DEPARTMENT OF HEALTH AND HUMAN SERVICES

Office of Inspector General

42 CFR Part 1001

RIN 0991-AA49

Medicare and State Health Care Programs: Fraud and Abuse; OIG Anti-Kickback

Provisions

Monday, July 29, 1991 (56 FR 35952)

AGENCY: Office of Inspector General (OIG), HHS.

ACTION: Final rule.

SUMMARY: This final rule implements section 14 of Public Law 100-93, the Medicare and Medicaid Patient and Program Protection Act of 1987, by specifying various payment practices which, although potentially capable of inducing referrals of business under Medicare or a State health care program, will be protected from criminal prosecution or civil sanctions under the anti-kickback provisions of the statute.

EFFECTIVE DATE: This regulation is effective on July 29, 1991.

FOR FURTHER INFORMATION CONTACT:

Thomas S. Crane or D. McCarty Thornton, Office of the General Counsel, (202) 619-0335.

Joel Schaer, Office of Inspector General, (202) 619-3270.

SUPPLEMENTARY INFORMATION:

I. Background

A. The Medicare Anti-Kickback Statute

Section 1128B(b) of the Social Security Act (42 U.S.C. 1320a-7b(b)), previously codified at sections 1877 and 1909 of the Act, provides criminal penalties for individuals or entities that knowingly and willfully offer, pay, solicit or receive remuneration in order to induce business reimbursed under the Medicare or State health care programs. The offense is classified as a felony, and is punishable by fines of up to $25,000 and imprisonment for up to 5 years.

This provision is extremely broad. The types of remuneration covered specifically include kickbacks, bribes, and rebates made directly or indirectly, overtly or covertly, or in cash or in kind. In addition, prohibited conduct includes not only remuneration intended to induce referrals of patients, but remuneration also intended to induce the purchasing, leasing, ordering, or arranging for any good, facility, service, or item paid for by Medicare or State health care programs.

Since the statute on its face is so broad, concern has arisen among a number of health care providers that many relatively innocuous, or even beneficial, commercial arrangements are technically covered by the statute and are, therefore, subject to criminal prosecution.

B. Public Law 100-93

Public Law 100-93, the Medicare and Medicaid Patient and Program Protection Act of 1987, added two new provisions addressing the anti-kickback statute. Section 2 specifically provided new authority to the Office of Inspector General (OIG) to exclude an individual or entity from participation in the Medicare and State health care programs if it is determined that the party has engaged in a prohibited remuneration scheme. (Section 1128(b)(7) of the Act, 42 U.S.C. 1320a-7(b)(7)) This new sanction authority is intended to provide an alternative civil remedy, short of criminal prosecution, that will be a more effective way of regulating abusive business practices than is the case under criminal law.

In addition, section 14 of Public Law 100-93 requires the promulgation of regulations specifying those payment practices that will not be subject to criminal prosecution under section 1128B of the Act and that will not provide a basis for exclusion from the Medicare program or from the State health care programs under section 1128(b)(7) of the Act.

C. Notice of Intent

The legislative history of section 14 of Public Law 100-93 indicates that Congress expected the Department of Health and Human Services to consult with affected provider, practitioner, supplier and beneficiary representatives before promulgating regulations. In order to most effectively address issues related to this provision, we published a notice of intent to develop regulations (52 FR 38794, October 19, 1987) soliciting comments from interested parties prior to developing a proposed regulation. As a result of that notice, the OIG received a number of public comments, recommendations and suggestions on generic criteria that can be applied to particular types of business arrangements in order to determine if such arrangements are inappropriate for civil or criminal sanctions.

D. Notice of Proposed Rulemaking

The proposed regulation designed to implement section 14 of Public Law 100-93 was developed by the OIG and published in the Federal Register on January 23, 1989 (54 FR 3088). The regulation sets forth various proposed business and payment practices, or "safe harbors," that would not be treated as criminal offenses under section 1128B(b) of the Act and would not serve as a basis for a program exclusion under section 1128(b)(7) of the Act. As a result of that proposed rulemaking, we received a total of 754 public comments for consideration.

II. Summary of the Proposed Rule

A. Business Arrangements Not Exempt

The proposed regulation indicated that in order for a business arrangement to comply with one of the ten safe harbors, each standard of that safe harbor provision would have to be met. The proposed rule stated that if the business arrangement involves payments for different purposes (for example a single payment for personal services and for equipment rental) then each payment purpose would be analyzed to determine if all the standards of each applicable safe harbor provision have been fulfilled. The proposed rule further specified that where individuals and entities have entered into arrangements that are covered by the statute and where they have chosen not to fully comply with one of the exemptions proposed in these regulations, they would risk scrutiny by the OIG and may be subject to civil or criminal enforcement action.

B. Need for Continuing Guidance

Since there may be a need for the Department to respond to changes in health care delivery or business arrangements more quickly and informally than through the regulatory process to keep the industry abreast of our enforcement policy, the proposed rule invited public comment on how we can best achieve the dual goals of keeping the industry aware of our views of particular business practices, and assuring that our regulations remain current with new developments.

C. Notice to Beneficiaries

While we considered including in several of the proposed safe harbor provisions a requirement that a person notify each Medicare or Medicaid patient he or she refers to a related entity of the financial relationship that exists, we indicated that such notice requirements may be unduly burdensome compared with the potential benefits and, therefore, did not include the requirement in the safe harbors in the proposed regulation. Instead, we invited public comments on this issue.

D. Preferred Provider Organizations

We cited the increasing variety of arrangements among entities grouped under the generic headings "preferred provider organizations" (PPOs) or "managed care," and that unlike HMOs, there is often no single entity that is recognized as the "health care provider." The proposed regulations did not specifically delineate a safe harbor provision for these arrangements since we believed that one or more of the other proposed safe harbors would often cover relationships in preferred provider and managed care networks. We invited comments from the public, however, on the idea of adding additional safe harbors that would provide further protection to HMOs, PPOs, and other managed care plans.

E. Waiver of Coinsurance and Deductible Amounts for Inpatient Hospital Care

We noted that with the advent in 1983 of the prospective payment system for paying hospitals for inpatient care, some hospitals have advertised the routine waiver of Medicare coinsurance and deductible amounts as a means of attracting patients to their facilities. We solicited comments on defining a safe harbor for waiving coinsurance and deductible amounts that would be limited to inpatient hospital care, be available to all Medicare beneficiaries without regard to diagnosis or length of stay, and assure that any costs to the hospital of waiving the coinsurance and deductible amounts would not be passed on to any Federal program as a bad debt or in any other way.

F. Proposed Safe Harbors

The regulation published on January 23, 1989, proposing to amend 42 CFR part 1001 by adding a new § 1001.952, set forth "safe harbors" in ten broad areas:

1. Investment Interests

To reflect the view that Congress did not intend to bar all investments by physicians in other health care entities to which they refer patients, a safe harbor provision was proposed for investment interests in large public corporations where such investments are available to the general public. This safe harbor described a minimum number of shareholders and a minimum number of assets the company must have in order to qualify under this provision.

Safe harbors for limited and managing partnerships were considered under the proposed regulation, but were not included. These areas were discussed in the preamble of the proposed rule, and we specifically requested public comments on adopting these practices as safe harbors.

2. Space Rental

While many rental arrangements are legitimate, many situations exist where rental payments are simply a device used to mask illegal payments intended to induce referrals. Accordingly, a safe harbor provision was proposed for rental arrangements if: (a) Access to the space is for periodic intervals and such intervals are set in advance in the lease, rather than based on the number of referred patients; (b) the lease is for at least one year so it cannot be readjusted on too frequent a basis to reflect prior referrals; and (c) the charges reflect fair market value.

3. Equipment Rental

With the understanding that the payment for the use of diagnostic and other medical equipment may simply be a vehicle to provide reimbursement for referrals, a safe harbor was proposed for certain situations involving equipment rentals similar to those applied to real estate rentals cited above.

4. Personal Services and Management Contracts

While health care providers often have arrangements to perform services for each other on a mutually beneficial basis, some of these arrangements may vary the payment with the volume of referrals. The proposed regulation set forth a safe harbor provision for joint ventures and other arrangements involving payments for personal services or management contracts, but only if certain standards are met that limit the opportunity to provide financial incentives in exchange for referrals. This proposed provision required the services to be paid at fair market value, and was predicated on requirements similar to those set forth in the provisions for space and equipment rental.

5. Sale of Practice

Unlike the traditional sale of a practice by a retiring physician, a physician may sell, or appear to sell, a practice to a hospital while continuing to practice on its staff. A safe harbor provision was proposed for the sale of physician practices when occurring as the result of retirement or some other event that removes the physician from the practice of medicine or from the service area in which he or she was practicing, but not when the sale is for the purpose of obtaining an ongoing source of patient referrals.

6. Referral Services

Professional societies and other consumer-oriented groups often operate referral services for a fee. Because such a service fee could be construed as a payment in order to obtain a referral, we concluded that it was appropriate to establish a specific safe harbor for this type of practice. In order to safeguard against abuse, however, the provision is only available when several standards are met.

7. Warranties

It is in the public interest to have companies offer warranties as an inducement to the consumer to purchase a product. A safe harbor was proposed for such purposes.

8. Discounts

Safe harbors relating to discounts, employees and group purchasing organizations are specifically required by statute. The discount exception was intended to encourage price competition that benefits the Medicare and Medicaid programs. The proposed discount provision was limited in application to reductions in the amount a seller charges for a good or service to the buyer. The discount could take the form of a specified price break, or the inclusion of an extra quantity of the item purchased "at no extra charge." We did not propose to protect many kinds of marketing incentive programs such as cash rebates, free goods or services, redeemable coupons, or credits.

9. Employees

The proposed exception for employees permitted an employer to pay an employee in whatever manner he or she chose for having that employee assist in the solicitation of program business and applied only to bona fide employee- employer relationships.

10. Group Purchasing Organizations

The proposed group purchasing organization (GPO) exception was designed to apply to payments from vendors to entities authorized to act as a GPO for individuals or entities who are furnishing Medicare or Medicaid services. The proposed exception required a written agreement between the GPO and the individual or entity that specifies the amounts vendors will pay the GPO.

III. Response to Comments and Summary of Revisions

As indicated above, in response to the proposed rulemaking we received 754 public comments from various provider groups, medical facilities, professional and business organizations and associations, medical societies, State and local government entities, private (35954) practitioners and concerned citizens. The comments included both general and broadreaching concerns regarding the impact of this regulation, and specific comments on those areas and safe harbor provisions about which we requested public input. A summary of the comments received and our responses to those comments follows.

A. General Comments

Comment: A large number of commenters expressed concern about the implication of engaging in a business arrangement that does not comply fully with a provision of this regulation. Some of these commenters expressed the view that the safe harbor provisions are narrowly drawn and leave many lawful business arrangements unprotected. Moreover, the preamble to the proposed rule warns: "[W]here individuals and entities have entered into arrangements that are covered by the statute, where they have chosen not to comply fully with one of the exemptions in these regulations, they would risk scrutiny by the OIG * * *." These commenters urged the OIG to make clear that the failure to comply fully with a safe harbor provision is not per se illegal, and does not mean that prosecution will automatically follow. In addition, they requested safe harbor protection for business arrangements where there has only been a "technical violation" of the statute, where there has been "substantial compliance" with this regulation, or where the remuneration in question is "de minimis."

Response: This regulation covers many categories of business arrangements, providing standards to be met within each safe harbor provision. If a person participates in an arrangement that fully complies with a given provision, he or she will be assured of not being prosecuted criminally or civilly for the arrangement that is the subject of that provision.

