American Health Lawyers Association Annual Meeting O. Sweating

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					                             American Health Lawyers Association
                                      Annual Meeting
         O.       Sweating the Small Stuff: de minimis Medical Staff Benefits
                               and Executive Perquisites
                                              Gerald M. Griffith


         A.       Direct Gifts and Conflicts

         Gifts, complimentary items, and other incidental benefits and business courtesies such as
free parking, meals, continuing medical education (CME), entertainment and courtesy discounts
provided by hospitals to their medical staff physicians have long been a source of concern for
regulators. The regulatory scheme is designed to address the arguable conflict of interest that
arises when a physician is influenced by financial considerations (i.e., in-kind gifts as a reward or
inducement for referrals) and not solely the best interests of the patient. Simply put, anything of
value directly or indirectly provided to a physician (or their family members and office staff)
may implicate the federal law prohibiting certain referrals by physicians, 42 U.S.C. § 1395nn
(the “Stark Law”) and the federal anti-kickback statute, 42 U.S.C. § 1320 a-7b(b) (the “Anti-
kickback Statute”), and equivalent state laws. Hospitals organized under Section 501(c)(3) of the
Internal Revenue Code of 1986, as amended (the “Code” or the “IRC”) are also subject to certain
restrictions and reporting obligations in connection with such gifts and incidental benefits (the
“Federal Tax Requirements”).

         Many hospitals offer some form of free items, gifts or other business courtesies to their
medical staff physicians (e.g., bagels in the doctor’s lounge, CME, sports or cultural event
tickets). Accordingly, if a centralized process or consistently-applied policy is not implemented,
it is likely that Stark Law mandated thresholds are being exceeded and Anti-kickback Statute and
tax risk is greater than the hospital may realize. As part of an effective compliance program,
every hospital should develop a policy for compliance with these laws, to include a process for
tracking the provision of gifts, complimentary items, and other incidental benefits provided to
physicians (and their immediate family members and office staff). This outline provides an
overview of applicable laws related to the provision of free items, gifts and incidental benefits to
medical staff physicians, along with recommendations for developing and implementing a policy
and mechanism for tracking the provision of such items.1

          Although state laws are discussed only briefly in this outline, they should be considered in developing a
policy. Some state laws are potentially broader in scope than federal laws and apply to both private and
governmental payors.
        B.        Vendor Gifts and Conflicts

        Pharmaceutical companies and medical device manufacturers provide another avenue for
medical staff gifts and one that may be more difficult for hospitals and other health care
organizations to control. These gifts too may pose conflicts of interests that may adversely
impact decision making within a health care system, and can trigger many of the same
compliance concerns as direct gifts from the hospital, particularly the Anti-kickback Statute.
Public awareness of these issues also has heightened over the last few years, leading to closer
scrutiny by patients, the press and legislators of perceived (or actual) improprieties, resulting in
negative publicity and harm to the reputation of the health care providers implicated in such
practices, in addition to potential legal sanctions and more extensive government regulation.

         For example, a recent survey published in the New England Journal of Medicine in April
2007 found that one out of every three members of a hospital review board supervising patient
experiments had taken money from the makers of drugs and devices that were being studied by
their hospitals.2 The Associated Press also reported that nearly two-thirds of the academic leaders
surveyed at medical schools and teaching hospitals have financial ties to the pharmaceutical
industry.3 Prominent physicians and researchers have also urged their colleagues to shun industry
gifts, including “a complete ban on corporate money for things like souvenir pens, tote bags and
the sponsorships of committees that develop clinically important guidelines and training
programs.”4 A growing number of hospitals, medical schools and professional medical
associations are heeding that advice and banned gifts, free meals and other considerations from
industry.5 There are also a growing number of organizations banning sales representatives from
certain hospital and practice locations or mandating and then voluntarily disclosing online
physician ties with industry, despite concerns from some that these efforts deprive physicians of
useful information.6

          E. Campbell et al., “A National Survey of Physician-Industry Relationships,” 356 New England Journal
of Medicine 1742 (April 26, 2007). For a summary of the survey results, see J. Fahy, “Most Doctors Still Take Gifts
from Drug, Device Firms,” Pittsburgh Post-Gazette (April 26, 2007), available online at
            L. Tanner, “Drug Company Ties Common n Med Schools” (Associated Press, (Oct. 17, 2007).
            R.C. Rabin, “Doctors Urge End to Corporate Ties,” New York Times (April 2, 2009). The Institute of
Medicine (IOM) also recently warned physicians not to accept free drug samples unless they intend to dispense them
to needy patients and should not accept any gifts of material value. See M. Arnold, “IOM: Quit Gifts, Reps,
Samples,” Medical Marketing & Media (April 28, 2009) (
samples/article/131516/); S. Landers & K. O’Reilly, “IOM Warns About Physician-Pharma Conflicts of Interest,”
AM News (May 11, 2009) ( A copy of the IOM
report is available online at
          See, e.g., “Pharmaceutical Companies Banned from Giving Gifts at Stanford,” Bio-Medicine (Sept. 19,
2006), available online at
Giving-Gifts-at-Stanford-14300-1/; E. Fuchs, “Report Pushes for Ban on Industry Gifts,” AAMC Reporter (July
2008), available online at; K. O’Reilly, “Pharma Support
of Medical Societies Raises Conflict-of-Interest Concerns,” AM News (April 13, 2009) available online at
          See, e.g., A. Vecchione, “Rep Access to Docs Diminishing,” Medical Marketing & Media (April 16,
2009); available online at; “Doctors

         There is some industry guidance of relevance such as an American Medical Association
(AMA) ethical opinion industry voluntary compliance guidance in the pharmaceutical and
medical device industries, all of which offer useful insight on how the overall healthcare industry
is dealing with physician gifts. Legislative efforts at the federal and state level are also seeking to
reduce conflicts with pharmaceutical, medical equipment and other vendors through limiting
gifts to physicians and/or mandating disclosure of investments and other financial interests.

                 1.       AMA Position

        The American Medical Association (AMA), addressed vendor gifts in Ethical Opinion
8.061, “Gifts to Physicians from Industry,” issued in 1992 and updated most recently in 1998.
Although the AMA recognizes that gifts given to physicians by companies in the pharmaceutical,
device and medical equipment industries often serve an important and beneficial function, the
AMA Ethical Opinion recommends that certain guidelines be followed, including that any gifts
accepted by physicians should primarily entail a benefit to patients and should not be of
substantial value.

                 2.       AdvaMed Code of Ethics

        The Advanced Medical Technology Association Code of Ethics on Interactions with
Health Care Professionals (“AdvaMed Code of Ethics”), effective January 1, 2004, provides
specific guidance on how medical technology companies should interact with health care
providers in certain circumstances, and also provides a “frequently asked questions” section.7
Among other things, the AdvaMed Code of Ethics (Section IX) precludes companies from
providing health care professionals with gifts regardless of value, including “cookies, wine,
flowers, chocolates, gift baskets, holiday gifts or cash or cash equivalents.” The prohibition,
however, does not apply to providing products for evaluation and demonstration periods (See
Section XI). The AdvaMed Code of Ethics (Section VIII) also restricts provision of food to
“modest meals … provided as an occasional business courtesy.”

