allow brief absences from the office under certain 
conditions.
    Because we do not have data on how many physicians have financial 
relationships that already qualify for the in-office exception, and how 
many would have to alter their practices, even given the modifications 
discussed immediately above, we cannot judge the economic impact of our 
definition. We specifically solicit information on this issue.
    As already stated, we do not have current data on the number of 
physicians with ownership/investment interests in entities that furnish 
designated health services. Nor do we know how many of these physicians 
would qualify for an exception to the referral prohibition. However, 
even if we were to assume that a substantial number of physicians have 
nonexcepted ownership interests in entities that furnish a designated 
health service, we do not believe that, in general, the economic impact 
on these physicians necessarily has to be substantial, for the 
following reasons:
    If a physician's ownership interest in an entity would lead to a 
prohibition on his or her referrals to that entity, the physician has 
three options: First, he or she can stop making referrals to that 
entity and make referrals to another unrelated entity. Second, the 
physician can divest him or herself of the interest. Third, the 
physician can, if possible, position him or herself to qualify for an 
exception. Below we discuss the economic impact of each of these 
options.
    While the impact on an individual physician may be significant, we 
do not believe that physicians, in general, will be significantly 
affected if they have to stop making referrals to an entity in which 
they have an ownership interest. We come to this conclusion because we 
assume that the majority of physicians receive most of their income 
from the services they personally furnish, not from those they refer. 
In addition, we assume that unless the physician established the entity 
to serve only his or her own patients, the entity receives referrals 
from other sources. Thus, the physician may still receive a return on 
the investment. Further, it is possible that, if physician ownership of 
entities providing the particular designated health services is 
prevalent in the area, what may occur is a ``shifting'' of referrals; 
that is, the loss of a physician's own referrals to the entity might be 
offset by other physicians shifting referrals to unrelated entities. 
These shifts would be acceptable under section 1877, provided they do 
not result from circumvention schemes.
    We do not believe the second option, divesting of the ownership 
interest, would necessarily have a significant economic effect. 
However, we assume, that, at least from an economic standpoint, most 
physicians invest in entities because they are income-producing. If an 
investment is successful, a physician may not have difficulty finding 
new investors willing to take over the physician's investment. The 
physician, in turn, can then invest the monies received in some other 
investment. We believe the cost of divesting will vary from situation 
to situation. (A search of the literature on this issue resulted in 
only anecdotal information that indicated that some physicians 
sustained a loss in divesting, while others did not.) We do see the 
possibility of a significant effect in the case of a physician who has, 
at considerable expense, established an entity to serve only his or her 
own patients, with the expectation of future return on that investment. 
We believe, however, that the exceptions in the statute and regulation 
allowing physicians to refer within their own practices (primarily the 
in-office ancillary services exception) will greatly reduce the number 
of physicians otherwise subject to the prohibition.
    It is difficult to estimate how many physicians would select the 
third option of changing the circumstances of their practices in order 
to meet an exception to the referral prohibition. It is also difficult 
to estimate the extent of the changes that would be necessary or the 
potential economic impact of any modifications. As an example of one 
modification, a physician maintains with other independently-practicing 
physicians a nonrural facility for furnishing X-rays. The physicians 
share premises, equipment, employees, and overhead costs. If an 
individual physician does not meet the requirements for the in-office 
ancillary exception found in section 1877(b)(2), the physician's 
Medicare referrals to that entity would be prohibited. In such a 
situation, as an alternative to options 1 and 2 above (stopping 
referrals or divesting), the physician could choose to form a group 
practice with the other physicians in order to qualify for the in-
office ancillary services exception. By forming a group practice, the 
referrals would not be prohibited if the services were furnished 
personally by the referring physician, personally by another physician 
who is a member of the same group practice as the referring physician, 
or if they are furnished personally by individuals who are directly 
supervised by any of these physicians and the billing and location 
requirements specified in the in-office ancillary exception are met.
    Although we realize that a physician reorganizing his or her 
practice in this way may be subject to various economic and noneconomic 
effects, we believe those effects will differ widely from case to case. 
Some physicians may need to make major alterations in their practices, 
while others may need only minor changes, with minimal or no help from 
legal or financial advisors. It is possible that some physicians would 
profit from reorganizing, while others might suffer losses. Thus, we 
cannot

[[Page 1718]]

judge whether any particular physician, or physicians in general, will 
sustain a significant economic impact because they have reconfigured 
their practices.
    Compensation arrangements: The statute defines a compensation 
arrangement very broadly as any arrangement involving any remuneration 
between a physician (or an immediate family member) and an entity, with 
certain narrowly defined exceptions. We believe that this definition 
involves almost every situation in which a physician or relative 
receives payment from an entity or makes payments to an entity, 
including payments under personal services contracts, employment 
agreements, sales contracts, and rentals or leases. The amount of data 
we would need to account for every compensation arrangement that might 
be affected by the law would likely be overwhelming, as well as subject 
to the constant changes inherent in the business world. As a result, it 
is difficult for us to assess how many physicians (or their relatives) 
are currently involved in compensation arrangements.
    We believe that most physicians who have compensation, rather than 
ownership, arrangements with an entity and are receiving fair payments 
will qualify for one of the many compensation-related exceptions set 
forth in this proposed rule, especially since we propose to exercise 
our authority to create several additional exceptions related to 
compensation. We expect that those who do not will be few in number, 
and, thus, this rule would not have an impact on a substantial number 
of physicians whose financial relationships are based on compensation.
2. Entities, Including Hospitals
    We lack the data to determine the number of entities that would be 
affected by this proposed rule. However, even if we were to assume that 
a substantial number of entities would be affected, we do not believe 
that, in general, the impact would be significant. In order for the 
effect on a substantial number of entities to be significant, this rule 
would have to result in a very significant decline in utilization of 
the designated health services. The statute was enacted to curb an 
abusive practice: the ordering by some physicians of unnecessary 
services because they have a financial incentive to do so. We do not 
believe, however, that the abuse is so prevalent that the survival of 
entities would be threatened because a physician's financial incentive 
to make referrals is removed. It is our view that most health care 
entities exist because they provide medically necessary services and 
that these services will continue to be furnished.
    In addition, the statute contains a number of exceptions to the 
referral prohibition that will allow physicians to continue to refer to 
any entity furnishing designated health services if certain criteria 
are met. These exceptions are set forth in this proposed rule. For 
example, Sec. 411.356(c) includes exceptions for ownership or 
investment interests in certain hospitals or in certain rural entities. 
Sections 411.357(c) and (d) include relevant exceptions related to 
compensation arrangements: Paragraph (c) provides an exception for bona 
fide employment relationships that meet certain conditions, and 
paragraph (d) provides an exception for remuneration for personal 
service arrangements that meet certain conditions. Also, this proposed 
rule would provide an additional exception for any compensation that 
is, among other things, based on fair market value. We believe many, if 
not most, of the financial relationships between physicians and 
entities, including hospitals, are covered by these exceptions.

C. Conclusion

    For the reasons stated above, we have determined, and the Secretary 
certifies, that, based on the limited data currently available to us, 
this proposed rule would not result in a significant economic impact on 
a substantial number of small entities or on the operations of a 
substantial number of small rural hospitals. In addition, for purposes 
of the Unfunded Mandates Reform Act, we believe that any significant 
economic results of this proposed rule originate from the general 
referral prohibition in the statute and not from an agency mandate. We 
have, in fact, liberalized the requirements in the law by adding new 
exceptions. In the relatively few instances in which we have added 
additional requirements, as authorized by the statute, our data is too 
limited for us to ascertain whether these new provisions alone may 
result in the expenditure by State, local, and tribal governments, in 
the aggregate, or by the private sector, of $100 million or more in any 
one year. In terms of requirements on State governments, it is the 
statute that applies aspects of the referral prohibition to State 
Medicaid agencies. This proposed rule does interpret the statute to 
apply the reporting requirements in section 1877(f) of the Act to 
States, but does not mandate any action. The proposed rule allows 
States to collect financial information from Medicaid providers in any 
form, manner, and at whatever times they choose.
    In accordance with the provisions of Executive Order 12866, this 
regulation was reviewed by the Office of Management and Budget.