This regulation does not expand the scope of activities that the statute prohibits. The statute itself describes the scope of illegal activities. The legality of a particular business arrangement must be determined by comparing the particular facts to the proscriptions of the statute.

The failure to comply with a safe harbor can mean one of three things. First, as we stated in the preamble to the proposed rule, it may mean that the arrangement does not fall within the ambit of the statute. In other words, the arrangement is not intended to induce the referral of business reimbursable under Medicare or Medicaid; so there is no reason to comply with the safe harbor standards, and no risk of prosecution.

Second, at the other end of the spectrum, the arrangement could be a clear statutory violation and also not qualify for safe harbor protection. In that case, assuming the arrangement is obviously abusive, prosecution would be very likely.

Third, the arrangement may violate the statute in a less serious manner, although not be in compliance with a safe harbor provision. Here there is no way to predict the degree of risk. Rather, the degree of the risk depends on an evaluation of the many factors which are part of the decision-making process regarding case selection for investigation and prosecution. Certainly, in many (but not necessarily all) instances, prosecutorial discretion would be exercised not to pursue cases where the participants appear to have acted in a genuine good-faith attempt to comply with the terms of a safe harbor, but for reasons beyond their control are not in compliance with the terms of that safe harbor. In other instances, there may not even be an applicable safe harbor, but the arrangement may appear innocuous. But in other instances, we will want to take appropriate action.

We do not believe the Medicare and Medicaid programs would be properly served if we assured protection in all instances of "substantial compliance," "technical violations," or "de minimis" payments. Unfortunately, these are vague concepts, subject to differing interpretations. In this regulation, we have attempted to provide bright lines, to the extent possible, for safe harbors in order to provide clarity and predictability as to what conduct is immune from government action. Our endorsement of the concepts mentioned above would only serve to blur these lines and produce litigation as to what "substantial," "technical" and "de minimis" really mean. The OIG therefore declines to adopt these concepts.

A recent decision of the United States Court of Appeals for the First Circuit provides an indication of the litigation problems that could arise if "substantial compliance" with a safe harbor provision was all that was required. United States v. Bay State Ambulance and Hospital Rental Service, Inc., 874 F.2d 20 (1st Cir., 1989) involved an arrangement between an employee of a city owned hospital (Felci) and an ambulance company (Bay State). Felci was involved in the administration of the city's ambulance service contract. During this period, Bay State retained Felci as a consultant, provided him with two automobiles, and paid Felci's consulting company several thousand dollars. When it came time for renewal of the ambulance contract, Felci used his position and influence at the city hospital to assist Bay State in securing the new contract. Felci was prosecuted and convicted under the statute.

In affirming Felci's conviction (as well as that of Bay State's president, Kotzen), the First Circuit rejected Felci's contention that he had substantially complied with this regulation as published as a notice of proposed rulemaking, and thus should not be prosecuted. The court found: "The proposed regulation does not exempt every transaction in which the amount paid for services is an amount consistent with fair market value; rather it exempts only a small subset of such transactions * * *. [U]nder the circumstances such as the present case where the consulting arrangement is not full-time, * * * stringent requirements are necessary to meet the exemption from criminal liability. HHS has thus decided not to create a safe harbor for transactions such as the present case." (Emphasis in original; footnote omitted) Id. 874 F.2d at 31.

Comment: Several commenters described business arrangements that technically may violate the statute, but do not increase costs to the Medicare or Medicaid programs, or otherwise injure beneficiaries. They requested safe harbor protection for these arrangements because of concern of their risk of being scrutinized.

Response: Increased cost to the Medicare and Medicaid programs and harm to beneficiaries are not the only criteria we look at in determining whether a particular business arrangement is abusive. As the court in United States v. Ruttenberq, 625 F.2d 173, 177, n.9 (7th Cir. 1980) noted:

[T]he law does not make increased cost to the government the sole criterion of corruption. In prohibiting "kickbacks," Congress need not have spelled out the obvious truisms that, while unnecessary expenditure of money earned and contributed by taxpaying fellow citizens may exacerbate the result of the crime, kickback schemes can freeze competing suppliers from the system, can mask the possibility of government price reductions, can misdirect program funds, and, when proportional, can erect strong temptations to order more drugs and supplies than needed.

Furthermore, it is unfortunately not possible to provide safe harbor protections for all business arrangements that are not abusive. There are certain arrangements that, although themselves legitimate, are structurally so similar to abusive arrangements that protection by way of new safe harbor provisions will inevitably also protect abusive practices as well. For example, equipment rental arrangements made between parties in a position to make and accept referrals do not receive safe harbor protection if the payments are based on utilization (sometimes known as a "wear and tear" clause). We recognize that equipment becomes less valuable the more it is used, and that its owner deserves compensation for such wear and tear. However, it is also a relatively easy matter to disguise such a wear and tear payment as a payment for referrals. Thus, we need to examine the intent of the parties on a case-by-case basis even though a large majority of such payments may represent only legitimate compensation to the owner of the equipment.

The recent case, United States v. Bay State Ambulance and Hospital Rental Service, Inc., discussed above, emphasizes that the gravamen of a violation of the statute is "inducement" and not necessarily the structure of the arrangement. Id. 874 F.2d at 29. Thus, such case by case inquiries must necessarily focus on the intent of the parties.

The Bay State Ambulance case also illustrates the risk health care providers engage in when they enter into a business arrangement that violates the statute, but try to argue that the arrangement does not increase program costs or result in overutilization. The First Circuit rejected the defendants' arguments that there would have been no fiscal drain on public programs because ambulance services and Medicare reimbursement would have been required no matter which ambulance service company had received the contract. The court noted that it was unclear whether Medicare paid Bay State more for these services than it would have paid to the losing bidder even though that bidder's charges were lower. The court observed: "Although the reason for enacting the statute was to prevent drains on the public fisc, the statute does not require that there be a drain on the public fisc in order for payments to be illegal." Id. n.21, 874 F.2d at 32.

Comment: Numerous commenters expressed concern about the difficulty in revising a business arrangement that they entered into with a good-faith belief that the arrangement did not violate the statute, but which they now find does not qualify under one of the safe harbor provisions. They suggested that the OIG either "grandfather" these arrangements or provide a reasonable period of time before initiating enforcement action to enable health care providers to restructure their arrangements to meet the safe harbor provisions.

Response: The failure of a particular business arrangement to comply with these provisions does not determine whether or not the arrangement violates the statute because, as we stated above, this regulation does not make conduct illegal. Any conduct that could be construed to be illegal after the promulgation of this rule would have been illegal at any time since the current law was enacted in 1977. Thus illegal arrangements entered into in the past were undertaken with a risk of prosecution. This regulation is intended to provide a formula for avoiding risk in the future.

We also recognize, however, that many health care providers have structured their business arrangements based on the advice of an attorney and in good- faith believed that the arrangement was legal. In the event that they now find that the arrangement does not comply fully with a particular safe harbor provision and are working with diligence and good faith to restructure it so that it does comply, we will use our discretion to be fair to the parties to such arrangements.

Nonetheless, we believe that it would be inappropriate for us to provide a blanket protection, even for a limited period of time, for all business arrangements that do not qualify for a safe harbor. As we stated above, certain business arrangements that do not qualify may warrant immediate enforcement action.

Comment: Many commenters discussed the interrelationships between these safe harbor provisions and reimbursement rules promulgated by the Health Care Financing Administration (HCFA). A few of these commenters appeared to suggest that if a health care provider complied with a particular safe harbor provision, then its reimbursement may be affected.

Response: We wish to emphasize that nothing in this regulation changes reimbursement rules promulgated by HCFA or a State health care program. Clearly if a provider chooses to engage in one course of conduct in order to comply with these safe harbor provisions, such action may very well have reimbursement implications. However, such reimbursement is governed exclusively by HCFA or State regulations, and not by this regulation.

Comment: Several commenters requested that the OIG publish this regulation with an additional comment period because of the complexity of the issues involved and the revisions or additions of new safe harbor provisions created as a result of the comments.

Response: We believe that the disadvantages of providing an additional comment period outweigh the benefits. As we stated above, we received extensive comments in response to this proposed rule. In addition, due to the novelty and complexity of these issues, we started this process with a special notice of intent to develop regulations, (52 FR 38794, October 19, 1987) and received over 150 comments, which we used to develop the proposed rule.

Also weighing against any benefit of receiving additional comments on this rule is the desirability of providing the level of certainty that accompanies a final rule. This will permit individuals and entities to structure business arrangements under the provisions of this rule with the assurance that it will not change in the near future. Such assurance is delayed somewhat by providing an additional comment period.

We acknowledge the congressional expectation that we should "formally re- evaluate the anti-kickback regulations on a periodic basis, and, in so doing, * * * solicit public comment at the outset of the review process." H.R. Rep. No. 85, part 2, 100th Cong. 1st Sess. 27 (1987). We believe it is most appropriate to allow all parties time to obtain experience with these safe harbor provisions in their final form before we solicit additional public comments to start our formal re-evaluation process.

Nonetheless, we received many comments requesting safe harbor protection for a number of business arrangements, many of which deserve safe harbor protection. As discussed in more detail below in section III.B.3. of this preamble, the comments we received on HMOs, PPOs, and other managed care plans warrant the creation of two new safe harbor provisions. Because of the lack of specificity in those comments, we expect to publish these provisions as a separate interim final regulation at a later date. While this provision will be effective upon publication, the public will have an opportunity to submit their specific comments and concerns regarding this new safe harbor.

In addition, as discussed in more detail below in section III.B. of this preamble, many other arrangements brought to our attention were for arrangements on which we did not solicit comments. Because some of these arrangements may deserve safe harbor (35956) protection, we anticipate publishing additional safe harbor provisions in a separate notice of proposed rulemaking. Any discussion below indicating that we are considering a new safe harbor provision should in no way be construed as legalizing the business arrangement at this time.

Comment: Numerous commenters suggested that the OIG should employ a cease and desist mechanism. Some suggested that the OIG should be required to employ such a mechanism before it initiates a criminal prosecution or program exclusion. Others supported the use of this mechanism because they believed that many business arrangements that violate the statute do not warrant prosecution but should be stopped.

Response: We do not have the authority to seek or issue a legally enforceable order directing a person to cease and desist from a particular unlawful kickback activity. We recognize that there may be situations where it may be appropriate to inform a person that he or she is violating the statute, and request that the unlawful activity be stopped. Where the person takes immediate action to conform his activity to the law, we may decide that no further action is warranted. However, there may be other situations where criminal prosecution is appropriate even though the person has stopped the illegal activity. Since we lack the power to issue or seek a legally enforceable cease and desist order, we cannot rely on that mechanism as a significant enforcement tool.

Comment: Three commenters suggested that because many business arrangements will not meet the safe harbor provisions, the regulation was of limited value. They suggested that health care providers would be better aided if the OIG would provide examples of arrangements that violate the statute.

Response: As we stated above, the purpose of this regulation is not to describe illegal conduct, but rather to set forth standards for certain safe harbors. If an individual or entity engages in a business arrangement that is the subject of a safe harbor provision and complies with all of its provisions, that individual will be assured that he or she will not be prosecuted. However, we recognize the desirability of communicating to the public the existence of other business practices and arrangements that we believe are subject to serious abuse. Accordingly, we issued a special OIG Fraud Alert on joint venture arrangements that described various suspect features of these business ventures that may result in a violation of the statute. As the need arises, we intend to issue other fraud alerts that will provide guidance to the public on other types of arrangements.