                 3.       PhRMA Code

        The Pharmaceutical Research and Manufacturers of America Code on Interactions with
Healthcare Professionals (“PhRMA Code”), effective July 1, 2002, addresses interactions with
healthcare professionals that relate to the marketing of pharmaceutical products, and addresses
specific guidelines for each of several different types of interactions, including informational
presentations, educational or professional meetings, consultants, and educational and practice-
related items, among others. The PhRMA Code is also a helpful resource in that it provides a


Tire of Pharma Sales Rep Visits” (Nov. 14, 2008),
pharma-sales-rep-visits.html; “Ban on Drug Company ‘gifts’ to Doctors Misguided,” Syracuse Post-Standard
(June 12, 2008) (letter to editor).
           The Advanced Medical Technology Association (AdvaMed) updated its Code of Ethics on Interactions
with Health Care Professionals (AdvaMed Code) in December 2008, to be effective July 1, 2009, see

“Questions & Answer” section that provides guidance in the form of real-world scenarios.8 The
PhRMA Code (Section 10) provides that “[p]ayments in cash or cash equivalents (such as gift
certificates) should not be offered to healthcare professionals either directly or indirectly, except
as compensation for bona fide services (as described in Sections 6 and 7).” Product samples for
patient use, however, are permitted where consistent with the Prescription Drug Marketing Act.
Similar to the AdvaMed Code of Ethics, the PhRMA Code (Section 2) also restricts provision of
food to occasional meals in conjunction with informational presentations by company

                   4.      OIG Pharma Guidance

        The OIG issued Compliance Program Guidance for Pharmaceutical Manufacturers
(“Pharma Guidance”) on May 5, 2003, in which it sets forth the specific elements it believes that
pharmaceutical manufacturers should consider when developing and implementing an effective
compliance program. It is noteworthy that the OIG references the above-described PhRMA Code
by calling it “useful and practical”, and notes that compliance with the PhRMA Code “will
substantially reduce the risk of fraud and abuse and help demonstrate a good faith effort to
comply with the applicable federal health care program requirements.”9

                   5.      Recent Legislation

        Senators Grassley and Kohl have also now twice introduced legislation to mandate
reporting of physician gifts. The Physician Payments Sunshine Act of 2009 (S. 301, first
introduced in 2007), if passed into law, would require “applicable manufacturers” to disclose to
the Secretary of Health and Human Services, on a quarterly basis starting March 31, 2011,
anything of value given to physicians in excess of $100 per calendar year. An “applicable
manufacturer” would be a manufacturers of any drug, device, biological or medical supply.
There would be exclusions for samples not intended for resale, educational materials for patients,
loan of a covered device for a short-term trial period (not to exceed 90 days), certain warranty
items and services, items provided to physicians as patients, volume discounts, charity care, and
dividends on publicly traded stocks. The same information would be required to be made
available to the public by September 30, 2011. Penalties for failing to report would range from
$10,000 to $100,000 per violation. Under this law, the Secretary of HHS would be required to
create a website and post the disclosed information in a clear and understandable manner. The
purported goal of this legislation is to increase transparency. It is also noteworthy that some
states have similar laws already on the books,10 and the Act would not preempt state law. As of
the date this outline was completed, S. 301 was still pending before the Senate Finance
          The Pharmaceutical Research and Manufacturers of America (PhRMA) recently revised its Code on
Interactions with Healthcare Professionals (PhRMA Code), which took effect in January 2009, see
            68 Fed. Reg. 23,731, 23,737 (May 5, 2003).
           See, e.g., E. Pringle, “Vermont Passes Tougher Disclosure and Gift Ban” (May 15, 2009),; N.
Reeves & B. Bohnenkamp, “How the New Massachusetts Marketing Code of Conduct and Disclosure Requirements
Will Impact Medical Device Manufacturers,” Health Lawyers Weekly, vol. VII, no. 14 (April 10, 2009).


         A.        The Stark Law

        Under the Stark Law, if a physician has a financial relationship with a hospital (including
an ownership/investment or compensation arrangement), the physician may not refer patients to
that hospital for the furnishing of “designated health services” (“DHS”) for which payment may
be made under the Medicare or Medicaid program, and the entity may not submit claims to
Medicare or Medicaid for DHS provided pursuant to a prohibited referral, unless a Stark Law
exception applies. 11 The Stark Law applies to several categories of DHS, including inpatient and
outpatient hospital services.

       Generally speaking, a hospital’s provision of gifts and incidental benefits to medical staff
physicians constitutes remuneration to the physicians (i.e., something of value) under the Stark
Law, which results in a “compensation arrangement.” As such, any referrals those physicians
make to the hospital for DHS (e.g., inpatient and outpatient hospital services) reimbursable by
Medicare or Medicaid are prohibited under the Stark Law, unless all of the elements of an
exception are met. There are several exceptions of potential relevance here; both exceptions
designed precisely for nonmonetary medical staff benefits (II.A.2. below) and exceptions of
broader applicability (II.A.3. below).

        A violation of the Stark Law can result in civil penalties and exclusion from Medicare,
Medicaid, and other federally-funded health care programs. Sanctions for violation of the Stark
Law include denial of payment for the services provided in violation of the prohibition; refunds
of amounts collected in violation; a civil penalty of up to $15,000 for each service arising out of
the prohibited referral; exclusion from participation in the federal healthcare programs; and a
civil penalty of up to $100,000 against parties that enter into a scheme to circumvent the Stark
Law’s prohibition. Under a currently expanding legal theory, knowing violations of the Stark
Law may also serve as the basis for liability under the False Claims Act.12

                   1.       The Medical Staff Benefit Exceptions

        The two exceptions that were specifically designed to cover gifts to physicians each have
specific dollar amount limits. The “medical staff incidental benefits” exception (42 C.F.R.
§ 411.357(m)) is limited to $25 (indexed for inflation to $30 in 2009) per gift with no aggregate
limit in any year; however, these gifts must be offered by a hospital (or entity with a bona fide

             The direct application of the Stark Law to Medicaid covered services is unclear. The Stark Law itself
only prohibits referrals for designated health services where payment for such services may be made by Medicare.
See, e.g., 42 U.S.C. §1395nn(a)(1)(A) (stating certain referrals prohibited for which “payment may otherwise be
made under this subchapter . …”). After the adoption of the Stark Law, Congress linked federal funding of state
Medicaid programs, in part, to Stark Law compliance. Title XIX of the Social Security Act, which governs Medicaid,
prohibits a state from using any federal funding to pay for designated health services provided pursuant to a referral
that the Stark Law would prohibit. See, e.g., 42 U.S.C. §1396b(s) (2006). CMS has yet to issue regulations
indicating how it will apply the Stark Law to referrals of Medicaid services. For purposes of developing a policy for
the provision of items and gifts to medical staff physicians, hospitals should assume application of the Stark Law to
all physicians who refer patients to the hospitals, whether Medicare patients or others.
              42 U.S.C. § 1395nn(g).

medical staff) to the entire medical staff or all physicians in the same specialty, must be
reasonably related to the delivery of medical services at the hospital, and, with limited exceptions,
must be used on campus during periods when the physician is making rounds or providing other
services for the hospital or patients. The “nonmonetary compensation less than $300”
exception (42 C.F.R. § 411.357(k)) has no per gift limitation but is limited to $300 per year
(indexed for inflation to $355 in 2009) regardless of what department within the hospital
provides the gifts.13 The gifts under this exception also may not be solicited by the physician, the
group practice or other members or employees. For DHS entities with a formal medical staff, this
exception also protects the provision of one local medical staff appreciation event per year for
the entire medical staff that will not count toward the annual dollar limit for any physician. Any
gifts or gratuities provided to the physicians in connection with that event, however, are subject
to all of the limitations of paragraph (k)(1) of the exception (i.e., not related to volume or value
of referrals, not solicited by the physician or practice, and not in violation of the Anti-kickback
Statute or any law or regulation governing billing or claims submission).14

         It is also noteworthy that those two exceptions have a number of common requirements:
(a) the amount of the gift cannot be determined in a manner that takes into account the volume or
value of referrals; (b) the gift must not violate the Anti-kickback Statute or other federal or state
laws or regulations regarding billing and claims submission; and (c) cash and cash equivalents
are strictly prohibited, as are gifts or free items offered to group practices (e.g., medical
equipment), even if the thresholds are not exceeded in the aggregate. The Stark Law regulations
do not define the term “cash equivalents.” Therefore, absent guidance from CMS, there is some
uncertainty for Stark Law purposes as to whether gift cards or gift certificates that are not
redeemable for cash and may be used only for a single specific item or service (e.g., gift
certificate for a free Thanksgiving turkey redeemable only at a specific store by the individual
named on the gift certificate) or a very limited range of specific items or services (e.g.,
redeemable for any of the daily specials at a local restaurant) would be viewed as “cash
equivalents” for Stark Law purposes. Examples in the preambles to the Stark regulations of items
or services that may qualify for these exceptions include any of the following if within applicable
per gift or annual dollar amount limitations: samples of drugs or chemicals; coffee mugs; note
pads; parking; modest meals; internet access; professional courtesy; dedicated pagers and two-
way radios for instant communication with physicians in an emergency; listing or identification
of medical staff members on the hospital’s website; advertising; dedicated computer terminal to
access hospital patient medical records; continuing medical education.15