VI. Collection of Information Requirements

    Under the Paperwork Reduction Act of 1995, we are required to 
provide 60-day notice in the Federal Register and solicit public 
comment before a collection of information requirement is submitted to 
the Office of Management and Budget (OMB) for review and approval. In 
order to fairly evaluate whether an information collection should be 
approved by OMB, section 3506(c)(2)(A) of the Paperwork Reduction Act 
of 1995 requires that we solicit comment on the following issues:
     The need for the information collection and its usefulness 
in carrying out the proper functions of our agency.
     The accuracy of our estimate of the information collection 
burden.
     The quality, utility, and clarity of the information to be 
collected.
     Recommendations to minimize the information collection 
burden on the affected public, including automated collection 
techniques.
    Sections 411.360 and 411.361 of this proposed rule contain 
information collection requirements that are subject to the Paperwork 
Reduction Act of 1995. However, we are not requiring the public to 
comply with these reporting requirements at this time. Instead we are 
seeking public comment to determine possible methods of implementing 
these information collection and recordkeeping requirements. Once we 
have determined how to impose these requirements in the least 
burdensome method, while meeting program requirements, we will publish 
a separate 60-day notice in the Federal Register seeking comments on 
the proposed information collection before it is submitted to OMB for 
review.
    Below is a discussion of the information collection requirements 
referenced in Secs. 411.360 and 411.361.
    As stated earlier in this preamble, a number of entities have 
pointed out to us that the amounts of data they are required to report 
under the statute as reflected in our current regulations will, in some 
circumstances, be overwhelming and perhaps almost impossible to 
acquire. Therefore, in order to make the reporting requirements more 
manageable, we intend to develop a streamlined ``reporting'' system 
that does not require entities to retain and submit large

[[Page 1719]]

quantities of data. We believe, however, that entities should retain 
enough records to demonstrate, in the event of an audit, that they have 
correctly determined that particular relationships are excepted under 
the law.
    We are proposing to limit the information that an entity must 
acquire, retain and, at some later point, possibly submit to us. We 
would include only those records covering information that the entity 
knows or should know about, in the course of prudently conducting 
business, including records that the entity is already required to 
retain to meet Internal Revenue Service and Security Exchange 
Commission rules, and other rules under the Medicare or Medicaid 
programs. We are circumscribing these records under the Secretary's 
discretion in section 1877(f) to ask entities to provide information in 
such form, manner, and at such times as the Secretary specifies. As 
stated above, when we develop a form for reporting information to us, 
we plan to first publish it as a proposed notice in order to receive 
public comment. If we later find that this plan is inadequate and elect 
to change the scope of the requirement, we will provide entities with 
adequate notice to comply.
    While we are not at this time proposing to impose reporting 
requirements, we do propose to make modifications to the existing 
information collection requirements referenced in this proposed rule. 
Existing Sec. 411.361 reflects the reporting requirements in section 
1877(f) of the Act. Specifically, Sec. 411.361 requires, with certain 
exceptions, that all entities furnishing services for which payment may 
be made under Medicare submit information to us concerning their 
financial relationships (as described in Sec. 411.361(d)). The 
requirement does not apply to entities that furnish 20 or fewer Part A 
and Part B services during a calendar year, or to designated health 
services furnished outside the United States. Paragraph (a) of 
Sec. 411.361 requires that all entities furnishing services for which 
payment may be made under Medicare submit information to us concerning 
their financial relationships in the form, manner, and at the times we 
specify. We would revise this to add that this information must be 
submitted on a HCFA-prescribed form. As stated above, this form would 
first be published as a proposed notice in order to receive public 
comment.
    Paragraph (c) of Sec. 411.361 requires that the entity submit 
information that includes at least the following with regard to each 
physician who has, or whose immediate family member has, a financial 
relationship with the entity: The name and unique physician 
identification number (UPIN) of the physician, the covered services 
furnished by the entity, and the nature of the financial relationship. 
We now propose to specify that the entity submit information that may 
include the information described above depending upon the process we 
select.
    Existing Sec. 411.361(d) provides that a reportable financial 
relationship is any ownership or investment interest or any 
compensation arrangement, as described in section 1877 of the Act. This 
proposed, would revise this section to specify that a financial 
relationship is any ownership or investment interest or any 
compensation arrangement, as defined in Sec. 411.351, including those 
relationships excepted under Secs. 411.355 through 411.357.
    We would also revise existing Sec. 411.361(e) as follows. Currently 
that paragraph requires that an entity provide updated information 
within 60 days from the date of any change in the submitted 
information. We propose to require instead that an entity report to 
HCFA once a year all changes in the submitted information that occurred 
in the previous 12 months.
    OBRA '93 amended section 1903 of the Act by adding a new 
paragraph(s) that, among other things, applied the reporting 
requirements of 1877(f) to a provider of a designated health service 
for which payment may be made under Medicaid in the same manner as 
those requirements apply to a Medicare provider. Therefore, at 
Sec. 455.109(a) of this proposed rule, we would specify that the 
Medicaid agency must require that each provider of services that 
furnishes designated health services that are covered by Medicaid 
submit information to the Medicaid agency concerning its financial 
relationships in such form, manner, and at such times as the agency 
specifies. Paragraph (c) of Sec. 445.109 would specify that the entity 
submit the same information identified with regard to Medicare 
providers/suppliers except that, instead of the UPIN, the entity would 
report the Medicaid State Specific Identifier of each physician who 
has, or whose immediate relative has, a financial relationship with the 
entity. Paragraph (d) of Sec. 445.109 would establish the same 
definition of what constitutes a reportable financial relationship as 
under Medicare, and paragraph (e) would give States the discretion to 
establish the timeframes within which providers must submit and update 
information. We solicit comments on these proposed changes to the 
existing reporting requirements.
    This proposed rule would also retain existing Sec. 411.360, which 
requires that a group practice that wants to be identified as such 
submit a written statement to its carrier annually to attest that it 
meets the ``substantially all'' test, one of the criteria that 
qualifies a group of physicians as a group practice (the criteria are 
set forth under the definition of a group practice in Sec. 411.351). 
This provision would now apply to any group of physicians who refer for 
or furnish designated health services and who wish to qualify as a 
group practice. We believe that, since this requirement has already 
been established by the August 1995 final rule, a significant number of 
physician groups may already be subject to the reporting requirements. 
We base this conclusion on the fact that many groups have their own 
clinical laboratories and will already be prepared to attest for 
purposes of complying with the final regulation covering referrals for 
clinical laboratory services. Once a group is identified as a group 
practice for purposes of laboratory services, it is identified as a 
group practice for all services. Thus it was the August 1995 final rule 
that established the burden for those groups. However, we have no way 
of estimating how many other groups of physicians will want to try to 
qualify as group practices exclusively for purposes of referring for 
some or all of the other designated health services. We specifically 
solicit information on this issue. A group of physicians must submit 
the attestation required by Sec. 411.360 within 60 days after receiving 
attestation instructions from its carrier.
    If you comment on these information collection and recordkeeping 
requirements, please mail copies directly to the following:

Health Care Financing Administration, Office of Financial and Human 
Resources, Management Planning and Analysis Staff, Attention: HCFA-
1809-P, Room C2-26-17, 7500 Security Boulevard, Baltimore, MD 21244-
1850.
Office of Information and Regulatory Affairs, Office of Management and 
Budget, Room 10235, New Executive Office Building, Washington, DC 
20503, Attn: Allison Herron Eydt, HCFA Desk Officer.

VII. Response to Comments

    Because of the large number of items of correspondence we normally 
receive on a proposed rule, we are not able to acknowledge or respond 
to them individually. We will, however, consider all comments that we 
receive by the date specified in the DATES section of this preamble 
and, if we

[[Page 1720]]

proceed with a final rule, we will respond to the comments in the 
preamble of the final rule. We will also respond, in that final rule, 
to comments that we received on the August 1995 final rule with comment 
covering referrals for clinical laboratory services.

List of Subjects

42 CFR Part 411

    Kidney diseases, Medicare, Physician referral, Reporting and 
recordkeeping requirements.

42 CFR Part 424

    Emergency medical services, Health facilities, Health professions, 
Medicare.