Comment: In seeking guidance with respect to transactions or practices not covered by any specific safe harbor provision, many commenters requested the OIG to include within this regulation a list of generic criteria it would consider in evaluating business arrangements under the statute. These commenters cite a variety of positive and negative factors as relevant generic criteria, including on the positive side whether the arrangement has "a legitimate business purpose" or promotes the delivery of needed services, particularly to indigent, elderly, or rural populations; and on the negative side whether the arrangement promotes overutilization, interferes with patient freedom of choice, diminishes the quality of care provided, or increases costs to beneficiaries or to the government. Some commenters pointed out that the legislative history of Public Law 100-93 directs the Department to include in the rules "any generic criteria that might apply to business arrangements generally." H.R. Rep. No. 85, part 2, 100th Cong., 1st Sess. 27 (1987).

Response: We believe the same generic criteria applicable to all business arrangements would not provide useful guidance to the extent that they are based on value judgments regarding the relative advantages (e.g., lower cost or improved accessibility) and disadvantages (e.g., higher cost or overutilization) of the arrangement. It would be virtually impossible to set forth rules describing how we intend to apply them. For example, the determination of whether a joint venture has a legitimate business purpose, is a matter of subjective judgment, and we believe the use of such criteria would invite litigation because health care providers will not be sure if they are complying with them.

An example of the problems in using these types of generic criteria can be seen if we attempted to provide safe harbor protection for business arrangements that have a "legitimate business purpose." The statute proscribes the giving of rebates as a form of remuneration to induce referrals. Yet rebates are legitimate and common business practices outside the health care services business sector. For the numerous people who engage in both health care and non-health care lines of business, they may have become accustomed to providing various inducements to others in their non-health care activities. They may now start to provide similar inducements in their health care lines of business in a manner that violates the statute. To them, these inducements have a "legitimate business purpose," that is, to gain referrals and thereby make money, yet the practice is expressly prohibited by the statute.

We believe that Congress did not require us to specify such generic criteria. The House Committee Report so often cited by commenters directs us to promulgate rules that, "to the extent practical, contain * * * any generic criteria that might apply to business arrangements generally." Id. We believe that we have done so. It was only practical to include generic criteria for specific categories of arrangements, such as "fair market value" in the "space rental" safe harbor. We have concluded, however, that a single set of standards for all business arrangements would be of extremely limited value because the subjectivity or arbitrariness in applying the standards to individual fact situations would make such standards of extremely limited value.

We recognize that some of the factors cited by commenters are useful in determining the extent to which a particular arrangement is abusive, and therefore likely to be prosecuted. For example, the more an arrangement involving remuneration offered to induce referrals increases Medicare or Medicaid program costs or results in unnecessary utilization, the more likely it would be that we would have an interest in prosecuting the offense. It must be emphasized that these are not the only factors upon which a determination regarding prosecution is based, and as we have noted "the statute does not require that there be a drain on the public fisc in order for payments to be illegal." United States v. Bay State Ambulance and Hospital Rental Service, Inc., supra, 874 F.2d at 32, n. 21.

Comment: Several commenters objected to the regulation because they believed that the OIG had exceeded its statutory authority. In particular, they commented that the OIG does not have authority under section 14 of Public Law 100-93 to narrow the scope of the statutory exceptions, particularly the "discount" exception of section 1128B(b)(3)(A) of the Act. They cited the last sentence of section 14(a) which states, "Any practices specified in regulations pursuant to [sec. 14 of Pub. L. 100-93] shall be in addition to the practices described in subparagraphs (A) through (C) of section 1128B(b)(3)." This sentence led some commenters to conclude that our regulatory authority does not permit us to refine or clarify the statutory exceptions.

Response: We believe that these commenters have misconstrued the intent of this sentence. The plain language of the first sentence of section 14(a) of Public Law 100-93 requires the Secretary to promulgate regulations "specifying payment practices that shall not be treated as a criminal offense under section 1128B(b) of the Social Security Act and shall not serve as the basis for an exclusion under section 1128(b)(7) of such Act." We believe that the second sentence, which was quoted by many commenters, requires us to add to the exceptions provided in section 1128B(b)(3) of the Act. But we do not believe the intent of this sentence is to prohibit us from interpreting statutory terms used in these exceptions. The clear congressional intent behind the development of these safe harbor provisions is to define innocuous arrangements that should not be prosecuted, including the statutory exceptions. We believe it is in the public interest to provide the health care community with our interpretation of the meaning of certain important statutory terms, for example, "appropriately reflect" in the discount exception or "bona fide employment relationship" in the employee-employer exception.

Comment: One commenter asked the OIG to clarify how it expects health care providers to comply with this regulation when it engages in a business arrangement that may be covered by two or more of the provisions of this regulation.

Response: This comment addresses two potential situations. The first situation arises where a payment practice serves a single purpose (e.g., compensation for personal services), but potentially fits into more than one safe harbor (e.g., the employer-employee safe harbor and the personal services and management contracts safe harbor). In this situation, if the payment practice fits into either one of the safe harbors, it is exempt from criminal prosecution and program exclusion. In the example given, if the payment practice does not qualify as a bona fide employment relationship, it still may receive safe harbor protection under the personal services and management contract safe harbor.

The second situation arises where a payment practice serves multiple purposes (e.g., a payment to recompensate another party for personal services and equipment rental). Under these circumstances, it will be necessary to examine each aspect of the payment practice to determine compliance with each respective safe harbor provision. A person engaged in a "multi-purpose" payment practice who seeks protection will need to document separately his or her compliance with the safe harbor applicable to each purpose being served by the payment practice. Compliance with one provision (for one of the purposes of the payment practice) would not insulate the entire payment practice from criminal prosecution or program exclusion, where another purpose of the payment practice is implemented in a manner which violates the statute.

In the provision-by-provision analysis in section III.C. below, we will discuss specific comments and our responses to other special issues regarding the interrelationships of these provisions.

Comment: Two commenters requested that the OIG clarify the relationship between the statute and various State laws.

Response: Issues of state law are completely independent of the federal anti- kickback statute and these regulations. There is no federal preemption provision under the statute. Thus, conduct that is lawful under the federal anti-kickback statute or this regulation may still be illegal under State law. Conversely, conduct that is lawful under State law may still be illegal under the federal anti-kickback statute.

Comment: We received many comments on the proposed "Ethics in Patient Referrals Act" then pending in Congress aimed at restricting physicians from referring patients to entities in which they have a financial interest, the so- called "Stark Bill." Many of these commenters asked the OIG to either support or oppose this legislation. Others asked the OIG to clarify the relationship of this legislation to the anti-kickback statute and this regulation.

Response: This legislation was enacted as section 6204 of the Omnibus Budget Reconciliation Act of 1989, Public Law 101-239, adding a new section 1877 to the Act. With numerous exceptions, it generally restricts physicians from making referrals for clinical laboratory services to entities in which they have an ownership or other compensation arrangement. These referral restrictions become effective on January 1, 1992.

The legislation, although in many respects aimed at the same problems as we are addressing in this regulation, requires different elements of proof and has different remedies than under the anti-kickback statute. Generally, section 1877 is violated when a "financial relationship" exists between an entity furnishing clinical laboratory services and a physician, and a referral is made or a claim or bill is presented. For the anti-kickback statute to be violated, it must be shown that the remuneration between the two parties was intended to induce the referral of business payable under Medicare or Medicaid. Whereas the anti-kickback statute contains criminal penalties, violations under section 1877 will result in a denial of payment and may result in the imposition of civil money penalties and program exclusions under section 1128A of the Act.

Because of these differences between the two provisions, the conference report includes the following clarification:

The conferees wish to clarify that any prohibition, exemption, or exception authorized under this provision in no way alters (or reflects on) the scope and application of the anti-kickback provisions in section 1128B of the Social Security Act. The conferees do not intend that this provision should be construed as affecting, or in any way interfering, with the efforts of the Inspector General to enforce current law, such as cases described in the recent Fraud Alert issued by the Inspector General. In particular, entities which would be eligible for a specific exemption would be subject to all of the provisions of current law.

H.R. Conf. Rep. 239, 101st Cong., 1st sess. 856 (1989).

This clear expression of legislative intent to keep enforcement under the anti-kickback statute separate from enforcement under section 1877 makes it inappropriate to adjust our safe harbor provisions to take into account any exception or prohibition under section 1877.

Comment: Thirty-three commenters reacted to our comments in the preamble of the proposed rule regarding the breadth and scope of the statute. Fourteen commenters suggested that these regulations should in no way undermine the scope or strength of the statute. These commenters believe that by adding the civil exclusion remedy for the kickback violations as part of Public Law 100- 93, Congress sent a clear and appropriate message to the health care community not to place financial considerations above beneficiaries' interests. Two commenters requested that the statute's term "to refer" should be defined. Other commenters were concerned that diminishing the reach of the statute would create conflicts of interest between health care providers and their patients, and impugn the professional image of physicians. A few commenters opposed the implementation of any safe harbor provisions whatsoever.

Response: Our charge from Congress under section 14 of Public Law 100-93 is to clarify what payment practices will not subject a person to criminal prosecution or exclusion from the Medicare or State health care programs. The process involves both a determination of the scope of the statute and decisions as to how to draft the safe harbor provisions so that they protect only non-abusive relationships.

With respect to the scope of the statute, we do not believe that it is necessary to define any of the statute's terms in the regulation itself. However, the meaning of two of its terms deserve comment (1) "any remuneration (including any kickback, bribe, or rebate) directly or indirectly, overtly or covertly, in cash or in kind;" and (2) "to induce." These terms demonstrate congressional intent to create a very broadly worded prohibition. Our comments in the preamble to the proposed rule reflected our belief that Congress ratified this intent in their mandate to create these safe harbor provisions.

Congress's intent in placing the term "remuneration" in the statute in 1977 was to cover the transferring of anything of value in any form or manner whatsoever. The statute's language makes clear that illegal payments are prohibited beyond merely "bribes," "kickbacks," and "rebates," which were the three terms used in the original 1972 statute. The language "directly or indirectly, overtly or covertly, in cash or in kind" makes clear that the form or manner of the payment includes indirect, covert, and in kind transactions. Moreover, the statutory exception for discounts demonstrates that Congress prohibited transactions where there is no direct payment at all from the party receiving the referrals.

The remuneration in a discount is merely a lowered price that a purchaser would otherwise obtain from a seller, which is made as an inducement to purchase larger quantities.

The statute's legislative history supports this reading of the term "remuneration," and makes clear that the fundamental analysis required of a trier of fact is "to recognize that the substance rather than simply the form of a transaction should be controlling" (123 Cong. Rec. 30,280 (1977), Statement of Chairman of the House Committee on Ways and Means and principal author of H.R. 3, Representative Rostenkowski). Also see H.R. Rep. No. 393, part II, 95th Cong., lst Sess. 53; reprinted in (1977) U.S. Code Cong. & Ad. News 3056; S.Rep. No. 453, 95th Cong., lst Sess. 12 (1977).

The meaning of the term "to induce," which describes the intent of those who offer or pay remuneration in paragraph (2) of the statute, is found in the ordinary dictionary definition: "to lead or move by influence or persuasion" (The American Heritage Dictionary (2d College Ed. 1982)).

The OIG's interpretation of the statute is fully supported by its case law. At the time that the proposed rule was issued, the leading case interpreting the breadth of the statute was United States v. Greber, 760 F.2d 68 (3d Cir.) cert. denied, 474 U.S. 988 (1985). Since publication of the notice of proposed rulemaking on January 23, 1989, two other circuit courts have lent further support to a broad reading of the statute: Bay State Ambulance, which was discussed above, and United States v. Kats, 871 F.2d 105 (9th Cir. 1989).