        The “nonmonetary compensation less than $300” exception also has a correction
provision for inadvertently exceeding the applicable annual maximum value. If a DHS entity
inadvertently provided nonmonetary compensation to a referring physician in excess of the
applicable annual limit, the financial relationship will still be protected by this exception if the
entity did not exceed the annual limit by more than fifty percent (50%), and the physician returns

           CMS posts CPI updates for these two de minimis medical staff benefit exceptions annually at
             42 C.F.R. § 411.357(k)(4).
           See 63 Fed. Reg. 1659, 1713-1714 (Jan. 9, 1998); 66 Fed. Reg. 856, 920-922 (Jan. 4, 2001); 69 Fed. Reg.
16,054, 16,112-16,114 (March 26, 2004); 72 Fed. Reg. 51,012, 51,058-51,060 (Sept. 5, 2007).

the excess items or an amount equal to the value of the items or services “by the end of the
calendar year in which the excess nonmonetary compensation was received or within 180
consecutive calendar days following the date the excess nonmonetary compensation was
received by the physician, whichever is earlier.” This special cure period, however, is only
available once every three years for the same referring physician.16 There is no similar cure
provision in the “medical staff incidental benefits” exception, and the “temporary
noncompliance” exception does not apply to the two medical staff benefit exceptions.17

                  2.       Other Exceptions

        If neither the “nonmonetary compensation up to $300” exception (42 C.F.R.
§ 411.357(k)) nor the “medical staff incidental benefits” exception (42 C.F.R. § 411.357(m))
apply, or if the recordkeeping burden associated with those exceptions causes hospitals to seek a
fallback position (e.g., for comfort in the event recordkeeping is not effective at maintaining
compliance), there are other Stark Law exceptions that may apply to portions of various medical
staff benefits. What follows in this section is a brief summary of key considerations regarding the
use of these other exceptions to protect certain nonmonetary medical staff benefits. It is not
necessarily a complete recitation or analysis, however, of all of the elements that must be met for
each exception. If one of these other exceptions apply, for those physicians it obviates the need
(for Stark Law compliance purposes) to track the precise dollar amount of nonmonetary benefits
provide to physicians, family members and entities covered by those exceptions. Tracking may
be necessary, however, for income tax reporting and withholding purposes if not for Anti-
kickback Statute compliance.

                           (a)     Employment

        The “employment” exception (42 C.F.R. § 411.357(c)) is relatively broad. If all of the
elements of the exception are satisfied, it protects all remuneration provided to a physician or
immediate family member by his or her employer in exchange for the provision of services as a
bona fide employee. That remuneration may include a variety of nonmonetary items and services
as long as the total amount of compensation provided to the employee is consistent with fair
market value, does not directly or indirectly take into account the volume or value of referrals
(except for certain personal productivity bonuses), and the total remuneration provided would be
commercially reasonable even without any referrals being made to the employer. It is not
uncommon, for example, for a hospital to provide continuing medical education, liability and
health insurance, payment of dues and other benefits to employed physicians.

                           (b)     Personal Services and Fair Market Value Compensation

       The “personal services” exception (42 C.F.R. § 411.357(d)) protects any remuneration
provided by a DHS entity to a physician, immediate family member or group practice for the
performance of various services (including services of employees, locum tenens physicians and
wholly owned entities) pursuant to a written personal services agreement. As with employees,

            42 C.F.R. § 411.357(k)(3).
            42 C.F.R. § 411.353(f)(4).

the remuneration may include a variety of nonmonetary items and services as well as cash
compensation as long as the total amount of compensation for the full term of the contract, in the
aggregate, is “set in advance” (which includes certain objective formulas), does not exceed fair
market value, and does not directly or indirectly take into account the volume or value of
referrals (except for certain physician incentive plans related to controlling the volume of
services provided to enrollees of the contracting entity).18

        The requirements of the exception for “fair market value compensation” (42 C.F.R.
§ 411.357(l)) are similar to those for the personal services exception. However, the exception for
fair market value compensation provides greater flexibility in that it encompasses items as well
as services and may have a term of less than one year, provided that any renewals within the one-
year period for the same items or services must for the same compensation and pursuant to the
same terms and conditions. See 42 C.F.R. § 411.357(l)(1) and (2). The fair market value
compensation exception also expressly protects provision of items and services by the physicians
to the DHS entity as well as by the DHS entity to the physicians.

        The personal services exceptions protects any “remuneration” provided to the physician
(or family member) whereas the fair market compensation exception protects payment of
“compensation.” Neither exception expressly precludes payment for services being made in kind.
Moreover, the regulations define “remuneration” broadly to include in-kind payments. 42 C.F.R.
§ 411.351. The regulations further define a “compensation arrangement” as “any arrangement
involving remuneration.” 42 C.F.R. § 411.354(c). For each of these exceptions, however, the key
consideration will be whether the total package of remuneration (both cash and items or services)
is consistent with the fair market value of the items and services provided by the physician.

                          (c)     Physician Recruitment and Retention

       The “physician recruitment” exception is limited to the recruitment of physicians who
are new to the practice (less than one year) or relocating to the geographic area served by the
hospital in order to become a member of the hospital’s medical staff. 42 C.F.R. § 411.357(e).
This exception would not apply to in-kind benefits provided to other physicians already in the
community (other than potentially those in their first year of practice).

        The “retention payments in underserved areas” exception only applies to matching
offers made to physicians who are being recruited to leave the geographic area served by the
hospital. In addition, among other requirements, the exception generally applies only in
designated shortage areas or other underserved areas approved by the Secretary of HHS in an
advisory opinion. 42 C.F.R. § 411.357(t).

                          (d)     Payments Unrelated to the Provision of DHS

        One exception that on its face may apply to various medical staff benefits, but that has
not been fully explored in guidance from CMS or the courts, is the “payments unrelated to the
provision of designated health services (DHS)” exception (42 C.F.R. § 411.357(g)). This is a
statutory exception that is very broadly worded as applying to “remuneration which is provided

            42 C.F.R. §§ 411.354(d)(1) & 411.357(d).

by a hospital to a physician if such remuneration does not relate to the provision of designated
health services.”19 The exception would not apply to gifts to family members (or arguably office
staffs or entities). Hospital associations commenting on the Phase II regulations noted their belief
that Congress intended the unrelated payments exception to apply to any payment that was not
“directly” related to the provision of DHS, but CMS disagreed.20 Unlike other exceptions,
however, Congress did not include express authorization for CMS to add additional restrictions
to the unrelated payments exception. Accordingly, this portion of the regulations may be
vulnerable to challenge on the theory that CMS has exceeded its regulatory authority.21

        CMS has acknowledged that this exception applies even if more specific exceptions are
not met.22 Nevertheless, CMS has taken a restrictive view of whether payments are related or
unrelated to the provision of DHS. In that regard, the regulations provide that in order for
remuneration to be treated as “unrelated” it:

                    must be wholly unrelated to the furnishing of DHS and must not in
                    any way take into account the volume or value of a physician’s
                    referrals. Remuneration relates to the furnishing of DHS if it—

                    (1) Is an item, service, or cost that could be allocated in whole or in
                    part to Medicare or Medicaid under cost reporting principles;23

                    (2) Is furnished, directly or indirectly, explicitly or implicitly, in a
                    selective, targeted, preferential, or conditioned manner to medical
                    staff or other persons in a position to make or influence referrals;