42 CFR Part 435

    Aid to Families with Dependent Children, Grant programs-health, 
Medicaid, Reporting and recordkeeping requirements, Supplemental 
Security Income (SSI), Wages.

42 CFR Part 455

    Fraud, Grant programs-health, Health facilities, Health 
professions, Investigations, Medicaid, Reporting and recordkeeping 
requirements.

    42 CFR chapter IV would be amended as set forth below:

PART 411--EXCLUSIONS FROM MEDICARE AND LIMITATIONS ON MEDICARE 
PAYMENT

    A. Part 411 is amended as follows:
    1. The authority citation for part 411 continues to read as 
follows:

    Authority: Secs. 1102 and 1871 of the Social Security Act (42 
U.S.C. 1302 and 1395hh).

    2. In Sec. 411.1, paragraph (a) is revised to read as follows:


Sec. 411.1  Basis and scope.

    (a) Statutory basis. Sections 1814(a) and 1835(a) of the Act 
require that a physician certify or recertify a patient's need for home 
health services, but in general, prohibit a physician from certifying 
or recertifying the need for services if the services will be furnished 
by a home health agency in which the physician has a significant 
ownership interest, or with which the physician has a significant 
financial or contractual relationship. Sections 1814(c), 1835(d), and 
1862 of the Act exclude from Medicare payment certain specified 
services. The Act provides special rules for payment of services 
furnished by Federal providers or agencies (sections 1814(c) and 
1835(d)), by hospitals and physicians outside the United States 
(sections 1814(f) and 1862(a)(4)), and by hospitals and SNFs of the 
Indian Health Service (section 1880). Section 1877 sets forth 
limitations on referrals and payment for designated health services 
furnished by entities with which the referring physician (or an 
immediate family member of the referring physician) has a financial 
relationship.
* * * * *
    3. In Sec. 411.350, paragraphs (a) and (c) are revised, and 
paragraph (b) is republished, to read as follows:


Sec. 411.350  Scope of subpart.

    (a) This subpart implements section 1877 of the Act, which 
generally prohibits a physician from making a referral under Medicare 
for designated health services to an entity with which the physician or 
a member of the physician's immediate family has a financial 
relationship.
    (b) This subpart does not provide for exceptions or immunity from 
civil or criminal prosecution or other sanctions applicable under any 
State laws or under Federal law other than section 1877 of the Act. For 
example, although a particular arrangement involving a physician's 
financial relationship with an entity may not prohibit the physician 
from making referrals to the entity under this subpart, the arrangement 
may nevertheless violate another provision of the Act or other laws 
administered by HHS, the Federal Trade Commission, the Securities and 
Exchange Commission, the Internal Revenue Service, or any other Federal 
or State agency.
    (c) This subpart requires, with some exceptions, that certain 
entities furnishing covered services under Part A or Part B report 
information concerning their ownership, investment, or compensation 
arrangements in the form, manner, and at the times specified by HCFA.
    4. Section 411.351 is revised to read as follows:


Sec. 411.351  Definitions.

    As used in this subpart, unless the context indicates otherwise:
    Clinical laboratory services means the biological, microbiological, 
serological, chemical, immunohematological, hematological, biophysical, 
cytological, pathological, or other examination of materials derived 
from the human body for the purpose of providing information for the 
diagnosis, prevention, or treatment of any disease or impairment of, or 
the assessment of the health of, human beings. These examinations also 
include procedures to determine, measure, or otherwise describe the 
presence or absence of various substances or organisms in the body.
    Compensation arrangement means any arrangement involving any 
remuneration, direct or indirect, between a physician (or a member of a 
physician's immediate family) and an entity.
    Designated health services means any of the following services 
(other than those provided as emergency physician services furnished 
outside of the United States), as they are defined in this section:
    (1) Clinical laboratory services.
    (2) Physical therapy services.
    (3) Occupational therapy services.
    (4) Radiology services and radiation therapy services and supplies.
    (5) Durable medical equipment and supplies.
    (6) Parenteral and enteral nutrients, equipment, and supplies.
    (7) Prosthetics, orthotics, and prosthetic devices and supplies.
    (8) Home health services.
    (9) Outpatient prescription drugs.
    (10) Inpatient and outpatient hospital services.
    Direct supervision means supervision by a physician who is present 
in the office suite in which the services are being furnished, 
throughout the time they are being furnished, and immediately available 
to provide assistance and direction. ``Present in the office suite'' 
means that the physician is actually physically present. However, the 
physician is still considered ``present'' during brief unexpected 
absences as well as during routine absences of a short duration (such 
as during a lunch break), provided the absences occur during time 
periods in which the physician is otherwise scheduled and ordinarily 
expected to be present and the absences do not conflict with any other 
requirements in the Medicare program for a particular level of 
physician supervision.
    Durable medical equipment has the meaning given in section 1861(n) 
of the Act and Sec. 414.202 of this chapter.
    Employee means any individual who, under the usual common law rules 
that apply in determining the employer-employee relationship (as 
applied for purposes of section 3121(d)(2) of the Internal Revenue Code 
of 1986), is considered to be employed by, or an employee of, an 
entity. (Application of these common law rules is discussed at 20 CFR 
404.1007 and 26 CFR 31.3121(d)-1(c).)
    Enteral nutrients, equipment, and supplies means items and supplies 
needed to provide enteral nutrition to a patient with a functioning 
gastrointestinal tract who, due to pathology to or nonfunction of the 
structures that normally permit food to reach the digestive tract, 
cannot maintain weight and strength

[[Page 1721]]