Kats involved an arrangement between physician offices or clinics, a phlebotomy service ("THC"), and a clinical diagnostic laboratory ("Tech-Lab"). Under the arrangement, THC collected blood and urine samples from physician offices and medical clinics, and forwarded these laboratory specimens to Tech- Lab. Tech-Lab performed the laboratory tests and billed the respective insurance programs, including Medicare and Medicaid. Tech-Lab kicked back 50 percent of its proceeds to THC, which in turn kicked back part of its proceeds to the various physician offices and clinics, including a clinic owned by Yan Kats. Kats and others were prosecuted and convicted under the statute.

In upholding Kats's conviction, the United States Court of Appeals for the Ninth Circuit became the first court specifically to adopt the holding in Gerber that "if one purpose of the payment is to induce future referrals, the [M]edicare statute has been violated." 760 F.2d at 69. The Kats court held that the statute is violated unless the payments are "wholly and not incidentally attributable to the delivery of goods or services." Id. 871 F.2d at 108. The court upheld a jury instruction that read, in part, "It is not a defense that there might have been other reasons for the solicitation of a remuneration by the defendants, if you find that one of the material purposes for the solicitation was to obtain money for the referral of services." Id. 871 F.2d at 108, n.1.

Because the statute is broad, the payment practices described in these safe harbor provisions would be prohibited by the statute but for their inclusion here. In mandating this regulation, Congress directed us to limit the reach of the statute somewhat by permitting certain non-abusive arrangements, while encouraging beneficial or innocuous arrangements. We believe that we have accomplished this task in a manner that will not restrict our ability to prosecute, either criminally or civilly, abusive schemes that violate the statute. However, these safe harbor provisions do not constitute a guarantee that a health care provider whose practice conforms to a particular safe harbor will not engage in abusive practices. For this reason, we intend to monitor business arrangements that comply with the terms of these safe harbor provisions, particularly investment interests (see section III.C.1.b.ii. below), to determine whether abusive arrangements exist within the parameter of a particular safe harbor. If abusive arrangements are found to exist, we will entirely withdraw or modify any provision as appropriate.

Comment: A small number of commenters requested clarification as to whether the statute prohibits remuneration in return for referrals or other arrangements to induce services or items reimbursed under Medicare alone, or whether the conduct prohibited by the statute includes referrals or other arrangements to induce services or items reimbursed by Medicaid and other State health care programs.

Response: We agree that clarification is needed, and have amended the final rule to make clear that the statute, and hence these safe harbor provisions, apply to items or services which may be paid in whole or in part under Medicare or a federally funded State health care program, such as Medicaid. However, because commenters have expressed particular concern about the applicability of these provisions to items and services payable under the Medicare and Medicaid programs, our discussion of comments and responses often refer solely to these two programs.

B. Comments on Areas That the OIG Invited Comments

In this section, we discuss four issues on which we specifically invited public comments: continuing guidance, notice to beneficiaries, preferred provider organizations (PPOs), and waiver of coinsurance and deductible amounts for inpatient hospital care. We also requested comments on suggested standards for two additional investment interest provisions that would protect investors, such as limited and general partners, investing in small entities. Our discussion of those comments and our responses are contained in the provision- by-provision analysis of investment interests (see section III.C.1. below).

1. Continuing Guidance

Comment: We received a large number of responses to our invitation for comments on how the OIG can best inform health care providers about fraudulent practices, and can best ensure that the safe harbor regulation remains current as new health care business practices develop. Many of these commenters suggested that the Department issue advisory opinions about the legality of proposed business arrangements under the statute. Some commenters requested that the Department implement a mechanism for informing health care providers about business practices that raise problems under the statute.

Proponents of advisory opinions argued that such a mechanism would provide guidance concerning activities unaddressed by the safe harbor regulation, curb illegal payment practices, and keep the Department informed of industry developments. These commenters asserted that the Department has authority to issue advisory opinions pursuant to its general statutory authority to promulgate regulations, and pursuant to the specific authority under Public Law 100-93 to promulgate this regulation. The commenters contended that advisory opinion rulings would not hamper the Department of Justice's prosecutorial discretion under the statute, because the immunizing effects of advice given would be limited to the facts disclosed. The commenters also claimed that several other agencies employ advisory opinion procedures in administering laws under their respective jurisdictions.

Response: We understand and appreciate providers' desire for legal security in their business relations. Consistent with our mandate under Public Law 100-93, we will continue to make efforts to inform health care providers about business practices that may subject them to criminal prosecution or program exclusion.

We have concluded that we will not provide a mechanism responding to individual requests for advisory opinions about the legality of a particular business arrangement under the statute. The statute is primarily a criminal statute, and the Department of Justice is vested with exclusive authority to enforce all criminal laws of the United States. See sections 516, 519 and 547 of title 28 of the United States Code. A plethora of case law holds that this exclusive authority extends to all decisions to initiate, or to decline to initiate, criminal prosecutions. See Smith v. United States, 375 F.2d 243, 247 (4th Cir. 1967), cert. denied 389 U.S. 841; Powell v. Katzenbach, 359 F.2d 234 (D.C. Cir. 1965), cert. denied 384 U.S. 906; United States v. Wong Kim Bo, 466 F.2d 1298 (5th Cir. 1972); United States v. Kysar, 459 F. 2d 422 (10th Cir. 1972). For these reasons, this Department cannot, through advisory opinions, immunize health care providers from criminal prosecution under the statute.

The general or specific statutory authorizations cited by commenters do not supersede the case law cited above. The Department's general authority as an executive agency to promulgate regulations governing conduct within the Department's jurisdiction does not, implicitly or explicitly, include authority to make judgments that are within the exclusive domain of another agency. Neither does our mandate, under Public Law 100-93, to promulgate this regulation provide such authority. Our charge to immunize, by regulation, conduct and arrangements potentially falling under the statute does not include judging whether the conduct of particular individuals violates the statute.

Aside from these legal impediments, it is impossible as a practical matter to give meaningful advice with respect to liability under the statute in the context of a letter ruling. The statute requires proof of a knowing and willful intent to induce or arrange for referrals or for other business reimbursable under the Medicare or Medicaid programs. See United States v. Bay State Ambulance and Hospital Rental Service, Inc., supra, 874 F.2d at 29 ("The gravamen of Medicare Fraud is inducement"); United States v. Greber, 760 F. 2d 68 at 71 ("The statute is aimed at the inducement factor"). Thus, the extent to which conduct is motivated by inducing or arranging for referrals will, in large part, determine liability under the statute. The types of factual summaries that typically accompany requests for advisory opinions--descriptions of proposed management contracts or lease agreements, or prospectuses of joint ventures--are likely, however, to be insufficient for purposes of understanding the motives of the parties.

In our experience, assessing whether parties to a particular scheme intend to induce referrals requires substantial investigation resources. Requests for advice typically do not furnish complete and objective accounts of all the facts necessary to determine the subjective intent of the parties. In addition, requests for advice involving business arrangements not yet consummated are especially difficult to analyze because the motives of the parties to induce referrals often become apparent only when the arrangement is operational.

Furthermore, we do not believe that an advisory opinion process is a necessary or appropriate mechanism for keeping the Department aware of new developments in industry business practices, and ensuring that the regulation remains current. As we have discussed above, the legislative history of Public Law 100-93 clearly directs the Secretary to "formally re-evaluate the anti-kickback regulations on a periodic basis and, in so doing, * * * solicit public comment at the outset of the review process." H.R. Rep. No. 85, supra, at 27. We believe that periodic updating of this regulation, with the opportunity for public input, is the best way to ensure that these regulations remain practical and relevant in the face of changes in health care delivery and payment arrangements. The need to clarify, interpret, fine tune, expand, or otherwise alter this regulation in response to public and industry input will provide an occasion for us to respond to unanticipated, newly developing, or other beneficial arrangements.

Despite commenters' arguments that other Federal agencies offer the public mechanisms for obtaining advisory opinions, only one other agency of which we are aware, the Federal Elections Commission (FEC), provides any advice with respect to a statutory provision that prohibits "knowing and willful" conduct. The FEC issues such advice under specific statutory authority (2 U.S.C. 437d(a)(7)). It is our understanding, however, that the FEC's advisory opinions do not inquire into whether any conduct is knowing and willful. Thus, the FEC's practice follows the general rule that agencies will refrain from rendering prospective advice on issues of intent. For example, the IRS has stated that it will not issue advice as to the "due diligence" or "good-faith" of parties. See Rev. Proc. 88-3, 1988-1 IRB 29.

As an alternative, we believe that OIG fraud alerts are the best mechanism for imparting practical and continuing guidance to individuals and entities seeking to avoid violations of the statute. The fraud alert program, implemented in March of 1984, was designed to increase our effectiveness in preventing fraud in this Department's programs by highlighting conduct likely to be illegal. Since 1984, we have issued over 100 fraud alerts on subjects unrelated to the anti-kickback statute. On April 24, 1989, we initiated distribution of a Special Fraud Alert on Joint Venture Arrangements to all individuals and entities participating in Medicare, which gave examples of specific characteristics of provider-owned entities that, in our view, might result in abusive or unlawful business arrangements. By identifying what we consider to be suspect features of limited partnerships and other joint ventures (including potentially abusive practices for selecting and retaining investors, for structuring the legal entity or entities involved, and for distributing profits), the Special Fraud Alert communicated our views about the legitimacy of potential or existing ownership arrangements. We believe that fraud alerts can be equally as educational about other areas of enforcement of the statute, and plan to distribute similar information as the need arises.

Comment: A few commenters inquired about the binding effect of advisory letters written by HCFA in the 1970s, when that agency was responsible for enforcing the statute. The commenters suggested that these letters may serve to protect health care providers who engage in a particular business arrangement that was approved by HCFA at that time even though the OIG has not now proposed a safe harbor for that arrangement.

Response: No person in the Department or with the fiscal intermediaries or carriers is, or ever has been, authorized to permit a practice that the statute makes illegal. The Department's lack of authority to provide legal advice on the application of the statute to specific factual situations has been consistently communicated to the public for years. Consequently, no person may reasonably rely on any such advice, especially when that advice is a letter written to a third party about a business arrangement different from the one in which the party is engaging. In sum, the so-called advisory letters may not be regarded in any way as authoritative.

The only authority to legalize conduct is this safe harbor regulation. This regulation supersedes any prior communications from the Department regarding business practices considered not subject to prosecution, and is the only formal mechanism to set forth business arrangements or payment practices that will not be prosecuted under the statute.

Comment: Two commenters requested the OIG to issue selective opinions on issues affecting a class of providers that arise under the statute and safe harbor regulations, even if we decline to provide advice about specific business arrangements or activities.

Response: As we have said, we plan to provide guidance on generic issues through fraud alerts distributed to the provider community. In addition, we remain open to examining the usefulness of other mechanisms for informing the public and health care provider groups about the types of new business arrangements to which the OIG will give investigative priority.

2. Notice to Beneficiaries

Comment: Commenters overwhelmingly supported requiring health care providers to disclose to patients any financial relationships with sources of referral. They argued that such disclosure would not be burdensome, and that many codes of professional ethics, as well as many state statutes, already mandate such disclosure.

Response: With one exception, we have decided not to require such disclosure to qualify under a particular safe harbor provision. First, the activities covered under each safe harbor provision are by definition activities that we deem have a low potential for abuse. Second, disclosure in and of itself would not provide a significant additional assurance that abuse would not occur, even though disclosure may reduce the potential for abuse somewhat by increasing consumer awareness of the relationship between health care providers. Finally, it is possible for a health care provider to cast a disclosure to fit that provider's promotional objective, which is exactly the opposite result from that which we would want to achieve.