              42 U.S.C. § 1395nn(e)(4).
              72 Fed. Reg. at 51,056.
             See American Lithotripsy Society v. Thompson, 215 F. Supp. 2d 23 (D.D.C. 2002) (inclusion of
lithotripsy as a designated health service); Robert Wood Johnson University Hospital v. Thompson, Compliance
Rptr. (CCH) ¶ 880,206, 2004 WL 3120732 (D.N.J. 2004). A similar challenge by a group of cardiologists to CMS’
expanded definition of “entity” (jeopardizing countless “under arrangements” deals), however, was dismissed for
lack of standing. Colorado Heart Institute, LLC v. Johnson, No. 08-1626 (RMC) (D.D.C. April 20, 2009). An earlier
challenge to the anti-markup rule by a group of urologists was also dismissed by the same court for lack of
jurisdiction. Atlantic Urological Associates, P.A. v. Leavitt, 549 F. Supp. 2d 20 (D.D.C. 2008). In another case, the
court of appeals found that physicians lacked standing to challenge the former Stark regulations fair market value
safe harbor. Renal Physicians Association v. U.S. Department of Health & Human Services, 489 F.3d 1267 (D.C.
Cir. 2007). A similar challenge is pending regarding the revised “per click” rules in the Stark regulations. See
Council for Urological Interests v. Johnson, No. 1:09-cv-00546-HHK (D.D.C. complaint filed March 23,
              See 60 Fed. Reg. 41,914, 41,958 (Aug. 14, 1995).
             CMS has indicated that if “a hospital does not know and could not reasonably be expected to know
whether a particular item, service, or cost could be allocated in whole or part to Medicare or Medicaid under cost
reporting principles, as required by § 411.357(g)(1) … [, CMS] would not consider the item, service, or cost to
relate to the furnishing of DHS under § 411.357(g)(1).” 72 Fed. Reg. at 51,056.

                  (3) Otherwise takes into account the volume or value of referrals or
                  other business generated by the referring physician.24

        In short, CMS does “not intend to apply this exception in any situation involving
remuneration that might have a nexus with the provision of, or referrals for, a designated health
service.” As an example of payments that would be related to the provision of DHS, CMS
described a hospital paying a physician-inventor for a heart valve. CMS noted that “the physician
is receiving payment for an item that will likely be used by the hospital in furnishing inpatient
hospital services, which are a designated health service,” and thus the exception would not apply.
As examples of arrangements that would likely meet this exception, CMS discussed a situation
in which a teaching hospital rents a house from a physician to use as living quarters for visiting
faculty members or visiting fellows, or pays a physician for teaching, general utilization review,
or administrative services. On its surface, these examples appear to be non-abusive situations
that should be protected. See 63 Fed. Reg. at 1,702; 69 Fed. Reg. at 16,093.

        In CMS’s view, the unrelated payments exception also does not protect payments to
family members, since by its terms it covers only payments made to a physician.25 Moreover, in
the preamble to the Phase I regulations, CMS also responded to a question from a commenter
about the distinction between the “nonmonetary compensation up to $300” exception26 and the
unrelated payments exception. The response, however, merely states the obvious without
providing any specific guidance. CMS noted that:

                  The exception for nonmonetary compensation up to $300 and the
                  statutory exception for remuneration unrelated to the provision of
                  DHS are totally separate exceptions with different criteria. The
                  determination as to which of these exceptions, if any, is applicable
                  depends on the facts and circumstances of the case involved.27

       Finally, CMS also injects a fair-market-value element into this exception by noting that if
a physician receives payments from a hospital that appear “inordinately high” for ostensibly
“unrelated” services and also refers to the hospital for designated health services, CMS “will
presume that the overpayments relate to the designated health services because they reflect the
volume or value of the physician’s referrals.”28

       For planning purposes at best the CMS definition of unrelated creates significant
uncertainty absent further guidance. Even though arguments based on the unrelated payments
exception may have a place in defending against alleged Stark Law violations, the courts

            42 C.F.R. § 411.357(g).
            69 Fed. Reg. at 16,093; 72 Fed. Reg. at 51,056.
            42 C.F.R. § 411.357(k).
            66 Fed. Reg. 856, 922 (Jan. 4, 2001).
            63 Fed. Reg. at 1,702.

                                                       - 10 -
typically defer to government agencies’ reasonable interpretation of statutes which they are
charged with enforcing absent clear evidence of contrary Congressional intent.29

                            (e)      Compliance Training

        The “compliance training” exception (42 C.F.R. § 411.357(k)): This exception only
applies to training provided to physicians (or immediate family members or office staff) who
practice in the hospital’s local community or service area and only if the training is held within
the local area.30 The training may cover the basic elements of establishing and operating a
compliance program, specific federal/state health care program requirements (e.g., billing,
coding, reasonable and necessary standard, documentation, unlawful referrals) and federal or
state laws regulating provider conduct. To fall within this exception, the primary purpose of the
program must be to provide compliance training. The program may offer continuing medical
education credit (CME), but CME cannot be more than an incidental purpose of the program.
CMS has not yet offered guidance on how it would determine the “primary purpose” of a
program, but possible factors could include (a) the emphasis in any promotional materials (e.g.,
“ABC Hospital’s Annual CME Summit” vs. “ABC Hospital’s Annual Compliance Forum” with
a brief statement that “CME credit is available”); (b) whether any non-compliance topics are
included; (c) inclusion of compliance professionals as the predominant faculty (e.g., Compliance
Officers, Legal Counsel, Billing Consultants); and (d) direct link to training requirements in the
hospital’s compliance policies. As noted above, this exception also is not available for out-of-
town programs (outside the “local community”), regardless of their primary purpose. CMS has
not defined “local community” for this purpose, so a reasonable interpretation should apply. In
that regard, it would seem reasonable to include at least all areas within the same municipality or
metropolitan or micropolitan statistical area, or the area defined by the 75% of discharges zip
code test that applies to physician recruitment activities, or potentially the hospital’s definition of
its primary and secondary service areas for health planning purposes and community needs

                            (f)      Indirect Compensation Arrangement

        The “indirect compensation arrangement” definition and exception (42 C.F.R.
§§ 411.354(c)(2) & 411.357(p)) may be relevant, depending on the specific circumstances.
Under the “stand in the shoes” rule, this exception would not be available to any physicians with
an ownership or investment interest in a “physician organization” where the physician
organization is the only entity standing between the physician and the DHS entity. In those
situations, one of the direct compensation arrangements may apply.

            See Chevron v. National Resources Defense Council, Inc., 467 U.S. 837, 104 S. Ct. 2778, 81 L. Ed. 2d
694 (1984), reh’g den., 468 U.S. 1227 (1984); Udall v. Tallman, 380 U.S. 1, 85 S. Ct. 792, 13 L. Ed. 2d 616 (1964);
see also U.S. ex rel. Villafane v. Solinger, 457 F. Supp. 2d 743, 756 (W.D. Ky. 2006); U.S. ex rel. Villafane v.
Solinger, 543 F. Supp. 2d 678, slip op. at 13-14 (W.D. Ky. 2008).
            In the preamble to the Phase III rule, CMS noted that reimbursement for internet-based compliance
training will fit within the exception only if the physician, immediate family member or office staff access the online
training from “a location that is in the entity’s local community or service area” and other elements of the exception
are met. 72 Fed. Reg. at 51,061.
              See U.S. ex rel. Villafane v. Solinger, No. 3:03-CV-519-H (W.D. Ky. April 8, 2008).

                                                        - 11 -
        Prior to the Phase III rule, a variety of hospital-physician relationships where the
physicians contracted with the hospital through an entity (such as a multi-physician PC) either
constituted indirect compensation arrangements with their own exception (that was often easily
met) or one or more the elements of the definition of an indirect compensation arrangement were
not present and as a result the arrangement was not even subject to the Stark Law. The Phase III
rule, however, established a “stand in the shoes” rule for analyzing certain indirect compensation
arrangements, later modified in the IPPS FY2009 final rule. See 42 C.F.R. § 411.354(c)(2)(ii) &
(iv). Under this rule, CMS attributes to an individual physician any direct compensation
arrangements that exists between his or her “physician organization” and a DHS entity. In other
words, the individual physician “stands in the shoes” of his or her “physician organization” and
the arrangement must fit one of the exceptions for a direct compensation arrangement.