commensurate with his or her general condition, as described in section 
65-10 of the Medicare Coverage Issues Manual (HCFA Pub. 6).
    Entity means a physician's sole practice or a practice of multiple 
physicians that provides for the furnishing of designated health 
services, or any other sole proprietorship, trust, corporation, 
partnership, foundation, not-for-profit corporation, or unincorporated 
association.
    Fair market value means the value in arm's-length transactions, 
consistent with the general market value. ``General market value'' 
means 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. 
With respect to the rentals and leases described in Sec. 411.357(a) and 
(b), fair market value means the value of rental property for general 
commercial purposes (not taking into account its intended use). In the 
case of a lease of space, this value may not be adjusted to reflect the 
additional value the prospective lessee or lessor would attribute to 
the proximity or convenience to the lessor when the lessor is a 
potential source of patient referrals to the lessee.
    Financial relationship means a direct or indirect ownership or 
investment interest (including an option or nonvested interest) in any 
entity that exists through equity, debt, or other means and includes 
any indirect ownership or investment interest no matter how many levels 
removed from a direct interest (for example, a financial relationship 
in an entity furnishing designated health services exists if the 
individual has an ownership or investment interest in an entity that 
holds an ownership or investment interest in an entity that furnishes 
designated health services), or a compensation arrangement with an 
entity.
    Group practice means a group of two or more physicians, legally 
organized as a single partnership, professional corporation, 
foundation, not-for-profit corporation, faculty practice plan, or 
similar association, with the exception that a group can consist of 
physicians who are also individually incorporated as professional 
corporations. To qualify as a group practice, a group must meet the 
following conditions:
    (1) Each physician who is a member of the group, as defined in this 
section, furnishes substantially the full range of patient care 
services that the physician routinely furnishes, including medical 
care, consultation, diagnosis, and treatment, through the joint use of 
shared office space, facilities, equipment, and personnel.
    (2) Except as provided in paragraphs (2)(i) and (2)(ii) of this 
definition, substantially all of the patient care services of the 
physicians who are members of the group (that is, at least 75 percent 
of the total patient care services of the group practice members) are 
furnished through the group and billed under a billing number assigned 
to the group and the amounts received are treated as receipts of the 
group. ``Patient care services'' are measured by the total patient care 
time each member spends on these services (for example, if a physician 
practices 40 hours a week and spends 30 hours on patient care services 
for a group practice, the physician has spent 75 percent of his or her 
time providing countable patient care services).
    (i) The ``substantially all'' test does not apply to any group 
practice that is located solely in an HPSA, as defined in this section.
    (ii) For group practices located outside of an HPSA (as defined in 
this section) any time spent by group practice members providing 
services in an HPSA should not be used to calculate whether the group 
practice located outside the HPSA has met the ``substantially all'' 
test, regardless of whether the members' time in the HPSA is spent in a 
group practice, clinic, or office setting.
    (3) The overhead expenses of and income from the practice are 
distributed according to methods that are determined prior to the time 
period during which the group has earned the income or incurred the 
costs.
    (4) The overhead expenses of and the income from the practice are 
distributed according to methods that indicate that the practice is a 
unified business. That is, the methods must reflect centralized 
decision making, a pooling of expenses and revenues, and a distribution 
system that is not based on each satellite office operating as if it 
were a separate enterprise.
    (5) No physician who is a member of the group directly or 
indirectly receives compensation based on the volume or value of 
referrals by the physician, except that a physician in a group practice 
may be paid a share of overall profits of the group or a productivity 
bonus based on services he or she has personally performed or services 
incident to these personally performed services, as long as the share 
or bonus is not determined in any manner that is directly related to 
the volume or value of referrals by the physician.
    (6) Members of the group personally conduct no less that 75 percent 
of the physician-patient encounters of the group practice.
    (7) In the case of faculty practice plans associated with a 
hospital, institution of higher education, or medical school that has 
an approved medical residency training program in which faculty 
practice plan physicians perform specialty and professional services, 
both within and outside the faculty practice, as well as perform other 
tasks such as research, this definition applies only to those services 
that are furnished within the faculty practice plan.
    Home health services means the services described in section 
1861(m) of the Act and part 409, subpart E of this chapter.
    Hospital means any entity that qualifies as a ``hospital'' under 
section 1861(e) of the Act, as a ``psychiatric hospital'' under section 
1861(f) of the Act, or as a ``rural primary care hospital'' under 
section 1861(mm)(1) of the Act, and refers to any separate legally-
organized operating entity plus any subsidiary, related entity, or 
other entities that perform services for the hospital's patients and 
for which the hospital bills. However, a ``hospital'' does not include 
entities that perform services for hospital patients ``under 
arrangements'' with the hospital.
    HPSA means, for purposes of this subpart, an area designated as a 
health professional shortage area under section 332(a)(1)(A) of the 
Public Health Service Act for primary medical care professionals (in 
accordance with the criteria specified in 42 CFR part 5, appendix A, 
Part I-Geographic Areas). In addition, with respect to dental, mental 
health, vision care, podiatric, and pharmacy services, an HPSA means an 
area designated as a health professional shortage area under section 
332(a)(1)(A) of the Public Health Service Act for dental professionals, 
mental health professionals, vision care professionals, podiatric 
professionals, and pharmacy professionals, respectively.
    Immediate family member or member of a physician's immediate family 
means husband or wife; natural or adoptive parent, child, or sibling; 
stepparent, stepchild, stepbrother, or

[[Page 1722]]

stepsister; father-in-law, mother-in-law, son-in-law, daughter-in-law, 
brother-in-law, or sister-in-law; grandparent or grandchild; and spouse 
of a grandparent or grandchild.
    Inpatient hospital services are those services defined in section 
1861(b) of the Act and Sec. 409.10(a) and (b) of this chapter, and 
include inpatient psychiatric hospital services listed in section 
1861(c) of the Act and inpatient rural primary care hospital services, 
as defined in section 1861(mm)(2) of the Act. ``Inpatient hospital 
services'' do not include emergency inpatient services provided by a 
hospital located outside the United States and covered under the 
authority in section 1814(f)(2) of the Act and part 424, subpart H of 
this chapter and emergency inpatient services provided by a 
nonparticipating hospital within the United States, as authorized by 
section 1814(d) of the Act and described in part 424, subpart G of this 
chapter. These services also do not include dialysis furnished by a 
hospital that is not certified to provide end stage renal dialysis 
(ESRD) services under subpart U of 42 CFR 405.
    Inpatient hospital services include services that a hospital 
provides for its patients that are furnished either by the hospital or 
by others under arrangements with the hospital. They do not encompass 
the services of other physicians, physician assistants, nurse 
practitioners, clinical nurse specialists, certified nurse midwives, 
and certified registered nurse anesthetists and qualified psychologists 
who bill independently.
    Laboratory means an entity furnishing biological, microbiological, 
serological, chemical, immunohematological, hematological, biophysical, 
cytological, pathological, or other examination of materials derived 
from the human body for the purpose of providing information for the 
diagnosis, prevention, or treatment of any disease or impairment of, or 
the assessment of the health of, human beings. These examinations also 
include procedures to determine, measure, or otherwise describe the 
presence or absence of various substances or organisms in the body. 
Entities only collecting or preparing specimens (or both) or only 
serving as a mailing service and not performing testing are not 
considered laboratories.
    Members of the group means physician partners and other physician 
owners (including physicians whose interest is held by an individual 
professional corporation), and full-time and part-time physician 
employees. These physicians are ``members'' during the time they 
furnish ``patient care services'' to the group.
    Occupational therapy services means those services described at 
section 1861(g) of the Act and Sec. 410.100(c) of this chapter. 
Occupational therapy services also include any other services with the 
characteristics described in Sec. 410.100(c) that are covered under 
Medicare Part A or B, regardless of who furnishes them, the location in 
which they are furnished, or how they are billed.
    Orthotics means leg, arm, back, and neck braces, as listed in 
section 1861(s)(9) of the Act.
    Outpatient hospital services means the therapeutic, diagnostic, and 
partial hospitalization services listed under section 1861(s)(2)(B) and 
(C) of the Act; outpatient services furnished by a psychiatric 
hospital, as defined in section 1861(f); and outpatient rural primary 
care hospital services, as defined in section 1861(mm)(3); but 
excluding emergency services covered in nonparticipating hospitals 
under the conditions described in section 1835(b) of the Act and 
subpart G of part 424 of this chapter.
    Outpatient prescription drugs means those drugs (including 
biologicals) defined or listed under section 1861(t) and (s) of the Act 
and part 410 of this chapter, that a patient can obtain from a pharmacy 
with a prescription (even if the patient can only receive the drug 
under medical supervision), and that are furnished to an individual 
under Medicare Part B, but excluding erythropoietin and other drugs 
furnished as part of a dialysis treatment for an individual who 
dialyzes at home or in a facility.
    Parenteral nutrients, equipment, and supplies means those items and 
supplies needed to provide nutriment to a patient with permanent, 
severe pathology of the alimentary tract that does not allow absorption 
of sufficient nutrients to maintain strength commensurate with the 
patient's general condition, as described in section 65-10 of the 
Medicare Coverage Issues Manual (HCFA Pub. 6).
    Patient care services means any tasks performed by a group practice 
member that address the medical needs of specific patients or patients 
in general, regardless of whether they involve direct patient 
encounters, or tasks that generally benefit a particular practice. They 
can include, for example, the services of physicians who do not 
directly treat patients, such as time spent by a physician consulting 
with other physicians or reviewing laboratory tests, or time spent 
training staff members, arranging for equipment, or performing 
administrative or management tasks.
    Physical therapy services means those outpatient physical therapy 
services (including speech-language pathology services) described at 
section 1861(p) of the Act and at Sec. 410.100(b) and (d) of this 
chapter. Physical therapy services also include any other services with 
the characteristics described in Sec. 400.100(b) and (d) that are 
covered under Medicare Part A or B, regardless of who provides them, 
the location in which they are provided, or how they are billed.
    Physician incentive plan means any compensation arrangement between 
an entity and a physician or physician group that may directly or 
indirectly have the effect of reducing or limiting services furnished 
with respect to individuals enrolled with the entity.
    Plan of care means the establishment by a physician of a course of 
diagnosis or treatment (or both) for a particular patient, including 
the ordering of services.
    Prosthetic device and supplies: Prosthetic device means a device 
(other than a dental device) listed in section 1861(s)(8) that replaces 
all or part of an internal body organ, including colostomy bags and 
including one pair of conventional eyeglasses or contact lenses 
furnished subsequent to each cataract surgery with insertion of an 
intraocular lens. Prosthetic supplies are supplies that are necessary 
for the effective use of a prosthetic device (including supplies 
directly related to colostomy care).
    Prosthetics means artificial legs, arms, and eyes, as described in 
section 1861(s)(9) of the Act.
    Radiology services and radiation therapy and supplies means any 
diagnostic test or therapeutic procedure using X-rays, ultrasound or 
other imaging services, computerized axial tomography, magnetic 
resonance imaging, radiation, or nuclear medicine, and diagnostic 
mammography services, as covered under section 1861(s)(3) and (4) of 
the Act and Secs. 410.32(a), 410.34, and 410.35 of this chapter, 
including the professional component of these services, but excluding 
any invasive radiology procedure in which the imagingmodality is used 
to guide a needle, probe, or a catheter accurately.
    Referral--
    (1) Means either of the following:
    (i) Except as provided in paragraph (2) of this definition, the 
request by a physician for, or ordering of, or the certifying or 
recertifying of the need for, any designated health service for which 
payment may be made under Medicare Part B (or, for purposes of the 
Medicaid program, a comparable service covered under the Medicaid State 
plan), including a request for a consultation