The one provision in which we condition safe harbor protection on disclosure is that of referral services. Referral services help beneficiaries make their initial contact with the health care system before a relationship of trust is established with a particular health care provider. Without disclosure of the manner in which a provider of services was selected or rejected by a referral service and the relationship between the service and health care providers, a consumer has very little information upon which to base his or her trust in the practitioner to whom the consumer is being referred. For example, a consumer may well decide to put more trust in a surgeon referred by the referral service if the consumer knew that the referral service only uses board certified physicians. On the other hand, a consumer may feel less confidence in a referral if any physician, no matter what his or her disciplinary record, were one of the referral service's members. Consequently, we are confident that, in this instance, disclosure represents a meaningful added protection.

Although we are not requiring disclosure of financial interests under the other safe harbor provisions, we consider disclosure of financial interests in entities to which health care providers refer patients an ethical duty (See, for example, rule 8.03 of the Current Opinions of the Council on Ethical and Judicial Affairs of the American Medical Association, Chicago, Ill. 1989). Also, to the extent that disclosure affects a patient's freedom of choice and quality of care, it may be necessary to enable a patient to give informed consent.

3. Health Maintenance Organizations, Preferred Provider Organizations and Other Managed Care Plans

We received a number of responses to our invitation to comment on how to protect health maintenance organizations (HMOs), preferred provider organizations (PPOs), and other managed care plans. In addition, we received many other comments regarding HMOs that waive coinsurance and deductible amounts, and price reduction agreements negotiated by these and other types of health benefit plans. We are including these comments in this section.

Comment: Two commenters requested safe harbor protection for HMOs that waive the beneficiary's obligation to pay coinsurance and deductible amounts. They believed that this was a common practice among HMOs. In addition, a few commenters pointed out that some PPOs negotiate agreements with contract health care providers for those providers not to charge the health plan or enrollee for some or all of the coinsurance and deductible amounts they are owed for furnishing services to enrollees. Under such an agreement, when the contract provider bills the Medicare program directly (and not the health plan) and agrees to waive all coinsurance and deductibles, the commenters typically phrased the agreement as one "to accept Medicare payment as payment in full." One commenter specifically objected to this practice.

Response: We agree that protection should be given to prepaid plans with contracts and agreements with HCFA and State agencies for waiver of beneficiary obligations to pay coinsurance and deductible amounts. However, as will be discussed below, we do not agree that such protection is warranted at this time for PPOs and prepaid plans that do not have contracts or agreements with HCFA or State agencies.

Health plans offer a variety of incentives to attract beneficiaries to become enrollees. In many instances, HCFA permits such HMOs and competitive medical plans (CMPs) to waive the premiums attributable to the coinsurance and deductible amounts. Further, HMOs and CMPs under a risk contract with HCFA are required under certain circumstances to reduce coinsurance and deductible amounts or offer additional benefit options.

The routine waiver by a prepaid health plan of beneficiaries' obligation to pay coinsurance and deductible amounts is clearly distinguishable from such routine waiver by other health care providers, such as hospital outpatient departments, physicians, or durable medical equipment suppliers. Two principal characteristics distinguish a health plan's routine waiver of cost-sharing amounts from that of other health care providers. First, a health plan's routine waiver program is inextricably intertwined with the offering of a comprehensive package of covered benefits, and is not offered for the purchase of an individual item or service. Quite often, in the case of prepaid plans, the routine waiver of cost-sharing amounts is made in the form of a reduction or waiver of the beneficiary's premium and may also be combined with the offering of increased covered benefits. Thus, the routine waiver of cost- sharing amounts is generally not an incentive to use a particular item or service at the time it is furnished.

Second, although cost-sharing requirements can serve to control utilization, HMOs and other health plans under contract with HCFA or a State agency have built-in incentives to control unnecessary utilization, or have their utilization and costs monitored by HCFA or the State agency. Thus, the issue of potential overutilization (with increased costs to the programs) is adequately dealt with without resort to imposing the obligation on beneficiaries to pay coinsurance and deductible amounts.

Therefore, we expect to publish at a later date an additional safe harbor provision to protect prepaid health plans that have a contract or agreement with HCFA or a State agency where the health plan offers beneficiaries increased benefits coverage, reduced cost-sharing amounts (coinsurance, deductibles, or copayments), or reduced premiums where certain standards are met. Because of the limited scope of the comments we received on HMOs, PPOs and managed care plans, we expect to publish at a later date an interim final rule in order to solicit additional comments from the public on this new safe harbor provision.

This new safe harbor provision will not protect incentives offered to beneficiaries by health plans, such as PPOs, that are not operating under a contract or agreement with HCFA or a State agency. Unlike health plans with such contracts or agreements, we are not confident that all PPOs that engage in these negotiated waiver agreements properly protect the Medicare and Medicaid programs against overutilization. And we did not receive sufficient comments on the different types of PPOs for us to distinguish the characteristics of a PPO engaging in these negotiated waiver agreements where the Medicare and Medicaid programs are properly protected.

Comment: Several commenters requested the OIG to protect a variety of arrangements between HMOs, PPOs, competitive medical plans (CMPs), managed care plans, and other health plans on the one hand, and medical groups and other health care providers who furnish items and services to the health plans at a reduced price on the other hand. A few of these commenters observed the benefits that can be achieved when a health care provider offers discounts to these organizations. Several commenters recommended special treatment for relationships between HMOs and health care providers, such as physicians and hospitals, involving the leasing of space and equipment and contracting for personal services. One commenter requested special safe harbor protection for "[a]ll transactions between an HMO and contracting medical groups * * * if the medical group provides over 90 percent of its services to HMO members."

Response: We agree that there is a need to provide safe harbor protection for certain practices between managed care plans and health care providers. Thus, we are expecting to publish a rule that will protect many of these price reduction arrangements where certain standards are met. For the same reasons as stated above, we are expecting to publish this safe harbor provision as an interim final rule with an opportunity for additional comments from the public.

The safe harbor provision we are expecting to publish will only protect agreements between health plans and contract health care providers for the sole purpose of furnishing items and services covered by the health plan, Medicare, or Medicaid. In other words, for the reasons explained below, we are not protecting in this provision the contracts between health plans and contract health care providers for these providers to furnish services other than covered benefits, such as peer review and management services.

As with all safe harbor provisions, where two parties engage in a multi- faceted payment arrangement where protection is sought from more than one safe harbor, we expect separate justifications to be clearly set forth for each provision for which protection is sought. Where HMOs contract with physicians and other health care providers for the furnishing of services other than covered health care services, we believe that HMOs, PPOs and other prepaid health plans will be able to conform their arrangements to the appropriate safe harbor provisions. For example, many contract health care providers furnish peer review, marketing services, or pre-enrollment screening for HMOs. For the remuneration attributable to the furnishing of such services to be protected, it must comply with the personal service/management contracts safe harbor provision. Also for example, the remuneration attributable to the lease of space or equipment must comply with those respective safe harbor provisions.

We are not convinced that merely because a medical group has a large majority of its business with an HMO that a special across-the-board exemption for all transactions is warranted. HMOs operate under a variety of payment mechanisms, both with respect to the Medicare and Medicaid payments they receive and the payments they make to physicians. Although in many cases the incentive structure in which HMOs operate is designed to protect against overutilization of service, this incentive structure may not extend to fee-for-service arrangements.

Further, even though many HMOs have generally operated largely free of fraud and abuse problems, we are aware of some HMOs that have abused their contractual relationships with medical groups, where individuals in the groups have engaged in abusive activities on behalf of the HMO, or where the medical group has compromised the interest of beneficiaries in order to keep the vital HMO contract. In at least one case, a criminal conviction was obtained for such a practice. Although safe harbor protection is warranted for certain contractual relationships between health plans and contract health care providers, we also intend to use our authorities aggressively to monitor closely and, where appropriate, penalize any abusive relationships between these parties to assure that medically necessary services of a high quality are available and accessible to all enrollees.

4. Waiver of Beneficiary Deductible and Coinsurance Amounts

Comment: The OIG received numerous comments on the establishment of a safe harbor for waiver of hospital inpatient coinsurance and deductible (copayment) amounts owed by program beneficiaries. Many commenters requested the OIG to provide safe harbor protection for routine hospital waiver or partial reduction of inpatient fees not subsequently claimed as bad debts because the practice would benefit hospital inpatients without increasing program costs. Some commenters urged the OIG to protect the submission of bad debt claims where copayments were routinely waived for limited categories of patients, such as seniors. On the other hand, several commenters were concerned that permitting hospital waiver of inpatient copayments would encourage overutilization of hospital services and promote cost-shifting to patients with nongovernmental insurance policies.

Response: Since October 1, 1983, when the prospective payment system (PPS) for reimbursing hospital inpatient services was implemented, we have been aware of hospitals that routinely waive Medicare beneficiary deductibles and coinsurance charges for inpatient hospital services in order to attract patients. Because the waiver of patient charges constitutes an inducement to use services in exchange for something of value (the forgiveness of financial obligation), this practice violates the statute. However, assuming the waived amounts are not later claimed as bad debt, the practice appears to cause no direct financial harm to the Medicare program because hospitals receive a pre-determined payment amount under PPS regardless of their costs or charges. Moreover, due to hospital peer review requirements and the relatively fixed level of patient demand for hospital inpatient services, waiver of inpatient beneficiary fees is not likely to increase utilization significantly. Furthermore, if hospital waiver policies do not discriminate on the basis of length of stay or type of disease, the potential for program abuse appears minimal.

In addition, we know of no data, nor have commenters produced or referred us to any, indicating that routine hospital waivers of inpatient copayments owed by program beneficiaries will shift the costs of care to non-Medicare patients. Rather, we assume that most hospitals that choose to waive these amounts do so because the hospital more than makes up in increased volume for any initial "loss" resulting from not collecting the full amount to which it is entitled. Although we believe there is little risk of "cost-shifting" to the non-Medicare population, the first standard in this provision makes clear that any such cost-shifting is not protected.

We do not agree, however, that health care providers who choose to waive copayment amounts routinely for some or all of their patients should be permitted to claim such amounts as bad debt. Such a rule would muddle two very distinct Medicare policies. Traditionally, Medicare health care providers are reimbursed for uncollectible payments owed by beneficiaries. See 42 CFR 413.80. This rule requires, among other things, that health care providers make an indigence determination on a case-by-case basis, or reasonable collection efforts, prior to recouping bad debt losses from the program. See also Provider Reimbursement Manual, sections 310, 312, HCFA Pub. No. 15-1. Thus, payment of Medicare bad debts, unlike routine waivers of Medicare cost sharing amounts protected under this safe harbor regulation, are only authorized under certain conditions pertaining to the uncollectability of payments and the indigence of beneficiaries. Health care providers who routinely waive beneficiary copayments in accordance with this safe harbor regulation, and do not make case-by-case indigence determinations or otherwise prove uncollectability under 42 CFR 413.80, cannot deduct expenses as bad debt. Where such an unlawful expense is claimed, the hospital may be subject to civil or criminal prosecution.

Comment: Many commenters requested the OIG to extend safe harbor protection to waiver of patient fees imposed for a wide array of provider services. Several commenters sought protection for waiver of beneficiary copayments for part A services furnished by other cost-based health care providers, such as skilled nursing facilities and home health agencies. These commenters argued that where services are paid on a reasonable cost basis, just as where services are reimbursed under PPS, waiver of beneficiary copayments causes no financial harm to the program. Other commenters sought still broader protection under the safe harbor for copayments for services under part B, arguing that the limited protection granted for inpatient hospital copayments was discriminatory.