        Significantly, the definition of “physician organization” is limited to the entity through
which the physician provides professional services. See 42 C.F.R. § 411.351 (defining a
“physician organization” as “a physician . . ., a physician practice or a group practice …”).
Interposing another entity in the arrangement as the entity that contracts directly with the DHS
entity may mean that there is not even an indirect compensation arrangement between the DHS
entity and the physicians for Stark Law purposes. In that regard, however, CMS noted in the
preamble to the Phase III rule that it remains concerned about such arrangements. See 72 Fed.
Reg. 51,012, 51,028-51,029 (Sept. 5, 2007). It is possible that future rulemakings will expand the
stand in the shoes rule and possible also apply it to the DHS entity side of arrangements.

         As originally proposed in the Phase III rule, the stand in the shoes rule would also have
applied to non-owner physicians employed by or under contract with a physician organization. In
addition to limiting the scope of the stand in the shoes rule to exclude arrangements involving
entities that are not “physician organizations,” in the FY2009 IPPS final rule, CMS also limited
the scope of the “stand in the shoes” rule so that it applies only to the physicians who have an
ownership or investment interest in the physician organization. Other physicians may, but are not
required to, apply the stand in the shoes rule (i.e., they can continue to rely on an indirect
compensation arrangement analysis). See 42 C.F.R. § 411.354(c)(1)(ii)(B), (c)(2)(iv)(A) & (B).
The regulations expressly provide that for purposes of applying the stand in the shoes rule, a
“titular ownership or investment interest” where the physician has no right to receive the
financial benefits of ownership (i.e., profit distributions, dividends and proceeds from the sale of
the interest) does not count as an ownership or investment interest triggering the stand in the
shoes rule.32 The “stand in the shoes” rule also does not apply to arrangements that meet the
AMC exception.33

        Where the stand in the shoes rule does not apply, the key element in establishing that an
indirect compensation arrangement exists or that the corresponding exception applies is often the
compensation test. With respect to the compensation test for the definition of (or the

            See 42 C.F.R. § 411.354(c)(3)(ii)(C). CMS reached a similar conclusion in an advisory opinion, finding
that a physicians holding stock in a 501(c)(3) faculty practice plan with no beneficial equity interest (i.e., no
dividends, no distributions on dissolution and no profit or interest on the sale of the stock) did not have an ownership
or investment interest in the organization within the meaning of the Stark Law. CMS-AO-2005-08-01 (Aug. 2005).
              See 42 C.F.R. § 411.354(c)(3)(ii)(B)

                                                        - 12 -
determination of whether an arrangement constitutes) an indirect compensation arrangement, the
focus is on the aggregate compensation paid to the physician by the compensation arrangement
in the chain closest to the physician. Specifically, whether that compensation amount, in the
aggregate, varies with the volume or value of referrals or other business generated for the DHS
entity.34 This compensation test focuses on the aggregate compensation to the physician and not
the formula or rate. On the other hand, the compensation test for the indirect compensation
arrangements exception focuses on the individual unit of service or rate of pay, not variations in
the aggregate compensation. If compensation is determined based on a set formula and
calculated the same way (e.g., with the same percentages or per unit of service rates) regardless
of the level of referrals, if any, to the DHS entity, it likely would meet the compensation standard
for the exception.35 In other words, the compensation methodology cannot vary (get richer or
poorer for the physician) based on the volume or value of referrals. In addition, the compensation
the physician receives from his or her employer must be fair market value for the services
actually provided by that physician for the employer. See 42 C.F.R. § 411.357(p).

                            (g)        Professional Courtesy

        If any DHS entity with a formal medical staff provides free or discounted health care
items of services to physicians (or their immediate family members or office staff) in the form of
a courtesy discount, the “professional courtesy” exception (42 C.F.R. § 411.357(s)) may apply.
It would not, however, apply to items and services not used in the provision of health care or any
items or services not routinely provided by the DHS entity. In addition, the same free or
discounted items and services must be offered either to all members of the medical staff or all
physicians in the community pursuant to a written policy approved by the governing board, and
it cannot be offered to any federal healthcare program beneficiary absent a good faith showing of
financial need. Any such arrangement also must comply with the Anti-kickback Statute in order
to fit within the Stark Law exception, and there is no corresponding Anti-kickback Statute safe
harbor, meaning that if the professional courtesy does not fit within another safe harbor (e.g.,
employee safe harbor), compliance will come down to a question of intent.

        In the Phase III preamble, CMS notes that physicians working for a physician group
would be treated as an organized medical staff and thus eligible for this exception.36 On the other
hand, entities like commercial labs and DME companies where the “traditional reasons” for
physician to physician courtesy do not apply would not be eligible for this exception in CMS’
view.37 At present, CMS has not provided any guidance as to how the professional courtesy
exception would apply to other entities, such as hospital-physician joint ventures. With many
joint ventures today, such as ASCs and imaging centers, joint venture operations are

             See 42 C.F.R. § 411.354(c)(2)(ii). Effective October 1, 2009, if that compensation arrangement is a lease,
the rent cannot be calculated based on a percentage of revenues attributable to services performed in the leased
space or through use of the leased equipment, nor can it be a “per click” rate with respect to patients referred by the
lessor to the lessee. 42 C.F.R. § 411.357(p)(1)(i)(A) & (B).
          A fixed per unit rate or an objective, nondiscretionary formula for compensation also constitute
compensation that is “set in advance.” 42 C.F.R. §§ 411.354(d)(1)-(3).
              72 Fed. Reg. at 51,065

                                                       - 13 -
synonymous with or a substantial part of the physicians’ practices. If the hospital has a medical
staff, and a physician practice is deemed to have a medical staff for purposes of this exception,
then it seems to follow that a joint venture between the two for their same respective services
should be deemed to have a medical staff and thus be eligible for this exception.

                         (h)      In-office Ancillary Services

       The “in-office ancillary services” exception (42 C.F.R. § 411.355(b)) may also be
relevant for group practices providing nonmonetary benefits to their physicians to the extent that
each referring physician or another member of the group practice (i.e., owner, employee, locum
tenens or on-call physician providing services for the group) performs or supervises the
provision of the DHS. The primary limitations of relying on this exception for incidental
nonmonetary benefits are (1) the referring physician receiving the benefit must be a member of
the group practice, (2) the referred services still must be provided at a location that meets the
same building or centralized building location requirement as applicable (which likely would
exclude services provided in a hospital), and (3) the exception would not apply to protect
nonmonetary benefits provided by any DHS entity other than the group practice.

                         (i)      Academic Medical Centers

         The “academic medical center” (or “AMC”) exception (42 C.F.R. § 411.355(e)) may
also be relevant in certain circumstances where faculty physicians constitute a majority of the
medical staff and represent a majority of the admissions. Although there are other
requirements,38 including with respect to physician compensation (set in advance and in an
aggregate amount from all AMC components that is consistent with the fair market value of
services provided), the primary limitation on physicians qualifying for the exception is typically
whether they provides “either substantial academic services or substantial clinical teaching
services (or a combination of academic services and clinical teaching services) for which the
faculty member receives compensation as part of his or her employment relationship with the
academic medical center.” The AMC exception provides a safe harbor for satisfying this test
where the physician spends at least 20% or of his or her professional time or at least eight hours
per week providing such services, with a facts and circumstances test applying in other cases. 42
C.F.R. § 411.355(e)(1)(i)(D). If the AMC exception applies, then any component of the AMC
(e.g., teaching hospital, faculty practice plan, foundation, etc.) can transfer funds to another
component of the AMC for either direct or indirect support of teaching, indigent care, research or
community service missions. 42 C.F.R. § 411.355(e)(1)(iii)(A).

                         (j)      Physician Referral Services

        The regulations include a specific exception (42 C.F.R. § 411.357(q)) for “physician
referral services” that meet all of the requirements of the corresponding Anti-kickback Statute
safe harbor, outlined in Section II.B.2.(d) below.