[[Page 1723]]

with another physician and any test or procedure ordered by or to be 
performed by (or under the supervision of) that other physician.
    (ii) Except as provided in paragraph (2) of this definition, a 
request by a physician that includes the provision of any other 
designated health service for which payment may be made under Medicare 
(or, for purposes of the Medicaid program, a comparable service covered 
under the Medicaid State plan) the establishment of a plan of care by a 
physician that includes the provision of such a designated health 
service, or the certifying or recertifying of the need for such a 
designated health service.
    (2) Does not include a request by a pathologist for clinical 
diagnostic laboratory tests and pathological examination services, by a 
radiologist for diagnostic radiology services, and by a radiation 
oncologist for radiation therapy, if--
    (i) The request results from a consultation initiated by another 
physician; and
    (ii) The tests or services are furnished by or under the 
supervision of the pathologist, radiologist, or radiation oncologist.
    Referring physician means a physician who makes a referral as 
defined in this section.
    Remuneration means any payment, discount, forgiveness of debt, or 
other benefit made directly or indirectly, overtly or covertly, in cash 
or in kind, except that the following are not considered remuneration:
    (1) The forgiveness of amounts owed for inaccurate tests or 
procedures, mistakenly performed tests or procedures, or the correction 
of minor billing errors.
    (2) The furnishing of items, devices, or supplies that are used 
solely to collect, transport, process, or store specimens for the 
entity furnishing the items, devices, or supplies or are used solely to 
order or communicate the results of tests or procedures for the entity.
    (3) A payment made by an insurer or a self-insured plan to a 
physician to satisfy a claim, submitted on a fee-for-service basis, for 
the furnishing of health services by that physician to an individual 
who is covered by a policy with the insurer or by the self-insured 
plan, if--
    (i) The health services are not furnished, and the payment is not 
made, under a contract or other arrangement between the insurer or the 
plan and the physician;
    (ii) The payment is made to the physician on behalf of the covered 
individual and would otherwise be made directly to the individual; and
    (iii) The amount of the payment is set in advance, does not exceed 
fair market value, and is not determined in a manner that takes into 
account directly or indirectly the volume or value of any referrals or 
other business generated between the parties.
    Transaction: A transaction is an instance or process of two or more 
persons or entities doing business. An isolated transaction is one 
involving a single payment between two or more persons or entities. A 
transaction that involves long-term or installment payments is not 
considered an isolated transaction.
    5. Section 411.353 is revised to read as follows:


Sec. 411.353  Prohibition on certain referrals by physicians and 
limitations on billing.

    (a) Prohibition on referrals. Except as provided in this subpart, a 
physician who has a financial relationship with an entity, or who has 
an immediate family member who has a financial relationship with the 
entity, may not make a referral to that entity for the furnishing of 
designated health services for which payment otherwise may be made 
under Medicare.
    (b) Limitations on billing. An entity that furnishes designated 
health services under a referral that is prohibited by paragraph (a) of 
this section may not present or cause to be presented a claim or bill 
to the Medicare program or to any individual, third party payer, or 
other entity for the designated health services performed under that 
referral.
    (c) Denial of payment. No Medicare payment may be made for a 
designated health service that is furnished under a prohibited 
referral.
    (d) Refunds. An entity that collects payment for a designated 
health service that was performed under a prohibited referral must 
refund all collected amounts on a timely basis, as defined in 
Sec. 1003.101 of Chapter V.
    6. Section 411.355 is revised to read as follows:


Sec. 411.355  General exceptions to the referral prohibition related to 
both ownership/investment and compensation.

    The prohibition on referrals set forth in Sec. 411.353 does not 
apply to the following types of services:
    (a) Physician services, as defined in Sec. 410.20(a), that are 
furnished personally by (or under the personal supervision of) another 
physician in the same group practice as the referring physician.
    (b) In-office ancillary services. Services (including infusion 
pumps and crutches, but excluding all other durable medical equipment 
and parenteral and enteral nutrients, equipment, and supplies), that 
meet the following conditions:
    (1) They are furnished personally by one of the following 
individuals:
    (i) The referring physician.
    (ii) A physician who is a member of the same group practice as the 
referring physician.
    (iii) Individuals who are directly supervised by the referring 
physician or, in the case of group practices, by another physician 
member of the same group practice as the referring physician.
    (2) They are furnished in one of the following locations:
    (i) The same building in which the referring physician (or another 
physician who is a member of the same group practice) furnishes 
physician services unrelated to the furnishing of designated health 
services. The ``same building'' means the same physical structure, with 
one address, and not multiple structures connected by tunnels or 
walkways.
    (ii) A building that is used by the group practice for the 
provision of some or all of the group's clinical laboratory services.
    (iii) A building that is used by the group practice for the 
centralized provision of the group's designated health services (other 
than clinical laboratory services).
    (3) They are billed by one of the following:
    (i) The physician performing or supervising the service.
    (ii) The group practice of which the performing or supervising 
physician is a member under a billing number assigned to the group 
practice.
    (iii) An entity that is wholly owned by the physician or the 
physician's group practice.
    (4) In the case of crutches, the physician realizes no direct or 
indirect profit from furnishing the crutches.
    (c) Services furnished to prepaid health plan enrollees by one of 
the following organizations:
    (1) An HMO or a CMP in accordance with a contract with HCFA under 
section 1876 of the Act and part 417, subparts J through M of this 
chapter.
    (2) A health care prepayment plan in accordance with an agreement 
with HCFA under section 1833(a)(1)(A) of the Act and part 417, subpart 
U of this chapter.
    (3) An organization that is receiving payments on a prepaid basis 
for Medicare enrollees through a demonstration project under section 
402(a) of the Social Security

[[Page 1724]]

Amendments of 1967 (42 U.S.C. 1395b-1) or under section 222(a) of the 
Social Security Amendments of 1972 (42 U.S.C. 1395b-1 note).
    (4) A qualified health maintenance organization (within the meaning 
of section 1310(d) of the Public Health Service Act).
    (d) Services furnished under certain payment rates. (1) Services 
furnished in an ambulatory surgical center (ASC) or ESRD facility or by 
a hospice if payment for those services is included in the ASC payment 
rate, the ESRD composite payment rate, or as part of the hospice 
payment rate, respectively; and
    (2) Services furnished under other payment rates that the Secretary 
determines provide no financial incentive for under or overutilization, 
or any other risk of program or patient abuse.
    7. Section 411.356 is revised to read as follows:


Sec. 411.356  Exceptions to the referral prohibition related to 
ownership or investment interests.