Response: We believe that protection is uniquely appropriate for waiver of patient charges related to hospital inpatient services. A routine waiver program will not likely increase patient demand for these services, since beneficiaries cannot admit themselves, and hospital overnight stays are inherently undesirable from a patient's perspective. Thus, it is unlikely that a routine waiver program will affect utilization. By contrast, cost-based fee- for-service health care providers, such as home health agencies and nursing homes, may be able to offset their losses resulting from their waiver of copayments by increasing their Medicare allowable costs. Such manipulation of reimbursement amounts would be virtually impossible to prevent. Thus, we do not believe that the protection offered under this safe harbor provision should be extended to routine waiver of beneficiary copayments by cost-based fee-for- service health care providers.

Routine waiver of beneficiary copayments by individuals or entities reimbursed on the basis of reasonable charges even more clearly affects program costs. When charge-based health care providers routinely fail to collect all or part of beneficiary copayments authorized by law, and then submit actual charges to Medicare as if copayment amounts were collected, these charges increase customary and prevailing rates which, in turn, inflate program costs. The Medicare Carriers Manual makes clear that in these situations, a health care provider is required to reduce his or her actual charge. See section 5220, HCFA Pub. No. 14. Thus, we believe that individuals and entities who fail to reduce actual charges submitted to Medicare are misrepresenting their charges, and may be subject to civil and criminal liability for submitting false claims.

We are aware that some local government health care providers, including county hospital outpatient departments, routinely reduce beneficiary payments at the time of service for the extremely indigent populations they serve. For these health care providers, offering patients the option of reduced payment at time of service may be a more successful collection strategy than subsequently billing patients for the entire copayment. This practice, while not protected by this safe harbor regulation, would not likely violate the statute so long as the partial forgiveness of the copayment obligation was strictly a pragmatic financial decision and not an inducement to patients to purchase medical services. We see no purpose in interfering in the mission of local governments or other hospitals that serve primarily indigent populations when they reduce beneficiary fees for those unable to pay. Such health care providers, typically, have no need to engage in sophisticated marketing strategies to induce more business.

Comment: One commenter advised the OIG that in accordance with 42 U.S.C. 254b(f)(3)(F) and 254c(e)(3)(F), federally qualified migrant and community health care centers are required to develop a sliding fee schedule for patients based upon ability to pay, which could result in waiver of part or all of the Medicare coinsurance and deductible amounts. These commenters argued that such waivers, although mandated under Public Health Service Act grant programs, could be deemed a violation of the statute.

Response: In section 4161(a)(4) of Public Law 101-508, the Omnibus Budget Reconciliation Act of 1990, Congress enacted a fourth statutory exception to the statute, which exempts a waiver of any Medicare Part B coinsurance by a Federally qualified health care center to any individual who qualifies for subsidized services under the Public Health Services Act. Thus, we are providing a safe harbor provision for this exception. In addition, we are making this safe harbor applicable to similarly situated individuals who receive services under the Maternal and Child Health Service Block Grant program (see section 505(2)(D) of the Act; 42 U.S.C. 705(2)(D), or who are Medicaid beneficiaries.

Comment: Six commenters argued that protecting routine waiver of beneficiary payments for inpatient hospital services would discourage competition from ambulatory surgical centers (ASCs).

Response: Although the granting of safe harbor protection for the waiver of inpatient copayments gives practitioners or their patients an incentive to choose inpatient hospital settings over outpatient settings, we believe that the activities of the PROs reasonably ensure that services are furnished in outpatient settings where appropriate. Therefore, we believe that the granting of safe harbor protection only for inpatient services is unlikely to draw patients away from ASCs and other outpatient settings.

Comment: A few commenters requested the OIG to protect waiver or discounts of inpatient copayments where hospitals and physicians offer this benefit not to patients directly, but to insurance companies, HMOs, or employer or union medical service plans, that have assumed liability for the beneficiary portion of payment under the terms of their insurance policies. Insurers offering these insurance benefits may attempt to negotiate with hospitals to reduce or eliminate the beneficiary portion of reimbursement in exchange for endorsing the hospital as a preferred provider or offering other tangible benefits.

Response: This safe harbor provision protects the waiver by hospitals of inpatient copayment amounts only where these amounts would otherwise be paid by Medicare beneficiaries themselves. In paragraph (k)(1)(iii), we have expressly made this provision inapplicable to negotiated price reduction agreements between health care providers and third-party payers, even where the reduction involves beneficiary copayments for which the third party payor has assumed liability as part of a Medigap policy. As we discussed in the section immediately above, we are expecting to publish an additional safe harbor provision to protect HMOs, CMPs and HCPPs under contract with HCFA or a State agency that waive coinsurance and deductible amounts owed by beneficiaries where certain standards are met.

Comment: Two commenters sought protection for the waiver of patient copayment amounts for the first eight days of care in a skilled nursing facility (SNF) after discharge from a hospital under the same ownership. These commenters stated that protection was needed to enable the smooth transfer of patients who were ill, and to allow hospital beds to be vacated for sicker patients.

Response: We understand that health care providers operating both hospitals and SNFs may, for entirely legitimate reasons, wish to continue waiving SNF copayment amounts when transferring hospital patients into the SNF for a brief period. In section III.D. below, we discuss in more detail the special considerations that exist where the hospital and SNF are wholly owned by a single "parent" entity, or where one of the facilities is the sole owner of the other.

Comment: One commenter requested the OIG to expand the safe harbor provision for waiver of hospital inpatient copayments to cover the provision of free items or services such as meals or presurgical overnight stays, samples of products from manufacturers, or blood screening and other testing services. The commenter suggested that such free gifts benefit patients without causing harm to the program, so long as there is no obligation to purchase additional items or services upon receipt of the free gifts.

Response: We decline to protect the offer of free gifts to beneficiaries within this safe harbor provision, as we have declined to protect this practice within the safe harbor provision governing discounts. The statute clearly contemplates that illicit remuneration may involve payments "in cash or in kind." The practice of offering free gifts may well induce beneficiaries to purchase additional or unnecessary items or services. Such inducements could easily become excessive, and there is no distinct financial or other cut-off point below which we could be sure that gifts remained non-abusive. Because we understand that such inducements are an area of significant abuse, we believe that protection of this practice would be unwarranted.

C. Provision-by-Provision Analysis of Safe Harbors

1. Investment Interests--s 1001.952(a)

The OIG received close to three hundred comments on the issue of providing safe harbor protection for payments from investment interests. These comments are divided into three broad categories: (a) Comments on the proposed safe harbor provision for payments from investments in large publicly traded entities; (b) suggestions for safe harbors for payments from investments in small entities such as limited partnerships, about which we solicited comments, and (c) proposals for protecting payments from other investment interests. For convenience, we are discussing all of these comments in this section. Before discussing the comments and responses for these three broad categories of investment interests, we will discuss general issues raised with respect to investment interests.

Comment: We received a number of comments asking the OIG to clarify the types of investors and investment interests to be protected. In particular, we received many comments urging the OIG to protect indirect investment interests held by family members and to protect debt as well as equity investments.

Response: We are adding a definition of the terms "investor" and "investment interests" to this safe harbor provision. We are defining an "investor" to include both individuals and entities who either directly or indirectly hold an investment interest in an entity. Our definition includes examples, which are not intended to be an exhaustive list, of ways that investment interests may be indirectly held. For example, a family member of a referring physician may hold the investment interest in the joint venture entity, or a referring physician may have a legal or beneficial interest in an entity, such as his or her group practice, a trust or a holding company, where that entity directly holds the investment interest in the joint venture entity. In both cases, we view the physician as having the ownership interest in the joint venture entity.

In many cases we distinguish investors who do business with the entity in which they have invested from other investors who are exclusively seeking a return on their investment. We call an investor who does business with the entity as "an investor who is in a position to make or influence referrals to, furnish items or services to, or otherwise generate business for the entity." This classification is meant to include all investors who do business in any manner with the entity. Except as noted below, we do not limit this category to investors who actually make referrals. Rather, our focus is on the status of the investor and the ability to make or influence the referral stream or level of business activity for the entity. Such investors include not only physicians, but hospitals and other entities capable of influencing referrals.

We note that this category of investor doing business with the entity also includes those investors who furnish items and services to the entity as well as those investors who otherwise generate business for the entity. Thus for example, if a durable medical equipment (DME) supplier and hospital both enter into a joint venture to furnish DME to patients when they leave the hospital, both the DME supplier and the hospital fit within this category of investor doing business with the entity.

There are some very limited situations where, because of the special status or location of the investor, he or she does not fit within this category of investor doing business with the entity. For example, for the most part, retired physicians no longer make or influence referrals. In addition, typically a physician who resides and practices in a separate service area from the entity is similarly not "in a position to make or influence referrals." Or an investor could simply make an agreement barring him or her from actually making or influencing referrals to the entity. In all three examples, the determination whether an investor should be classified as doing business with the entity in which he or she has invested is a factual question. However, we will accept a written stipulation that for the life of the investment the investor will not make referrals to, furnish items or services for, or otherwise generate business for the entity. We emphasize that, because of the potential for abuse of this stipulation agreement, the investor must be bound to this agreement for the life of the investment as long as he or she remains an investor.

Finally, our definition of the term "investment interest" makes clear that debt as well as equity investments are protected.

a. Large Publicly Traded Entities. Comment: Several commenters questioned the relationship of this proposed safe harbor provision to the rules of the Securities and Exchange Commission (SEC) for the registration of securities. For example, some suggested that the OIG should exempt all investment interests that are traded on a publicly regulated exchange, while another suggested that public trading be an additional condition for protection. In addition, a variety of comments were received regarding the standards adopted from the SEC rules that, in order for payments from investment interests in an entity to be protected, the assets of the entity must exceed $5 million and the number of shareholders must exceed 500 persons (the so-called "$5 million asset/500 investor rule"). While some suggested the $5 million test was too high, one suggested that it was too low. One commenter suggested that the 500 shareholder test was too high, and another suggested that the OIG require either $5 million in assets or 500 shareholders, but not both. Finally, another commenter suggested that the OIG protect an investment in an entity any time the asset level was greater than $5 million.

Response: We intended to protect profit distributions made to referring investors in large publicly traded corporations where the investment interest was obtained at fair market value through trading on a publicly regulated exchange. The remuneration received by these investors is so tangentially related to their referrals that the potential for abuse is minimal.

As we stated in the preamble of the proposed rule, we adopted the SEC registration rules from l5 U.S.C. 78l(g) and 17 CFR 240.12g-1, which generally require entities with more than $5 million in assets and more than 500 investors to register with the SEC. At the time, we had believed that such a test would protect payments from only those entities that are actively traded on a national securities exchange.

Based on the comments we received and our experience in enforcing the statute, we believe that in many respects the SEC rules are not applicable for the purposes of protecting against abuse. In particular, the $5 million threshold is too low. An entity that owns two magnetic resonance imaging (MRI) machines may well meet this test. Thus, we are changing the asset threshold level from $5 million to $50 million. Publicly traded entities of this size are sufficiently large to assure that abuse is minimal.

In addition, the SEC's other criteria of 500 investors does not provide meaningful protection against abuse. We recognize that in many cases a large number of investors can dilute the influence of one investor's referral patterns on the level of payments that he or she receives. However, it has been our experience that many sham joint ventures try to obtain many investors, each of whom contribute nominal investments, as a mechanism to lock-in the loyalties of as many physicians as possible. Thus, depending on the factual circumstances of a particular joint venture, a large number of investors could either be abusive or minimize abuse.

We are making other revisions to this first investment interest safe harbor provision to provide greater clarity consistent with our original intent. Thus, this safe harbor as revised contains two definitional prerequisites in paragraph (a)(1) for the type of entity we are protecting, and is followed by five standards, all of which must be met to the extent they apply to the investment interest in question.

