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Fourth Circuit upholds $237 million judgment against rural hospital

BY MARY M. BEARDEN AND ALLISON SHELTON, Brown & Fortunato, P.C.

On July 2, 2015, the Fourth Circuit Court of Appeals upheld a $237 million judgment against Tuomey Healthcare Systems, Inc. for violations of the Stark Law and the False Claims Act (FCA). U.S. ex rel. Drakeford v. Tuomey Healthcare Systems, Inc. has been a closely watched case in the health care industry because it addresses several key issues under the Stark Law and the FCA.

Tuomey is a nonprofit hospital located in a rural area that has been designated as medically underserved. In 2000, physicians who had previously performed surgeries at the hospital began performing the surgeries in physician offices and independent surgical centers. As a result, Tuomey stood to suffer a significant financial loss.

To address the situation, Tuomey proposed to employ the physicians part-time. Under the employment contracts, the physicians were required to perform outpatient surgeries at the hospital. As compensation, the physicians would receive a base salary. This salary was adjusted yearly based on the physician’s collections from the previous year. The physicians also received a productivity bonus of 80 percent of the physician’s collections and an incentive bonus of seven percent of the physician’s earned productivity bonus. Furthermore, Tuomey provided to the physicians certain benefits, including malpractice insurance, health insurance, and billing services.

Tuomey retained legal counsel to review the contracts. In 2003, local counsel reviewed the arrangement and engaged a consulting firm to conduct a fair market value analysis. Tuomey also retained Richard Kusserow to review the arrangement. At the time, Kusserow was a former Inspector General for the U.S. Department of Health and Human Services (HHS).

Tuomey eventually engaged nineteen physicians under the part-time employment arrangement. However, Tuomey was unable to reach an agreement with Dr. Michael Drakeford. Drakeford believed that the arrangement violated the Stark Law because the physicians were being paid in excess of their collections. In 2005, Tuomey and Drakeford jointly engaged Kevin McAnaney for legal advice on the arrangement.

McAnaney was a former HHS Chief of the Industry Guidance Branch and had expertise in the Stark Law. McAnaney informed Tuomey and Drakeford that the arrangement had significant “red flags,” and that the parties would have difficulty establishing that the physician’s compensation was consistent with fair market value. Drakeford declined to enter into an agreement with Tuomey.

Tuomey disengaged McAnaney and retained Steve Pratt. Pratt practiced with Hall Render, which is a firm with special expertise in health care law. Pratt provided Tuomey with two opinions that generally approved of the part-time employment arrangement with the physicians.

Drakeford brought an FCA qui tam suit against Tuomey, and the government intervened. At trial, the jury found that Tuomey violated the Stark Law and had submitted 21,730 false claims in violation of the FCA. The total value of the false claims was $39,313,065, which the district court trebled in accordance with FCA requirements. Furthermore, the district court assessed a civil penalty of $5,500 for each claim. As a result, the district court rendered a judgment of $237,454,195 against Tuomey. On appeal, Tuomey challenged several aspects of the district court’s proceedings and findings.

One of the challenges made by Tuomey focused on the finding that the employment contracts violated the Stark Law. Under the Stark Law, a physician who has a direct or indirect financial relationship with a hospital may not refer beneficiaries to the hospital for designated health services, including inpatient and outpatient services. Furthermore, the hospital may not bill for any services rendered to such beneficiaries. Indirect compensation arrangements do not trigger the Stark Law prohibition as long as (1) the referring physician receives compensation that is consistent with the fair market value of the physician’s services; (2) the compensation is not determined in a manner that takes into account the volume or value of referrals; and (3) the compensation is commercially reasonable and does not violate any applicable law. Therefore, Tuomey argued that the compensation arrangement with physicians did not violate the Stark Law.

The circuit court held that it was reasonable for the jury to conclude that compensation under Tuomey’s contracts varied with the volume or value of referrals. The amount of the physician’s base salary varied each year based on the physician’s actual collections from the previous year. Likewise, the amount of the productivity bonus varied based on the amount of the physician’s collections.

Tuomey argued that because the compensation varied based on the collections for services personally performed by the physicians, the arrangements did not trigger the Stark Law prohibition. The term “referral” in the Stark Law does not include “any designated health service personally performed or provided by the referring physician.” The circuit court was unpersuaded by Tuomey’s argument because such collections were inextricably connected to the hospital’s collections of facility fees. The circuit court explained: “[T]he more procedures the physicians performed, the more facility fees Tuomey collected, and the more compensation the physicians received in the form of increased base salaries and productivity bonuses.”

Tuomey also challenged the finding that it had violated the FCA. Tuomey claimed that because it relied on the advice of counsel, Tuomey did not have the requisite intent to violate the law. A violation of the FCA occurs when an individual or entity “knowingly” presents a false or fraudulent claim. Furthermore, a defendant can show that it did not act knowingly if the defendant disclosed all pertinent facts to counsel and relied in good faith on counsel’s advice.

The circuit court concluded that a reasonable jury could find that Tuomey did not act in good faith reliance on advice of counsel after Tuomey received McAnaney’s warnings in 2005. The court found that “the record [in the case was] replete with evidence indicating that Tuomey shopped for legal opinions approving of the employment contracts, while ignoring negative assessments.” Furthermore, Tuomey did not disclose all pertinent facts, including McAnaney’s advice, when Tuomey sought an opinion from Pratt.

Tuomey asserted several arguments challenging the amount of the civil penalty awarded in the case. Tuomey argued that the civil penalty was inflated because the penalty included the amount of funds Tuomey received from inpatient procedures. The compensation arrangements with the physicians, however, were based solely on outpatient procedures. Tuomey’s argument was unsuccessful. The court explained that when a physician has a financial relationship with a hospital, the physician may not make any referral to the hospital for designated health services. Moreover, the hospital may not bill for any such services.

Tuomey argued that the district court should not have factored the full amount paid by the government into the damages assessed against Tuomey. Instead, the damages should have consisted of the difference between the amount paid by the government and the fair value of the services provided by Tuomey.

The circuit court disagreed: “The Stark Law prohibits the government from paying any amount of money for claims submitted in violation of the law.” According to the court, all services rendered by Tuomey were deemed medically unnecessary due to Tuomey’s violation of the Stark Law. Therefore, the government owed nothing for Tuomey’s services.

The circuit court disagreed with all of Tuomey’s arguments and upheld the district court’s judgment against the hospital. In a concurring opinion, Judge James Wynn observed that “the Stark Law has become a booby trap rigged with strict liability and potentially ruinous exposure—especially when coupled with the False Claims Act.” Hospitals should review their compensation arrangements with physicians in light of U.S. ex rel. Drakeford v. Tuomey Healthcare Systems. Inc. Furthermore, when providers seek legal opinions regarding compensation arrangements, providers should take care to disclose all potentially relevant facts. Otherwise, the provider may be unable to successfully assert the advice of counsel defense in a related qui tam action.