    For purposes of Sec. 411.353, the following ownership or investment 
interests do not constitute a financial relationship:
    (a) Publicly-traded securities. Ownership of investment securities 
(including shares or bonds, debentures, notes, or other debt 
instruments) that at the time they were obtained could be purchased on 
the open market and that meet the requirements of paragraphs (a)(1) and 
(a)(2) of this section.
    (1) They are either--
    (i) Listed for trading on the New York Stock Exchange, the American 
Stock Exchange, or any regional exchange in which quotations are 
published on a daily basis, or foreign securities listed on a 
recognized foreign, national, or regional exchange in which quotations 
are published on a daily basis, or
    (ii) Traded under an automated interdealer quotation system 
operated by the National Association of Securities Dealers.
    (2) They are in a corporation that had stockholder equity exceeding 
$75 million at the end of the corporation's most recent fiscal year or 
on average during the previous 3 fiscal years. ``Stockholder equity'' 
is the difference in value between a corporation's total assets and 
total liabilities.
    (b) Mutual funds. Ownership of shares in a regulated investment 
company as defined in section 851(a) of the Internal Revenue Code of 
1986, if the company had, at the end of its most recent fiscal year, or 
on average during the previous 3 fiscal years, total assets exceeding 
$75 million.
    (c) Specific providers. Ownership or investment interest in the 
following entities, for purposes of the services specified:
    (1) A rural provider, in the case of designated health services 
furnished in a rural area by the provider. A ``rural provider'' is an 
entity that furnishes substantially all (not less than 75 percent) of 
the designated health services that it furnishes to residents of a 
rural area (that is, an area that is not an urban area as defined in 
Sec. 412.62(f)(1)(ii) of this chapter).
    (2) A hospital that is located in Puerto Rico, in the case of 
designated health services furnished by such a hospital.
    (3) A hospital that is located outside of Puerto Rico, in the case 
of designated health services furnished by such a hospital, if the 
referring physician is authorized to perform services at the hospital, 
and the physician's ownership or investment interest is in the entire 
hospital and not merely in a distinct part or department of the 
hospital.
    8. Section 411.357 is revised to read as follows:


Sec. 411.357  Exceptions to the referral prohibition related to 
compensation arrangements.

    For purposes of Sec. 411.353, the following compensation 
arrangements do not constitute a financial relationship:
    (a) Rental of office space. Payments for the use of office space 
made by a lessee to a lessor if there is a rental or lease agreement 
that meets the following requirements:
    (1) The agreement is set out in writing, is signed by the parties, 
and specifies the premises it covers.
    (2) The term of the agreement is at least 1 year.
    (3) The space rented or leased does not exceed that which is 
reasonable and necessary for the legitimate business purposes of the 
lease or rental and is used exclusively by the lessee when being used 
by the lessee, except that the lessee may make payments for the use of 
space consisting of common areas if the payments do not exceed the 
lessee's pro rata share of expenses for the space based upon the ratio 
of the space used exclusively by the lessee to the total amount of 
space (other than common areas) occupied by all persons using the 
common areas.
    (4) The rental charges over the term of the agreement are set in 
advance and are consistent with fair market value.
    (5) The charges are not determined in a manner that takes into 
account the volume or value of any referrals or other business 
generated between the parties.
    (6) The agreement would be commercially reasonable even if no 
referrals were made between the lessee and the lessor.
    (b) Rental of equipment. Payments made by a lessee to a lessor for 
the use of equipment under the following conditions:
    (1) A rental or lease agreement is set out in writing, is signed by 
the parties, and specifies the equipment it covers.
    (2) The equipment rented or leased does not exceed that which is 
reasonable and necessary for the legitimate business purposes of the 
lease or rental and is used exclusively by the lessee when being used 
by the lessee.
    (3) The agreement provides for a term of rental or lease of at 
least 1 year.
    (4) The rental charges over the term of the agreement are set in 
advance, are consistent with fair market value, and are not determined 
in a manner that takes into account the volume or value of any 
referrals or other business generated between the parties.
    (5) The agreement would be commercially reasonable even if no 
referrals were made between the parties.
    (c) Bona fide employment relationships. Any amount paid by an 
employer to a physician (or immediate family member) who has a bona 
fide employment relationship with the employer for the provision of 
services if the following conditions are met:
    (1) The employment is for identifiable services.
    (2) The amount of the remuneration under the employment is--
    (i) Consistent with the fair market value of the services; and
    (ii) Except as provided in paragraph (c)(4) of this section, is not 
determined in a manner that takes into account (directly or indirectly) 
the volume or value of any referrals by the referring physician or 
other business generated between the parties.
    (3) The remuneration is provided under an agreement that would be 
commercially reasonable even if no referrals were made to the employer.
    (4) Paragraph (c)(2)(ii) of this section does not prohibit payment 
of remuneration in the form of a productivity bonus based on services 
performed personally by the physician (or immediate family member of 
the physician) if the bonus is not directly related to the volume or 
value of a physician's own referrals.
    (d) Personal service arrangements--(1) General. Remuneration from 
an entity under an arrangement or multiple arrangements to a physician, 
an immediate family member of the physician, or to a group practice, 
including remuneration for specific physician services furnished to a

[[Page 1725]]

nonprofit blood center, if the following conditions are met:
    (i) Each arrangement is set out in writing, is signed by the 
parties, and specifies the services covered by the arrangement.
    (ii) The arrangement(s) covers all of the services to be furnished 
by the physician (or an immediate family member of the physician) to 
the entity, and all separate arrangements between the entity and the 
physician and the entity and any family members incorporate each other 
by reference. A physician or family member can ``furnish'' services 
through employees whom they have hired for the purpose of performing 
the services.
    (iii) The aggregate services contracted for do not exceed those 
that are reasonable and necessary for the legitimate business purposes 
of the arrangement(s).
    (iv) The term of each arrangement is for at least 1 year.
    (v) The compensation to be paid over the term of each arrangement 
is set in advance, does not exceed fair market value, and, except in 
the case of a physician incentive plan, is not determined in a manner 
that takes into account the volume or value of any referrals or other 
business generated between the parties.
    (vi) The services to be furnished under each arrangement do not 
involve the counseling or promotion of a business arrangement or other 
activity that violates any State or Federal law.
    (2) Physician incentive plan exception. In the case of a physician 
incentive plan between a physician and an entity, the compensation may 
be determined in a manner (through a withhold, capitation, bonus, or 
otherwise) that takes into account directly or indirectly the volume or 
value of any referrals or other business generated between the parties, 
if the plan meets the following requirements:
    (i) No specific payment is made directly or indirectly under the 
plan to a physician or a physician group as an inducement to reduce or 
limit medically necessary services furnished with respect to a specific 
individual enrolled with the entity.
    (ii) Upon request by the Secretary, the entity provides the 
Secretary with access to the information about the plan specified in 
417.479(h) of this chapter.
    (iii) In the case of a plan that places a physician or a physician 
group at substantial financial risk as determined by the Secretary 
under Sec. 417.479(e) and (f) of this chapter, the entity complies with 
the requirements concerning physician incentive plans set forth at 
Sec. 417.479(g) and (i).
    (e) Physician recruitment. Remuneration provided by a hospital to 
recruit a physician that is intended to induce the physician to 
relocate to the geographic area served by the hospital in order to 
become a member of the hospital's medical staff, if all of the 
following conditions are met:
    (1) The arrangement is set out in writing and signed by both 
parties.
    (2) The arrangement is not conditioned on the physician's referral 
of patients to the hospital.
    (3) The hospital does not determine (directly or indirectly) the 
amount of the remuneration to the physician based on the volume or 
value of any referrals by the physician or other business generated 
between the parties.
    (4) The physician is not precluded from establishing staff 
privileges at another hospital or referring business to another entity.
    (f) Isolated transactions. Isolated financial transactions, such as 
a one-time sale of property or a practice, if all of the following 
conditions are met:
    (1) The amount of remuneration under the transaction is--
    (i) Consistent with the fair market value of the transaction; and
    (ii) Not determined in a manner that takes into account (directly 
or indirectly) the volume or value of any referrals by the referring 
physician or other business generated between the parties.
    (2) The remuneration is provided under an agreement that would be 
commercially reasonable even if the physician made no referrals.
    (3) There are no additional transactions between the parties for 6 
months after the isolated transaction, except for transactions that are 
specifically excepted under the other provisions in Secs. 411.355 
through 411.357.
    (g) Arrangements with hospitals. Remuneration provided by a 
hospital to a physician if the remuneration does not relate, directly 
or indirectly, to the furnishing of designated health services. To 
qualify as ``unrelated,'' remuneration must not in any way reflect the 
volume or value of a physician's referrals.
    (h) Group practice arrangements with a hospital. An arrangement 
between a hospital and a group practice under which designated health 
services are furnished by the group but are billed by the hospital if 
the following conditions are met:
    (1) With respect to services furnished to an inpatient of the 
hospital, the arrangement is pursuant to the provision of inpatient 
hospital services under section 1861(b)(3) of the Act.
    (2) The arrangement began before, and has continued in effect 
without interruption since, December 19, 1989.
    (3) With respect to the designated health services covered under 
the arrangement, at least 75 percent of these services furnished to 
patients of the hospital are furnished by the group under the 
arrangement.
    (4) The arrangement is in accordance with a written agreement that 
specifies the services to be furnished by the parties and the 
compensation for services furnished under the agreement.
    (5) The compensation paid over the term of the agreement is 
consistent with fair market value, and the compensation per unit of 
services is fixed in advance and is not determined in a manner that 
takes into account the volume or value of any referrals or other 
business generated between the parties.
    (6) The compensation is provided in accordance with an agreement 
that would be commercially reasonable even if no referrals were made to 
the entity.
    (i) Payments by a physician. Payments made by a physician--
    (1) To a laboratory in exchange for the provision of clinical 
laboratory services, or
    (2) To an entity as compensation for any other items or services 
that are furnished at a price that is consistent with fair market 
value, and that are not specifically excepted under another provision 
in Secs. 411.355 through 411.357. ``Services'' in this context means 
services of any kind (not just those defined as ``services'' for 
purposes of the Medicare program in Sec. 400.202).
    (j) Discounts. Any discount made to a physician that is passed on 
in full to either the patient or the patient's insurers (including 
Medicare) and that does not enure to the benefit of the referring 
physician.
    (k) De minimis compensation. Compensation from an entity in the 
form of items or services (not including cash or cash equivalents) that 
does not exceed $50 per gift and an aggregate of $300 per year if--
    (1) The entity providing the compensation makes it available to all 
similarly situated individuals, regardless of whether these individuals 
refer patients to the entity for services; and
    (2) The compensation is not determined in any way that takes into 
account the volume or value of the physician's referrals to the entity.
    (l) Fair market value compensation. Compensation resulting from an 
arrangement between an entity and a physician (or immediate family 
member) or any group of physicians (regardless of whether the group 
meets