For an entity to be protected under this safe harbor, it must meet two definitional prerequisites. The first prerequisite to qualify for protection is that the assets of the entity must be measured any time within the previous fiscal year or the previous 12 month period. This time period is different from the SEC rule, which we believe to be overly restrictive for the purposes of this safe harbor. The time period for measuring compliance which we are adopting will mean for all practical purposes that growing entities will be protected as soon as they reach compliance with all the preconditions and standards in this safe harbor, rather than having to wait for the next fiscal year as the SEC requires. In addition, the time period we are specifying permits an entity to retain safe harbor protection for a limited time period even though it is no longer in compliance with the $50 million asset threshold in this rule. During this time period, an entity will have the opportunity to bring itself back into compliance.

The second definitional prerequisite is that the entity must possess $50 million in the form of undepreciated net tangible assets. This clarification of what we mean by $50 million in assets removes many assets which we never intended to include within the scope of protection. We are excluding all intangible assets such as the company's valuation of its name recognition and stock and other forms of goodwill. We are excluding such assets because their valuation is too subject to "creative" accounting or appraisal techniques. The assets must also be reduced by any liabilities. Thus, a corporation only has $1 million of net tangible assets when it buys a $5 million piece of equipment with a $4 million loan. However, we are excluding from the calculation of assets any reductions in the value of assets due to depreciation. We believe it is inappropriate for an entity to lose safe harbor protection as a result of the aging of its assets. Further, we do not want to create incentives to replace equipment unnecessarily merely for the entity to regain safe harbor protection based on the value of new equipment. We are also clarifying that the reporting of net tangible assets must be based on net acquisition costs of purchasing such assets from an unrelated entity. The use of net acquisition costs in this rule is a generally accepted accounting principle, and makes clear that, for the purposes of this rule, we will not accept a company's use of current market valuations of assets. Further, we intend to use the Medicare related party rule, 42 CFR 413.17, to assure that the acquisition costs from the purchase of an asset is only based on a bona fide purchase through an arm's length transaction. Our final clarification in how to apply the $50 million asset test is that assets unrelated to a company's health care line of business cannot be used in the calculation of assets. For example, a nursing home corporation could be a subsidiary of a hotel chain. The hotel assets cannot be used for purposes of qualifying for the $50 million asset test. However, with the exception of the related party rule, it is not our intent to require corporations to be familiar with cost reimbursement rules of 42 CFR part 413. Tangible assets used in furnishing items and services may be counted even though they may not be allowable costs under part 413. The information necessary to determine compliance with this $50 million asset test is readily available in the accounting books of entities, and the accounting methods for determining compliance are fully consistent with generally accepted accounting principles. Thus, an independent certified public accountant should have little trouble certifying an entity's compliance with these requirements.

This safe harbor contains five standards, not all of which may be applicable in every instance. The first two standards, paragraphs (a)(1) (i)- (ii), which will be discussed here, focus on the nature of the investment interest. (The three remaining standards are being added in response to other comments which will be discussed below.)

The first standard (see paragraph (a)(1)(i)) applies only to an investment interest in an equity security, and requires such a security to be registered with the SEC under 15 U.S.C. 78l (b) or (g). We had considered but are rejecting an alternative standard that the investment interest must merely meet the SEC registration qualifications. This requirement of actual registration provides a clear bright-line rule, and is an indication of good-faith entry into the public securities markets, which is a significant factor underlying the rationale for this safe harbor. In addition, we are requiring the investment interest actually to be registered with the SEC because many exemptions exist to the SEC's $5 million asset/500 investor rule, which permit many entities to be actively traded but not to be registered with the SEC, and thus not under its oversight. See 15 U.S.C. 78l(g)(2). However, the SEC's reasons for granting an exception may not be consistent with the purposes of this rule, and thus we see no particular reason to protect securities simply because they qualify for an SEC exemption. We note that one such exemption under 15 U.S.C. 78l(g)(2) is for securities listed and registered on a national securities exchange. Such securities must comply with 15 U.S.C. 78l(b), and for the purposes of this rule we are requiring such securities to be registered with the SEC.

We are not applying the registration requirement to investment interests that involve debt securities because we believe that the extra safeguard of SEC registration is unnecessary. Publicly traded debt instruments, although protected under this safe harbor, are not the type of investment interests that are the focal point of this rule. Although the potential for abuse is present, we have not been apprised of the actual occurrence of abuse relating to these investment interests, and believe that their usefulness as instruments for inducing investors' referrals is more limited than equity investment interests.

The second standard (see paragraph (a)(1)(ii)) responds to the commenters' suggestions regarding public trading. We are adding a standard to this provision requiring the investment interest of an investor in a position to make or influence referrals to, furnish items and services to, or otherwise generate business for the entity to be obtained on terms equally available to the public through a registered national securities exchange, such as the New York Stock Exchange or the American Stock Exchange, or through the National Association of Securities Dealers Automated Quotation (NASDAQ) system. We note that we specifically intend to preclude safe harbor protection for securities traded through the so-called "pink sheets" or those "non-NASDAQ" securities that are traded through the OTC Bulletin Board Service. See, Securities Exchange Act Release No. 34-27975, May 1, 1990. This standard follows our original intent to assure that the investment interests of physicians or others in a position to influence referrals must be obtained through the kind of arms length trading that is normally associated with actively traded public securities at the fair market value through a publicly regulated exchange. Such public trading assures that the entity does not obtain capital by self- selecting investors based on their status as sources of referrals.

Although we are not requiring investment interests of other investors to be obtained through public trading, physicians and others in a position to influence referrals must strictly comply with this standard. We plan to closely scrutinize attempts to circumvent this standard. For example, any investment interest obtained before an entity becomes publicly traded is not protected under this provision. In addition, an investor is not protected by exchanging a limited partnership interest for shares in a newly formed entity that is publicly traded. Further, this standard precludes protection of payments from securities where physicians are afforded the opportunity to buy the available shares of an entity before other members of the public have the opportunity to invest in that entity. Such an entity would have only physicians as investors, and it is not our intent to protect payments from such entities. We expect the public to be afforded a genuine opportunity to invest in these publicly traded entities. Where referring sources (or their immediate families) hold a large proportion of the shares, we will presume that this standard has not been met.

Comment: A number of commenters suggested that the OIG expand this provision in a variety of ways to protect remuneration from debt as well as equity instruments and from entities other than corporations, such as partnerships.

Response: As discussed above, this safe harbor protects debt as well as equity instruments. We recognize that an ambiguity existed in our proposed rule in that our 500 investor test applied only to "a class of equity security" and thus appeared to prohibit debt instruments from qualifying under this safe harbor provision. However, this ambiguity is resolved by eliminating the 500 investor test. In addition as discussed above, we are exempting debt instruments from the SEC registration requirement contained in the first standard.

We also agree that investments in partnerships should be protected, and we are revising this provision accordingly, by adding a definition of investment interest.

Comment: A few commenters expressed concern that entities meeting the requirements contained in the proposed safe harbor provision could still be engaging in abusive relationships with individuals in a position to make referrals. One commenter suggested that we specifically protect against fraudulent cross-referral arrangements whereby investors in entity "A" are explicitly or implicitly encouraged to refer to entity "B" in return for entity "A" receiving the referrals from the investors of entity "B."

Response: We agree with the thrust of these comments, and are adding three standards (see paragraphs (a)(1) (iii)-(v)) to clarify our original intent and assure that investment interests are not used as inducements for referrals. One, the entity or any investor must not market or furnish the entity's items or services to passive investors in any manner differently than to non- investors. In other words, although an entity may seek referrals or other business from passive investors, it must promote and furnish its items or services to investors and non-investors in the same manner. An entity may not use a separate marketing approach or provide a different level of service to passive investors as opposed to non-investors. For example, in its promotional efforts, the entity may not in any manner appeal to or refer to such investor's position as an investor, and in serving customers it may not offer special arrangements to investors that are not available or are offered on different terms to non-investors. Any distribution to passive investors of individual or aggregate investor referral patterns would also not be protected under this provision. In addition, the entity or any investor must not promote the items or services of other entities as part of a cross referral agreement. One type of cross referral arrangement we are not protecting is the sham transaction described in the above comment.

Two, the entity must not loan funds to or guarantee a loan for an investor to use for the purpose of obtaining the investment interest. We do not believe protection should be afforded where an investor is loaned money from the entity, or from a parent or subsidiary corporation (or is guaranteed a loan by the entity or a related organization), and the investor makes an investment based on that loan. In such a situation, the investor is adding no real capital to the entity. We note, however, that safe harbor protection is available where the investor borrows from other sources, such as from his or her broker or a bank.

And three, the amount of payment in return for the investment interest must be directly proportional to the amount of the capital investment. Such payments are consistent with the type of corporate dividend payment that we are trying to protect.

We believe that these minor revisions, which are fully consistent with our original intent, should offer reasonable protection against the possibility of significant abuses without unduly restricting the types of entities that may qualify under this provision.

b. Small Entities. In the notice of proposed rulemaking we solicited comments on expanding the proposed investment interest safe harbor to protect payments from investments in small entities, particularly limited and general partnership interests. For limited partnership interests we suggested four standards for protection: (1) A bona fide opportunity to invest is made on an equal basis without regard to the investor's ability to make referrals, (2) no requirement is imposed on the investor to make referrals, (3) disclosure is made to the referred patient, and (4) payments are not related to referrals. As conditions for protection of payments from investments in general partnership interests, we suggested that disclosure of the investment interest be made to a referred patient and payments not be related to referrals.

Comment: A large number of people commented that, in view of the OIG's interpretation of the statute as not prohibiting all referrals to entities in which a physician has an investment interest, safe harbor protection should be provided for legitimate arrangements. While some commenters suggested that the OIG adopt generic criteria for analyzing these arrangements, others commented more directly on the proposed standards we suggested in the proposed rule. A few commenters suggested that any safe harbor protections should treat indirect ownership interests held by family members in the same manner as direct ownership interests to assure that investors who make referrals to that entity do not circumvent the intent of these requirements by having investments held in the name of family members instead of their own names.

The enormous response to this invitation for comment reflected the polarization of the health care community on this issue. Those supporting safe harbor protection emphasized that physician-investor joint ventures promote competition, provide quality services, promote patient convenience, bring needed services to communities, are cost effective, do not lead to over- utilization, do not compromise ethics, and enable services to be provided outside hospitals and physician offices. Those urging no safe harbor protection or expressing a need for stringent safeguards argued that these joint ventures hurt competition, compromise quality of care, are not in patients' best interests, increase costs, lead to over-utilization, and create conflict of interests between health care providers and patients.

A large number of commenters generally supported safe harbor protection for payments to those with managing partnership interests and agreed with the OIG's two suggested conditions for protection. However, a few commenters opposed such protection. In addition, a few commenters suggested that the OIG define which individuals would be protected under this provision.

Response: Because of the significant business investment activity in these small entities--typically joint ventures--and the advantages of permitting them in certain situations, we believe that safe harbor protection is warranted. However, we have also observed widespread abuses in many of these joint ventures. In particular, we believe that a large number of these newly formed entities are designed to have physicians as investors specifically to induce them to use the entity in which they have invested. Therefore, any safe harbor protection must include significant safeguards to minimize any corrupting influence the investment interest may have on the physician-investor's decision where to refer a patient. We are including a second (35967) investment interest provision (paragraph (a)(2)) that protects payments to investors who are limited and general partners, shareholders, or holders of debt securities where eight standards are met. We will discuss some of the definitional categories of persons who are protected under this provision, our response to comments recommending special protection for managing partnership interests, and our three categories that provide structure for the eight standards in this safe harbor.

We have classified "investors" as either "passive" or "active" because some of the standards apply only to those defined as "passive" investors. The definition of an "active" investor includes two categories of persons. The first category is modeled after a bona fide general partner in a partnership under the Uniform Partnership Act who is responsible for the day-to-day management of the entity.