          For a more detailed discussion of the AMC exception, see G. Griffith “AMCs Get New Comfort on
Stark Law Compliance,” Health Lawyers Weekly (AHLA), Vol. 6, No. 15 (April 18, 2008); and G. Griffith, “Pros,
Cons and Further Questions on the AMC Exception,” Health Lawyers Weekly (AHLA), Vol. 6, No. 20 (May 23,

                                                    - 14 -
                           (k)     Obstetrical Malpractice Insurance Subsidies

        There is also an exception for “obstetrical malpractice insurance subsidies” that is
slightly broader than the related Anti-kickback Statute safe harbor. Both the exception and the
safe harbor, however, are limited to Obstetrics practitioners located in certain shortage areas
where the arrangements also meet a variety of additional requirements. 42 C.F.R. § 411.357(r).

                           (l)     Leasing of Space or Equipment

        The Stark Law and regulations include exceptions for “rental of office space” and the
“rental of equipment.” 42 U.S.C. § 1395nn(e)(1)(A) & (B); 42 C.F.R. § 411.357(a) & (b).
Although the exceptions require, among other things, that the rental rate must be consistent fair
market value for the space or property leased, local market conditions may support including
certain free incentives to lease space or equipment. Hospitals seeking to rely on these exemptions
would be well advised to thoroughly document that such incentives, when combined with the
rental rate, yield a net rental that is consistent with fair market value.

                  3.       Temporary Noncompliance

        Arrangements meeting the requirements of the various “other exceptions” discussed in
II.A.2. above (i.e., applicable Stark Law exceptions other than the two medical staff benefit
exceptions) also may be protected for a limited period after they fall out of compliance under one
of two temporary noncompliance exceptions. Under the first such exception, physicians may
continue to refer and DHS entities may continue to bill for DHS furnished up to no more than
ninety (90) days after falling out of compliance with a Stark Law exception,39 if the following
three requirements are satisfied: (1) the financial relationship complied with all of the
requirements of an applicable exception under Sections 411.355 (services-based exceptions),
411.356 (ownership exceptions), or 411.357 (compensation arrangement exceptions, other than
the two medical staff benefit exceptions in paragraphs (k) and (m)) “for at least 180 consecutive
calendar days immediately preceding the date on which the financial relationship became
noncompliant with the exception”; (2) the financial relationship fell out of compliance for
reasons beyond the control of the DHS entity, and the DHS entity promptly took steps to rectify
the noncompliance (though how “promptly” is defined or when the clock starts to run on
promptness are unclear); and (3) the financial relationship does not violate the Anti-kickback
Statute and the particular claim or bill otherwise complies with all applicable laws, rules, and
regulations.40 The second temporary noncompliance exception is limited to compensation
arrangements that meet all of the requirements of an exception other than the signature
requirement and that failure was either (a) cured within ninety (90) days of noncompliance if
such failure was inadvertent, or (b) cured within thirty (30) days of noncompliance if such failure

            42 C.F.R. § 411.353(f)(2).
            42 C.F.R. § 411.353(f)(1) & (4).

                                                  - 15 -
was not inadvertent.41 Each temporary noncompliance exception is only available once every
three years for the same referring physician.42

        B.         The Anti-kickback Statute

                   1.       Conduct Prohibited by the Statute

        The Federal Anti-kickback Statute prohibits offering, paying, soliciting, or receiving any
remuneration, directly or indirectly, covertly or overtly, in cash or in kind, for (a) the referral of
patients, or arranging for the referral of patients, for the provision of items or services for which
payment may be made under governmental health programs; or (b) the purchase, lease, or order
of, or arranging for the purchase, lease, or order, of any good, facility, service or item for which
payment may be made under governmental health programs. With regard to the first element –
that “remuneration” has been offered, paid, solicited or received – “remuneration” has been
broadly construed by the government to include virtually anything of value, which may include
various free items, gifts and incidental benefits (even if some of these are of nominal value.

        The requirement of intent (that the conduct has been done “knowingly and willfully”) has
provoked varying and inconsistent judicial interpretations. Several courts adopted a “one purpose
test” and held that even though a specific transaction may be motivated by numerous legitimate
business purposes, if the inducement of a referral of Medicare or Medicaid business was one of
the purposes (i.e., not necessarily the primary purpose), then the Anti-kickback Statute was
violated.43 The Ninth Circuit Court of Appeals held that the “knowingly and willfully” language
required a finding of a specific intent to violate the Anti-kickback Statute.44 Courts in other
jurisdictions, however, have declined to follow the Hanlester ruling. For example, in U.S. v.
Neufeld, the court specifically declined to follow the Hanlester reasoning and found that the
language of the Anti-kickback Statute did not require specific intent to violate the law.45
Similarly, in U.S. v. Jain, the Eighth Circuit Court of Appeals held that the Anti-kickback Statute
requires that a defendant must know that his conduct was wrong but does not require proof that
he violated a known legal duty.46 The Fifth Circuit Court of Appeals, in U.S. v. Davis, held that
“willfully” meant that “the act was committed voluntarily and purposely with the specific intent
to do something the law forbids; that is to say, with bad purpose either to disobey or disregard
the law.”47 Thus, under the Davis standard, the “willfully” requirement is met if it is proven that
the conduct was unlawful and was committed with the intent to do something that the law forbids.

             42 C.F.R. § 411.353(g)(1).
             42 C.F.R. § 411.357(f)(3) & (g)(2).
           See, e.g., U.S. v. Greber, 760 F.2d 68, 71 (3d Cir. 1985); U.S. v. Bay State Ambulance and Hospital
Rental Service, Inc., 874 F.2d 20 (1st Cir. 1989).
             Hanlester Network v. Shalala, 51 F.3d 1390, 1400 (9th Cir. 1995).
             U.S. v. Neufeld, 908 F. Supp. 491 (S.D. Ohio 1995).
             U.S. v. Jain, 93 F.3d 436, 441 (8th Cir. 1996).
             U.S. v. Davis, 132 F.3d 1092 (5th Cir. 1998).

                                                         - 16 -
         The widely differing judicial interpretations of the Anti-kickback Statute are a reflection,
in part, of the fact that the United States Supreme Court has not yet interpreted the Anti-kickback
Statute. In 1998, the United States Supreme Court addressed the “willfully” language in the
context of a federal statute concerning firearms. In that case, the United States Supreme Court
held that, in the context of that law, “willfully” required only proof that the defendant knew his
conduct was unlawful and did not require knowledge of the specific law violated.48 While the
Bryan case was not an interpretation of the Anti-kickback Statute, the reasoning of the Supreme
Court in that case has been considered in subsequent lower court cases in their analysis of the
Anti-kickback Statute. With the benefit of the Court’s reasoning in the Bryan case, the Eleventh
Circuit Court of Appeals adopted a standard similar to that set forth in the Jain case, holding that
the Anti-kickback Statute requires only that a defendant knows that his conduct is unlawful and
does not require that the defendant knows his behavior violates the Anti-kickback Statute.49 The
Starks court, relying on a fact also significant in the Supreme Court’s reasoning in Bryan,
observed that the Anti-kickback Statute is “not a highly technical tax or financial regulation that
poses a danger of ensnaring persons engaged in apparently innocent conduct” and that the giving
or receiving of kickbacks is not the type of behavior that one would expect to be lawful.50

        In U.S. v. Anderson, the court expressly followed Bryan and Starks and found that the
willfulness standard required that the defendant act intentionally and with the knowledge that his
actions violate a law, although it does not require that the defendant know that his actions
specifically violated the Anti-kickback Statute.51 In both Starks and Anderson, the courts
appeared to have relied on the assumption that the Anti-kickback Statute was not a highly
technical law, an assumption that may certainly be debated in subsequent cases. In both of those
cases, the specific facts presented indicated that the convicted defendants were aware that their
actions were unlawful; thus, these were not cases of an “innocent” violation as a consequence of
a transaction entered into in good faith.