[[Page 1726]]

the definition of a group practice set forth at Sec. 411.351) if the 
arrangement is set forth in an agreement that meets the following 
conditions:
    (1) It is in writing, signed by the parties, and covers only 
identifiable items or services, all of which are specified in the 
agreement. The agreement covers all of the items and services to be 
provided by the physician and any immediate family member to the entity 
or, alternatively, cross refers to any other agreements for items or 
services between these parties.
    (2) It specifies the timeframe for the arrangement, which can be 
for any period of time and contain a termination clause, provided the 
parties enter into only one arrangement for the same items or services 
during the course of a year. An arrangement made for less than 1 year 
may be renewed any number of times if the terms of the arrangement and 
the compensation for the same items or services do not change.
    (3) It specifies the compensation that will be provided under the 
arrangement. The compensation, or the method for determining the 
compensation, must be set in advance, be consistent with fair market 
value, and not be determined in a manner that takes into account the 
volume or value of any referrals (as defined in Sec. 411.351), payment 
for referrals for medical services that are not covered under Medicare 
or Medicaid, or any other business generated between the parties.
    (4) It involves a transaction that is commercially reasonable and 
furthers the legitimate business purposes of the parties.
    (5) It meets a safe harbor under the anti-kickback statute or 
otherwise is in compliance with the anti-kickback provisions in section 
1128B(b) of the Act.
    9. In Sec. 411.360, paragraphs (a), (b), and (d) are revised to 
read as set forth below, and paragraphs (c) and (e) are republished.


Sec. 411.360  Group practice attestation.

    (a) Except as provided in paragraph (b) of this section, a group of 
physicians that wishes to qualify as a group practice (as defined in 
Sec. 411.351) must submit a written statement to its carrier annually 
to attest that, during the most recent 12-month period (calendar year, 
fiscal year, or immediately preceding 12-month period) 75 percent of 
the total patient care services of group practice members was furnished 
through the group, was billed under a billing number assigned to the 
group, and the amounts so received were treated as receipts of the 
group.
    (b) A newly-formed group (one in which physicians have recently 
begun to practice together) or any group practice that has been unable 
in the past to meet the requirements of section 1877(h)(4) of the Act 
or Sec. 411.351, that wishes to qualify as a group practice, must--
    (1) Submit a written statement to attest that, during the next 12-
month period (calendar year, fiscal year, or next 12 months), it 
expects to meet the 75 percent standard and will take measures to 
ensure that the standard is met; and
    (2) At the end of the 12-month period, submit a written statement 
to attest that it met the 75 percent standard during that period, 
billed for those services under a billing number assigned to the group, 
and treated amounts received for those services as receipts of the 
group. If the group did not meet the standard, any Medicare payments 
made for designated health services furnished by the group during the 
12-month period that were conditioned upon the standard being met are 
overpayments.
    (c) Once any group has chosen whether to use its fiscal year, the 
calendar year, or some other 12-month period, the group practice must 
adhere to this choice.
    (d) The attestation must be signed by an authorized representative 
of the group practice who is knowledgeable about the group, and must 
contain a statement that the information furnished in the attestation 
is true and accurate to the best of the representative's knowledge and 
belief. Any person filing a false statement will be subject to 
applicable criminal and/or civil penalties.
    (e) A group that intends to meet the definition of a group practice 
in order to qualify for an exception described in Secs. 411.355 through 
411.357, must submit the attestation required by paragraph (a) or 
(b)(1) of this section, as applicable, to its carrier no later than 60 
days after receipt of the attestation instructions from its carrier.
    10. In Sec. 411.361, paragraphs (a) through (e) are revised to read 
as set forth below, and paragraphs (f) and (g) are republished.


Sec. 411.361  Reporting requirements.

    (a) Basic rule. Except as provided in paragraph (b) of this 
section, all entities furnishing services for which payment may be made 
under Medicare must submit information to HCFA concerning their 
financial relationships (as defined in paragraph (d) of this section), 
in the form, manner, and at the times that HCFA specifies using an 
HCFA-prescribed form.
    (b) Exception. The requirements of paragraph (a) of this section do 
not apply to entities that furnish 20 or fewer Part A and Part B 
services during a calendar year, or to any Medicare covered services 
furnished outside the United States.
    (c) Required information. The information requested by HCFA can 
include the following:
    (1) The name and unique physician identification number (UPIN) of 
each physician who has a financial relationship with the entity.
    (2) The name and UPIN of each physician who has an immediate 
relative (as defined in Sec. 411.351) who has a financial relationship 
with the entity.
    (3) The covered services furnished by the entity.
    (4) With respect to each physician identified under paragraphs 
(c)(1) and (c)(2) of this section, the nature of the financial 
relationship (including the extent and/or value of the ownership or 
investment interest or the compensation arrangement, if requested by 
HCFA).
    (d) Reportable financial relationships. For purposes of this 
section, a financial relationship is any ownership or investment 
interest or any compensation arrangement, as defined in Sec. 411.351, 
including those relationships excepted under Secs. 411.355 through 
411.357.
    (e) Form and timing of reports. Entities that are subject to the 
requirements of this section must submit the required information on a 
HCFA-prescribed form within the time period specified by the servicing 
carrier or intermediary. Entities are given at least 30 days from the 
date of the carrier's or intermediary's request to provide the initial 
information. Thereafter, an entity must report to HCFA once a year all 
changes in the submitted information that occurred in the previous 12 
months. Entities must retain documentation sufficient to verify the 
information provided on the forms and, upon request, must make that 
documentation available to HCFA or the OIG.
    (f) Consequences of failure to report. Any person who is required, 
but fails, to submit information concerning his or her financial 
relationships in accordance with this section is subject to a civil 
money penalty of up to $10,000 for each day of the period beginning on 
the day following the applicable deadline established under paragraph 
(e) of this section until the information is submitted. Assessment of 
these penalties will comply with the applicable provisions of part 1003 
of this title.

[[Page 1727]]

    (g) Public disclosure. Information furnished to HCFA under this 
section is subject to public disclosure in accordance with the 
provisions of part 401 of this chapter.