We are including a second way to qualify as an "active" investor: the individual or entity must agree in writing to undertake the liability for the partnership, including the acts of its agents acting within the scope of their agency. We believe that such an affirmative act will assure that the individual or entity performs many of the same functions that general partners do who actively manage the day-to-day operations of the joint venture entity. For example, these active investors undertake the business risk that a typical general partner does, and will be interested in assuring that the day-to-day managers of the entity engage in sound business practices and not run afoul of the statute as well as other Federal and State laws and regulations.

"Passive" investors are those investors who are not active investors, such as limited partners in a partnership or shareholders in a corporation.

This second investment interest safe harbor provision includes some standards that must be met by both passive and active investors, and some standards that need only be met by passive investors, to the extent any exist in the joint venture. If an entity contains only active investors, the standards applicable only to passive investors would, of course, not apply. It must be emphasized, however, that the standards for this safe harbor must be met by all the investors in the entity. To the extent that one class of investors, such as active investors, qualifies, but the passive investors do not meet one of the standards, safe harbor protection is not given to payments to any investors in the entity.

In this regard, special attention must be paid to cases involving ownership interests held indirectly through other entities. Take a situation, for example, where a group of individuals are passive investors in entity "A", which in turn is the active investor in entity "B." For entity "B" to qualify under this safe harbor provision, entity "A" must meet all the requirements for active investor in entity "B," and the individual investors of entity "A" must meet all the requirements as passive investors in entity "B."

We believe that this provision will protect investment interests of those with managing partnership interests who establish limited partnerships that meet the standards of this provision. We have decided not to include a third investment interest provision at this time that would place fewer requirements on business structures composed entirely of active investors. We recognize that there are many legitimate small businesses structured in this manner where a group of individuals come together and all of them participate as hands-on managers in the day-to-day operations of the business and undertake personal liability for the entity. Historically, many hospitals were formed in this manner. And currently many group practices and other innovative health care delivery systems are being formed on a bona fide basis in this same manner. However, there are many new entities that have the same business structure, but that may be subject to abuse under the statute. Consequently, we have determined that it is inappropriate to implement a safe harbor provision at this time for entities composed exclusively of active investors that would not have to meet the standards we are implementing in this second investment interest provision. However, we are considering a new safe harbor provision for such investment interests which we anticipate publishing as a separate regulation.

The safe harbor provision we are including in this rule for investment interests in small entities was developed based on the standards we suggested in the proposed rule, the comments we received on our proposals and our continuing experience in enforcing the statute. This experience includes investigations of abusive joint venture arrangements, our Fraud Alert describing suspect features of these arrangements, and our Report to Congress entitled "Financial Arrangements Between Physicians and Health Care Businesses" (OIG, Office of Analysis and Inspections, May 1989). The Report to Congress disclosed in detail both the extensive ownership of joint ventures by physicians, and the additional services received by patients of these physicians as compared to all Medicare patients in general.

The standards for this provision are structured into three categories that we have identified as being of concern to us in joint venture arrangements: (1) The manner in which investors are selected and retained, (2) the nature of their business structure, and (3) the financing and profit distributions. To the extent possible, we have adopted bright line rules. We believe that this approach will facilitate compliance because investors will be able to determine easily whether they meet the conditions of safe harbor protection. As discussed in section III.A. above, we are not accepting commenters' suggestions for generic criteria. We believe that such criteria do not provide sufficient protection against abusive arrangements, nor do they provide meaningful guidance to delineate when a provider has complied with them.

The following discussion will be structured along the lines of the three problem areas we have identified.

(i) Manner in which investors are selected and retained. In this section we discuss the comments and our responses regarding the problem of the manner in which investors are selected and retained. The first five standards of this investment interest provision protecting small entities (paragraphs (a)(2)(i)- (v)) relate to this problem area.

Comment: The OIG received mixed comments on the first standard suggested in the proposed rule, that a bona fide opportunity to invest be provided on an equal basis to all investors without regard to their ability to make referrals. A large number of commenters expressed concern about the meaning and workability of this standard, particularly that it is vague and would be difficult to police. Several commenters construed this first suggested standard as a results-oriented test requirement, in other words, that joint ventures must be owned partly by individuals not in a position to make referrals. Some suggested that the OIG place a limit on the percentage of ownership of an entity that can be held by such referring investors. The percentages ranged from 5 percent to 85 percent ownership by referring investors. Others suggested that the OIG should not require these entities to have some amount of non-referring investors. One commenter specifically objected to a requirement that a joint venture have a majority of the ownership interests held by non-referring investors. Five commenters expressed concern that any requirement that investment interests be offered to non- referring individuals may be construed as requiring a public offering, thus triggering the necessity of complying with SEC rules (such as Regulation D governing the limited offering and sale of securities without registration under the Securities Act of 1933, 17 CFR 230.501 et seq.) or State "blue sky" laws which require public securities registration.

Response: We agree with the concerns expressed by most of the commenters about our first suggested standard. Thus, we are replacing it with three standards (paragraphs (a)(2)(i)-(iii)) in order to better address problems concerning the manner in which investors are selected. To comply with our first standard, investors who make referrals or who are in a position to make referrals or furnish items or services cannot own more than 40 percent of the value of investment interests within each class of investments in the entity. This standard requires not only that a bona fide opportunity to invest has been afforded to people not in a position to make referrals, but that these individuals hold at least 60 percent of the value of the investment interests in each class of investments.

In essence, we are switching a process measure with an outcome measure. As several commenters observed, our proposed standard of equal opportunity to invest contemplated that an equal number of referring and non-referring individuals would be given an opportunity to invest. Such a process-orientated test would have been virtually impossible to monitor. For example, such a standard would have required a joint venture to monitor all marketing solicitations, and determine the referral status of everyone who was solicited to make sure that an equal number of referring and non-referring potential investors were given the opportunity to invest. The alternative outcome measure we are adopting will provide a bright line test which will assist all the parties to the joint venture and the Department in determining whether compliance with this first standard has been achieved.

Although compliance with this "60-40 percent investment" standard will necessitate some monitoring data, we want to minimize the burden. Therefore, the joint venture is free to use any internal accounting principles it chooses to adopt so long as it uses such principles consistently over time so that it is not manipulating the data to obscure its noncompliance. In addition, we are establishing two alternative time periods in which compliance is to be measured. The measurement period can either be a joint venture's prior fiscal year or the previous 12 month period. For example, if a joint venture uses a calendar year as its fiscal year and wants to know in April 1990 whether it is in compliance with this standard, it may either look at the number and status of investors in 1989, or it may use its investor data from March 1989 through March 1990.

We expect that the parties to a joint venture will find it far preferable to use its prior fiscal year data because if that year's data shows compliance with this standard then the joint venture is in compliance for the entire current fiscal year. The alternative approach of a rolling 12 month average will enable a joint venture to reach compliance sometime within the current fiscal year so that it does not have to remain out of compliance for a full year. However, we also recognize that a joint venture using this rolling 12 month average that is being operated close to this 40 percent line may find itself in compliance one month and then out of compliance the next month. We emphasize that it is highly unlikely we will pursue an investigation of a joint venture where it complies with all the other standards in this safe harbor, is out of compliance with this 60-40 percent investment standard based on its prior fiscal year data, but is making a good-faith effort to reach compliance with this standard based on data showing compliance on a monthly basis for the most recent months of operation.

As previously discussed, for the purposes of complying with this 60-40 percent investment standard, we are classifying investors who provide items and services together with investors who make or influence referrals to the entity. This classification is necessary to preclude a supplier, such as a DME company, from forming a joint venture with referring physicians, giving them a 39 percent interest in the entity. It would be inappropriate to grant safe harbor protection to such an entity because all of the owners would be doing business with the joint venture by either furnishing items or making referrals. In order to remedy this problem, the DME supplier is classified with the referring physicians for the purposes of this 60-40 percent investment standard. Thus, for example, if a DME supplier and its referral sources want to be investors in an entity with which they will do business, to comply with this first standard, at least 60 percent of the value of the investment interests must be held by investors who will neither make referrals nor engage in business activity with the entity.

The second and third standards of this provision address the problems of discriminatory marketing strategies that result in the offer of better deals, for example, more shares or a better price, to individuals who will refer a high volume of patients. The second standard focuses on the status of investor and bars safe harbor protection where the terms of investment opportunities depend on whether a passive investor is in a position to influence referrals, furnish items or services, or otherwise generate business for the entity. The entity can offer investments to such investors only on the same terms as those offered to other passive investors not in a position to influence the flow of business to the entity. We are not imposing this standard on active investors because we recognize that it is precisely because of a physician's familiarity with the health care field that he or she may be chosen as a general partner and offered different investment terms from those offered to passive investors.

The third standard assumes that an investment interest is being offered to a person in a position to make referrals, but bars the offering of favorable terms based on his or her past or expected referrals or amount of business otherwise generated for the entity. This standard applies both to active and passive investors because we believe it is inappropriate to protect all investment interests where any investor, even general partners, can obtain more shares because they can be expected to generate more business for the entity. We recognize that there may be situations where it is not abusive to offer more shares based on this consideration, but we also believe that such a practice can have a serious potential for abuse.

With respect to the potential triggering of a public registration requirement under SEC rules or State "blue sky" laws, we believe that there is nothing in this provision that would compel such a result. Thus, we see no need to modify this provision.

Comment: In response to the OIG's proposal that no requirement be imposed on the investor to make referrals, many comments dealt with the issue of how investors are retained. Specifically, many commenters objected to requirements, which entities commonly place on investors, that investors must divest their interest if they no longer are able to make referrals to that entity. One commenter suggested that the OIG prohibit entities from distributing any information to investors about their referral patterns to that entity.

Response: We generally agree with these comments and have addressed them in the fourth and fifth standards of this safe harbor provision. (Paragraphs (a) (2) (iv) and (v)). The fourth standard bars the entity from requiring passive investors to make referrals or remain in a position to make referrals as a condition for retaining their investment. The fifth standard parallels the new standard for publicly traded entities and requires the entity and investors not to market or furnish items or services to passive investors in any manner differently than to non-investors. Some examples of practices that would not be protected are provided in the discussion above on the parallel provision for publicly traded entities. These two standards apply only to passive investors because, as we stated, we recognize that active investors are often sought out because they will help generate business for the joint venture.

This fifth standard also requires the entity and any investor not to promote the services of other entities as part of a cross referral agreement. As we noted in the previous section on publicly traded entities, an example of a cross referral arrangement that would not comply with this standard exists when investors in entity "A" are explicitly or implicitly encouraged to refer to entity "B" in return for entity "A" receiving the referrals from the investors of entity "B."

Comment: A large number of commenters supported the OIG's third proposal that disclosure of the investment interest be made to individuals for which a referral is made. However, some were opposed to such a requirement.

Response: For the reasons discussed in section III.B.2. above, we decline to adopt a disclosure requirement.

(ii) Business structure. In this section we discuss the comments and our responses regarding the problem of the nature of the business structure of joint ventures. The sixth standard (paragraph (a)(2)(vi)) relates to this problem area.

Comment: The OIG received a large number of comments relating to the business structure of joint ventures, and particularly on the problem that many abusive joint ventures exist primarily on the referrals from their investors. Many of these commenters alleged that such joint ventures are unable to compete for business in the open market on the basis of cost, quality and convenience. These commenters alleged that such joint ventures thereby hurt competition by unfairly "locking in" referrals from investors. However, one trade association reported from a survey of its members that, on average, 47 percent of the referrals to entities operated by its members came from non-investors. Many commenters also expressed concern that abusive joint ventures have no real business