         The Anti-kickback Statute is implicated by a wide range of transactions engaged in by
health care providers. It provides criminal penalties for anyone who “knowingly and willfully”
solicits, receives, offers or pays any remuneration, directly or indirectly, “in return for” or “to
induce” business reimbursable by a federal or state health care program. Violations are
punishable by fines of up to $25,000 and imprisonment for up to five (5) years. Any person who
violates the Anti-kickback Statute faces the potential imposition of a civil monetary penalty or
exclusion from participation in federal or state health care programs. The primary, although not
the sole, purpose of the Anti-kickback Statute is to prohibit financial incentives that encourage
excessive or unnecessary utilization of government-paid health care. By its terms, the Anti-
kickback Statute applies only to inducing referrals of items or services that are reimbursable by
federal or state health care programs. Nonetheless, remuneration paid in arrangements that did
not include federal or state health care program business could violate the Anti-kickback Statute
if it were proven that such remuneration was intended to induce referrals of other business that

            Bryan v. U.S., 118 S. Ct. 1939 (1998).
            U.S. v. Starks, 157 F.3d 833 (11th Cir. 1998).
            157 F.3d at 838-39.
            U.S. v. Anderson, 85 F. Supp. 2d 1047 (D. Kan. 1999).

                                                       - 17 -
was reimbursable by federal or state health care programs. The Anti-kickback Statute has
intentionally been made broad so as to apply to virtually any direct or indirect financial incentive,
and court cases have upheld the Anti-kickback Statute’s broad application. The breadth of the
Anti-kickback Statute, coupled with the potential severity of sanctions, warrants caution any time
the Anti-kickback Statute may apply to a particular arrangement.

                 2.       Safe Harbor Regulations

         Because the Anti-kickback Statute is subject to expansive interpretation, the Office of
Inspector General of the Department of Health and Human Services (the “OIG”) has
promulgated “safe harbor regulations.” To fit within any safe harbor, the arrangement must meet
all of its criteria. The failure of an arrangement to fit within a safe harbor, however, does not
necessarily mean that the arrangement violates the statute. Rather, a fact-specific analysis would
be necessary to determine whether an activity that did not fit precisely within the prescribed safe
harbors would be defensible under the Anti-kickback Statute.

                          (a)      Employment

        Both the Anti-kickback Statute and the safe harbors protect any payments by an employer
to a bona fide employee for the provision of covered items and services. See 42 U.S.C. 1320a-
7b(b)(3)(B); 42 C.F.R. § 1001.952(i). For this purpose, employment status is determined in
accordance with normal IRS rules. The employee safe harbor and exception are among the most
broadly worded protections under the Anti-kickback Statute and do not include any express fair
market value requirement nor do they require written contracts. OIG, however, has taken the
position in publicly available inter-agency correspondence with the IRS that payments to
employees still may violate the statute. Specifically, if compensation exceeds fair market value,
it could be inferred that the excess over fair market value may be intended to induce or reward
referrals, that referrals are not covered items or services, and thus the payments are not protected
by the employee safe harbor.52 The courts, however, have not addressed the issue. Moreover, it
would seem unlikely that provision of modest de minimis in-kind benefits would cause most
employed physicians’ compensation to exceed fair market value if the compensation package is
otherwise reasonable.

                          (b)      Personal Services

        Providing de minimis in-kind benefits to physicians in a group practice may be protected
by the personal services safe harbor if the group is under contract with the hospital or other entity
providing the benefits. Although contracts falling under this safe harbor are often for coverage of
a department or clinic on a full-time basis, more limited scope contracts also may qualify,
including contracts to cover call services in the emergency room (e.g., in exchange for
malpractice insurance coverage for services to those patients) or for committee service.

           Letter from D. McCarty Thornton, Associate General Counsel, to T.J. Sullivan, Technical Assistant –
Health Care, Office of the Associate Chief Counsel (Dec. 22, 1992). This letter is still displays it under “other
guidance” on OIG’s website at

                                                       - 18 -
        The personal services safe harbor requires (i) a written agreement, signed by the parties,
and specifying all the services to be furnished; (ii) the agreement covers all of the services that
the physician furnishes to the principal for the entire term of the agreement; (iii) if less than full-
time, the contract specifies the exact intervals of service and the related charge for services;
(iv) the term of the arrangement is for at least one year; (v) the compensation is set in advance,
consistent with fair market value in arm’s length transactions and is not determined in a manner
that takes into account the volume or value of any referrals or other business generated between
the parties for which payment may be made in whole or in part under a federal health care
program; (vi) the services provided do not involve the promotion of any business arrangement or
other activity that violates any state or federal law; and (vii) the aggregate services contracted for
do not exceed those that are reasonably necessary for the commercially reasonable business
purpose of the services. 42 C.F.R. § 1001.952(d).

        The personal services safe harbor protects remuneration provided to a physician. Given
OIG’s position on the breadth of the definition of “remuneration,” it is likely the safe harbor
applies to both cash and in-kind payments. Stated differently, if “remuneration” that implicates
the Anti-kickback Statute is broad enough to include in-kind benefits, then the same term as used
in safe harbors would protect payments made in-kind if the requirements of the safe harbor are
met. The key consideration for fitting within the safe harbor, however, will be whether the total
package of remuneration (both cash and items or services) is consistent with the fair market
value of the services provided by the physician.

                            (c)      Practitioner Recruitment

        For a physician relocating his or her primary practice location to a HPSA for the same
specialty, the physician recruitment exception may apply. 42 C.F.R. § 1001.952(n). Among other
requirements, the benefit must be set out in a written agreement and it is limited to a three-year
term with no renegotiation during the term in any substantial respect. The safe harbor does not
protect retention payments, nor does it protect recruitment to a group practice.

                            (d)      Physician Referral Services

        Certain physician referral services that meet all of the following requirements are
protected: (1) all individuals and entities meeting the qualifications for participation are allowed
to participate in the referral service; (2) fees, if any, are assessed and collected equally from all
participants and based only on the cost of operating the referral service and not on the volume or
value of any referrals; (3) “[t]he referral service imposes no requirements on the manner in
which the participant provides services to a referred person, except that the referral service may
require that the participant charge the person referred at the same rate as it charges other persons
not referred by the referral service, or that these services be furnished free of charge or at
reduced charge”: (4) the referral service makes five specific written disclosures to everyone
seeking a referral, with such disclosure and signed by either the person seeking a referral or the
individual making the disclosure.53

             42 C.F.R. § 1001.952(f). The five specific disclosures are: (i) manner of selecting participants in the
referral service; (ii) whether it charges participants a fee; (iii) manner in which it selects the participant to whom that
person will be referred; (iv) “nature of the relationship between the referral service and the group of participants to

                                                          - 19 -
                           (e)      Obstetrical Malpractice Insurance Subsidies

       There is also a safe harbor for certain malpractice insurance assistance. The safe harbor,
however, is limited to Obstetrics practitioners located in certain shortage areas where the
arrangements also meet a variety of additional requirements. 42 C.F.R. § 1001.952(o).

                           (f)      Leasing of Space or Equipment

        The safe harbor regulations include protection for rental of office space and equipment.
42 U.S.C. § 1001.952(b) & (c). Although the safe harbors require, among other things, that the
rental rate must be consistent fair market value for the space or property leased, local market
conditions may support including certain free incentives to lease space or equipment. Hospitals
seeking to rely on these exemptions would be well advised to thoroughly document that such
incentives, when combined with the rental rate, yield a net rental that is consistent with fair
market value.

