A More Efficient Physician Recruitment Agreement

Frequently, it is in the mutual interest of a local hospital and physician medical practice to recruit a new physician to the community. The three parties to the negotiation — the physician to be recruited, the existing medical practice and the hospital — each have their own interests to address. In addition, distinct from the normal business terms that must be negotiated, various federal regulatory fraud and abuse and IRS concerns can make the process particularly daunting.

Physician recruitment agreements (PRAs) can take many forms. There can be simple direct assistance only to the recruited physician, such as a signing bonus, relocation expense reimbursement or student loan repayment. Alternatively, the assistance can be designed to subsidize the existing medical practice in its efforts. Traditionally, this has meant a form of a net income guarantee. It is suggested here that medical practices and hospitals should consider a more efficient alternative — the flat subsidy amount.

Recently, I had occasion to seek the determinative opinion of a well-known colleague at the Centers for Medicare & Medicaid Services (CMS) regarding the impact to a PRA’s net income guarantee due to an unforeseen change in circumstances. During the conversation, in which we were each struggling with the necessary calculations involved, she offhandedly mentioned, “I don’t know why so many [PRAs] involve net income guarantees; they are so complicated to administer.”

I was excited to hear her opinion because it has long been my belief that this traditional PRA structure can (and often should) be avoided. Instead, the parties agree in advance upon a flat subsidy amount to be paid by the hospital to support the development of a new physician into an existing practice. Done properly, this approach can yield most of the benefits of the traditional net income guarantee and avoid many of the administrative hardships, as well as, too often, hard feelings that develop between the existing practice and the hospital when the complicated formulas of a net income guarantee do not work out as one party or the other anticipated. The initial reaction from hospital counsel has sometimes been, “We cannot do that; it’s not legal.” As my colleague from CMS points out, not only is it legal, it might even be preferred.

In essence, a net income guarantee attempts to ensure that the recruited physician can be paid a certain minimum net income for a certain period of time by providing a subsidy to the extent that the calculated net income actually produced by the physician is not sufficient. In theory, this should be simple math — practice revenue minus practice expenses equals net practice income. However, in reality, the calculations necessary to determine this subsidy are often complex and administratively burdensome for the practice. Additionally, reasonable parties can often differ as to whether certain types of revenue or expenses are appropriate to include as “actual incremental” to the recruited physician in accordance with the Stark law. Indeed, sometimes these are business issues disguised by a party as a legal issue.

Such potential actual incremental expenses might involve whether additional space needs to be obtained and/or existing space reconfigured to meet the needs of the recruited physician. Questions of actual incremental expenses often involve allocations of the cost of auxiliary personnel to support the recruited physician’s practice. After all, the idea is presumably to allow the recruited physician to grow the practice in order to better serve the needs of the community served by the hospital. These questions, unfortunately, are often asked well after the PRA was signed and the recruited physician is already in the practice.

For example, I have been involved in mediating disputes between practices and the subsidizing hospital where the practices incurred expenses but the hospital does not feel it should be included in calculating the net income guarantee and thus, indirectly, the subsidy amount (e.g. the total cost of an auxiliary employee who was not laid off when an existing physician of the practice retired because it was anticipated that the recruited physician would similarly need that auxiliary support). Well, was that expense “actual incremental” to satisfy the narrow confines of the Stark law? Similarly, I have had to resolve disputes involving the purchase of a new piece of equipment that the recruited physician utilizes for specialized procedures. The hospital would include the practice revenue generated but exclude the cost of the equipment, arguing it was not an appropriate expense for a recruitment subsidy. A wrong answer has such potentially punitive results to the hospital under the strict liability confines of the Stark law, one can understand why the hospital errs on the side of caution. However, a flat subsidy agreed to in advance avoids the disagreements and potential exposure.

With all of the regulatory concerns already in play, PRAs are complicated enough without adding to the confusion by forcing the parties to reconcile a net income guarantee. To avoid this, despite beliefs to the contrary, the Stark law indeed permits parties to instead agree on a fixed subsidy amount in advance. The hospital thus knows how much of a real subsidy it is going to provide, and the practice knows how much support it is going to receive in return for the numerous strings attached to any PRA (e.g. the recruited physician must accept Medicare and Medicaid, maintain privileges at hospital, often take ED calls, remain in specified geographic service area long after subsidy period, and importantly, the practice may often only have a watered down version of the restrictive covenant they might otherwise prefer when introducing a new physician to their practice).

There are still limits, of course. A hospital cannot simply provide an unreasonably high subsidy amount to a practice. This would bring forward all the normal and otherwise always applicable IRS private inurement and Anti-Kickback Statute issues. The amount should be determined by a thoughtful pro-forma created in advance — one that anticipates the necessary expenses to be incurred, including but not legally confined to those that are actual incremental. The subsidy might be paid in full in advance or, more traditionally in installments, frontloaded to the practice to account for the likely cash flow needs early on with a recruited physician and trailing off toward the end of the subsidy period. The flat subsidy amount might still be treated as a forgivable loan based on future years of service by the recruited physician as is often the case. (With respect to loan forgiveness, the reader is encouraged to speak with their tax advisor regarding the recent Vancouver Clinic case to protect against unintended tax consequences.)

In summary, the traditional net income guarantees is not the only type of recruitment assistance that is properly and legally available, and indeed, might not be the most efficient structure to accomplish the mutual goals of the hospital and medical practice. Consideration should be given to the actual needs and expectations of the practice and the willingness of the hospital to support those needs through a more pragmatic approach of a fixed subsidy amount set in advance.

Article originally appeared at: MD News November/December 2014, Central New York Edition