PART 424--CONDITIONS FOR MEDICARE PAYMENT

    B. Part 424 is amended as follows:
    1. The authority citation for part 424 continues to read as 
follows:

    Authority: Secs. 1102 and 1871 of the Social Security Act (42 
U.S.C. 1302 and 1395hh).

    2. In Sec. 424.22, paragraph (d) is revised to read as set forth 
below, and paragraphs (e), (f), and (g) are removed.


Sec. 424.22  Requirements for home health services.

* * * * *
    (d) Limitation on the performance of certification and plan of 
treatment functions. The need for home health services to be provided 
by an HHA may not be certified or recertified, and a plan of treatment 
may not be established and reviewed, by any physician who has a 
financial relationship, as defined in Sec. 411.351 of this chapter, 
with that HHA, unless the physician's relationship meets one of the 
exceptions in Secs. 411.355 through 411.357 of this chapter.

PART 435--ELIGIBILITY IN THE STATES, DISTRICT OF COLUMBIA, THE 
NORTHERN MARIANA ISLANDS, AND AMERICAN SAMOA

    C. Part 435 is amended as follows:
    1. The authority citation for part 435 continues to read as 
follows:

    Authority: Sec. 1102 of the Social Security Act (42 U.S.C. 
1302).

    2. In Sec. 435.1002, paragraph (a) is revised to read as follows:


Sec. 435.1002  FFP for services.

    (a) Except for the limitations and conditions specified in 
Secs. 435.1007, 435.1008, and 435.1012, FFP is available in 
expenditures for Medicaid services for all recipients whose coverage is 
required or allowed under this part.
* * * * *
    3. Section 435.1012 is added to subpart K, under an undesignated 
centered heading, to read as follows:

Limitation on FFP Related to Prohibited Referrals


Sec. 435.1012  Limitation on FFP related to prohibited referrals.

    (a) Basic rule. Except as specified in paragraph (b) of this 
section, no FFP in the State's expenditures for services is available 
for expenditures for designated health services (as defined in 
Sec. 411.351 of this chapter) furnished under the State plan to an 
individual on the basis of a physician referral that would, if Medicare 
provided for coverage of the services to the same extent and under the 
same terms and conditions as under the State plan, result in the denial 
of Medicare payment for the services under Secs. 411.351 through 
411.360 of this chapter. (Section 411.353 provides that if a physician 
(or an immediate family member) has a financial relationship with an 
entity, the physician may not make a referral to that entity for the 
furnishing of designated health services for which payment otherwise 
may be made under Medicare and denies payment for any service furnished 
under a prohibited referral. Section 411.351 contains definitions, and 
Secs. 411.355 through 411.357 provide exceptions to the prohibition on 
referrals.) The provisions of this section are based on section 1903(s) 
of the Act, which applies to Medicaid aspects of the Medicare rules 
limiting physician referrals.
    (b) Exception for services furnished to enrollees on a 
predetermined, capitated basis. The limitation on FFP in paragraph (a) 
does not apply to services furnished to, or arranged for, an enrollee 
by an entity with an HMO contract with a State under section 1903(m); a 
prepaid health plan (PHP) contract with a State under part 434, subpart 
C; or a health insuring organization (HIO) contract under part 434, 
subpart D.
    (c) Advisory opinions relating to physician referrals. Sections 
411.370 through 411.389 cover the procedures for obtaining an advisory 
opinion from HCFA on whether a physician's referrals relating to 
designated health services (other than clinical laboratory services) 
are prohibited under section 1877.

PART 455--PROGRAM INTEGRITY: MEDICAID

    D. Part 455 is amended as follows:
    1. The authority citation for part 455 continues to read as 
follows:

    Authority: Sec. 1102 of the Social Security Act (42 U.S.C. 
1302).

    2. Section 455.100 is revised to read as follows:


Sec. 455.100  Basis and Purpose.

    (a) Basis. This subpart implements sections 1124, 1126, 
1902(a)(38), 1903(i)(2), 1903(n), and 1903(s) of the Act.
    (b) Purpose. This subpart does the following:
    (1) Sets forth State plan requirements regarding--
    (i) Disclosure by providers and fiscal agents of information 
concerning ownership and control, investment arrangements, and 
compensation arrangements; and
    (ii) Disclosure of information on a provider's owners and other 
persons convicted of criminal offenses against Medicare, Medicaid, or 
the title XX services program.
    (2) Specifies conditions under which the Administrator will deny 
Federal financial participation for services furnished by providers or 
fiscal agents that fail to comply with the disclosure requirements.
    (3) Provides for a civil money penalty for failure to meet certain 
reporting requirements.
    3. Section 455.103 is revised to read as follows:


Sec. 455.103  State plan requirement.

    A State plan must provide that the requirements of Secs. 445.104 
through 455.109 are met.
    4. A new subpart C, consisting of section Secs. 455.108 and 
455.109, is added to read as follows:

Subpart C--Disclosure of Information by Providers for Purposes of 
the Prohibition on Certain Physician Referrals


Sec. 455.108  Basis.

    This subpart is based on section 1903(s) of the Act, which, in 
part, applies the reporting requirements of section 1877(f) and (g) of 
the Act to Medicaid providers of designated health services (as these 
services are defined in Sec. 411.351).


Sec. 455.109  Disclosure of ownership, investment, and compensation 
arrangements.

    (a) The Medicaid agency must require that each provider of services 
that furnishes designated health services covered by the State plan 
submit information to the Medicaid agency concerning its financial 
relationships (as defined in paragraph (d) of this section), in the 
form, manner, and at the times the agency specifies. The term 
``designated health services,'' for purposes of this section, refers to 
the services listed in Sec. 411.351 of this chapter, as they are 
defined in that section, or as those services are otherwise defined 
under the State plan.
    (b) Exception. The requirements of paragraph (a) of this section do 
not apply to providers of services that provide 20 or fewer designated 
health services covered under the State plan during a calendar year, or 
to designated

[[Page 1728]]

health services furnished outside the United States.
    (c) Required information. The information requested by the Medicaid 
agency can include the following:
    (1) The name and Medicaid State Specific Identifier (MSSI) of each 
physician who has a financial relationship with the provider of 
services.
    (2) The name and MSSI of each physician who has an immediate 
relative (as defined in Sec. 411.351 of this chapter) who has a 
financial relationship with the provider of services.
    (3) The covered items and services furnished by the provider of 
services.
    (4) With respect to each physician identified under paragraphs 
(c)(1) and (c)(2) of this section, the nature of the financial 
relationship (including the extent and/or value of the ownership or 
investment interest or the compensation arrangement, if requested by 
the Medicaid agency).
    (d) Reportable financial relationships. For purposes of this 
section, a financial relationship is any ownership or investment 
interest or any compensation arrangement, as defined in Sec. 411.351, 
including those relationships excepted under Secs. 411.355 through 
411.357.
    (e) Form and timing of reports. Providers of services that are 
subject to the requirements of this section must submit the required 
information on a prescribed form within the time period specified by 
the Medicaid agency. Thereafter, a provider must report to the Medicaid 
agency all changes in the submitted information within a timeframe 
specified by the Medicaid agency. Providers of services must retain 
documentation sufficient to verify the information provided on the 
forms and, upon request, must make that documentation available to the 
Medicaid State agency, HCFA, or the OIG.
    (f) Consequences of failure to report. Any provider of services 
that is required, but failed, to meet the reporting requirements of 
paragraph (a) of this section is subject to a civil money penalty of 
not more than $10,000 for each day of the period beginning on the day 
following the applicable deadline until the information is submitted. 
Assessment of the penalty will comply with the applicable provisions of 
part 1003 of this title.

(Catalog of Federal Domestic Assistance Program No. 93.773, 
Medicare--Hospital Insurance; Program No. 93.774, Medicare--
Supplementary Medical Insurance Program; and Federal Domestic 
Assistance Program No. 93.778, Medical Assistance Program)

    Dated: November 10, 1997.
Nancy-Ann Min DeParle,
Administrator, Health Care Financing Administration.

    Dated: December 17, 1997.
Donna E. Shalala,
Secretary.
[FR Doc. 98-282 Filed 1-5-98; 8:45 am]
BILLING CODE 4120-03-P