                           (g)      No De minimis Benefits Safe Harbor

         In most other cases, the Anti-kickback Statute safe harbors will not apply to the provision
of free items, gifts and other business courtesies and incidental benefits.54 There are, for example,
no safe harbors to correspond to the “medical staff incidental benefits” exception, the
“nonmonetary compensation less than $300” exception, or the professional courtesy exception.
Furthermore, there is no “de minimis” exception under the Anti-kickback Statute,55 and OIG has
issued negative opinions on two incidental benefit situations. OIG Advisory Opinion No. 08-06
(May 2, 2008) (lab proposal to provide labeling of test tubes and specimen collection containers
for a dialysis facility free of charge); OIG Advisory Opinion No. 04-16 (Nov. 18, 2004)
(laboratory providing employees, equipment and supplies for the purpose of preparing specimens
for delivery to the laboratory). On the other hand, in the context of application of the CMP Law
to gifts to beneficiaries (as opposed to physicians), however, OIG has determined that incentives
of nominal value are not prohibited by the Anti-kickback Statute. For that purpose, OIG defines
“nominal” as not more than $10 per item or $50 in the aggregate for a year.56 Likewise, in
issuing a negative opinion on a DME manufacturer’s plan to provide advertising assistance and
consulting services to DME supplier customers, OIG noted that the proposed assistance “would
be neither limited in nature nor free-standing. Indeed, the services would potentially confer


whom it could make the referral;” and (v) “nature of any restrictions that would exclude such an individual or entity
from continuing as a participant.” Id.
           There is, however, a safe harbor for certain “transfer[s] of any goods, items, services, donations or loans
(whether the donation or loan is in cash or in-kind), or combination thereof” provided to a Federally Qualified
Health Center (“FQHC”). 42 C.F.R. § 1001.952(w).
             See OIG Advisory Opinion No. 99-7 (June 30, 1999) (disclaimed intent to create a de minimis exception
of fifteen patients for waiver of copays and deductibles).
           See OIG Advisory Opinion No. 08-07 (June 27, 2008); OIG Special Advisory Bulletin, “Offering Gifts
and Other Inducements to Beneficiaries” (Aug. 2002); 65 Fed. Reg. 24400, 24410 (April 26, 2000) (preamble to
final CMP rule).

                                                        - 20 -
substantial independent value upon the DME supplier.” That conclusion contrasted with remarks
in OIG’s Compliance Program Guidance for Pharmaceutical Manufacturers, where OIG
commented that:

                    Standing alone, [product support] services that have no substantial
                    independent value to the purchaser may not implicate the anti-
                    kickback statute. However, if a manufacturer provides a service
                    having no independent value (such as limited reimbursement
                    support services in connection with its own products) in tandem
                    with another service or program that confers a benefit on the
                    referring provider . . . the arrangement would raise kickback

        Absent more definitive guidance from OIG or the courts, whether any level of
compensation or benefit conferred on a referral source entails a significant risk of violation of the
Anti-kickback Statute likely would depend on whether the facts and circumstances show that the
item or gift is intended to influence the referral decision-making process or reward past referrals.
That conclusion would seem less likely with isolated, relatively low dollar amount items.58
Although there are no bright line tests in this area, based on examples found in OIG fraud alerts
and other letters, incentives that are more likely to be considered suspect by the OIG are
payments made or gifts given each time a physician refers or at the end of a “good referral year”;
free or significantly discounted equipment; free or significantly discounted billing, nursing or
other staff services; free training for office staff (including coding); payment of travel and
expenses for conferences; payment for CME; inappropriately low-cost group health coverage;
free chart review; free computers and fax machines; and free biopsy needles.59

         Ultimately, in analyzing the risk associated with these practices, it is important to
consider what the purpose of the benefit, business courtesy or other remuneration is. The analysis
is best thought of as a “risk continuum,” with some practices carrying greater risk, while others
entail less risk. Very generally speaking, items of modest value that have a legitimate business
purpose such as education or improving service or quality would likely entail less risk under the
Anti-kickback Statute than gifts or incidental benefits that are of higher monetary value and are
solely for the personal use or benefit of the potential referral source or their family members,
practices or other businesses.

              68 Fed. Reg. 23,731, 23,735 (May 5, 2003).
             For example, in a settlement agreement announced July 2, 2007, Advance Neuromodulation Systems,
Inc. agreed to pay $2,950,000 and enter into a three-year corporate integrity agreement to resolve potential anti-
kickback concerns including “educational grants and fellowships, conferences held at resort locations, free dinners
and gifts, and expenses paid to physicians under consulting agreements.” The summary of the settlement can be
found at
             The various fraud alerts issued to date can be found on OIG’s website at

                                                       - 21 -
         C.       State Self-referral and Anti-fraud Statutes

        In addition to federal Anti-kickback Statute, many states have their own anti-fraud
statutes prohibiting certain payments to influence referrals (or where the physician has certain
financial interests), including in some instances both Medicaid and private pay patients.60
Various state attorneys general, inspectors general and Medicaid Fraud Control Units (MFCUs)
also are now more actively involved in investigating and prosecuting violations of these state
statutes, and are developing their own voluntary disclosure programs similar to OIG’s self-
disclosure protocol. For example, there are now Medicaid voluntary disclosure protocols in
Texas61 and New York.62

        Where state kickback or self-referral laws have no exceptions or safe harbors, or where
they are more restrictive than federal law, some jurisdictions have held that the corresponding
federal statute preempts state law. In State v. Harden, 873 So. 2d 352 (2004), the Supreme Court
of Florida found implicit conflict preemption where a Florida anti-kickback law had no safe
harbor protecting employers’ payment of compensation to employees where its federal
counterpart did, and therefore the court concluded that the state law criminalized conduct that
federal law had intended to shield from prosecution. California’s Attorney General opined that
California’s Medi-Cal anti-kickback law, which lacks a safe harbor for physician investments, to
implicitly incorporate the safe harbor for investments set forth in the federal anti-kickback statute
in order to avoid preemption. 89 Op. Atty. Gen. Cal. 25 (Feb. 27, 2006). However, other
jurisdictions reach a different result. See Michigan v. Kanaan, 278 Mich. App. 594, 751 N.W.2d
57 (2008) (state Medicaid anti-kickback statute not preempted by federal Anti-kickback Statute
despite arguments of a stricter intent standard under state law; also, the state statute includes no
safe harbors); Michigan v. Plymouth Road Dental, P.C., Nos. 270039 & 270040 (Mich. App.,
Nov. 13, 2007) (reversed dismissal of criminal charges under Michigan Medicaid False Claims
Act, rejecting preemption arguments based on differing intent requirements; reviewed and
distinguished Harden because the conduct in question would not be protected under federal law
if conducted with improper intent, i.e., not within an exception or safe harbor under federal law;
alleged misconduct included upcoding and billing for services not performed).

         D.       Federal Tax Requirements

                  1.       Exemption Standards

       Generally speaking, in order to maintain Section 501(c)(3) status, no part of the net
earnings of the organization may inure to the benefit of any insiders (such as paying more than
fair market value for items or services), and any benefit to private parties cannot be more than

           See, e.g., 225 ILCS 47/1, 305 ILCS 5/8A-3 & 740 ILCS 92/1; Mich. Comp. Laws §§ 333.16221(e)(iv) &
(v), 400.601-400.615 & 752.1001-752.1011; Mich. Admin. Code R. 338.7001-.7003.
             Texas Provider Self- Reporting Guidance, available at (last visited April 16, 2009).
            State of New York, Office of the Medicaid Inspector General, Self-Disclosure Guidance (March 12,
2009), available at

                                                        - 22 -
incidental (i.e., indirect and insubstantial in amount). The rationale for these limitations is that
since tax-exempt organizations are subsidized by taxpayers, that subsidy should not benefit
private parties. See additional discussion in Section IV.A.1. below.

                  2.       Inclusion in Gross Income

        “Gross income” for federal tax purposes generally includes all economic benefits that an
individual receives, except for those benefits that the Code specifically excludes. The Code
excludes two categories of benefits from “gross income” that may be particularly relevant for
free items and services that a hospital provides to physicians – working condition fringe benefits
and de minimis fringe benefits.63 “Working condition fringe benefits” are items or services that,
if the physician paid for them directly, he or she could deduct the payments as an ordinary and
necessary business expense. “De minimis fringe benefits,” on the other hand, are items or
services of low value (generally less than $100) that are provided to physicians so infrequently as
to make accounting for them unreasonable or administratively impracticable (e.g., a holiday
turkey likely fits this description but gift certificates likely do not). It is possible that a particular
physician may receive an otherwise de minimis fringe benefit with such frequency that it is no
longer de minimis as to that physician. For example, if a hospital regularly provides a particular
physician with free golf outings that are each valued at less than $100, the IRS would likely find
that the benefit to the physician is not de minimis, even though the free golf outings may be
infrequently provided to other physicians. If the benefit does not fall into one of these two
categories, the hospital would generally need to report it as gross income to the physician on a
Form 1099-MISC or W-2. However, if the total value of the items and services and other
compensation includible in gross income that the physician receives from the hospital is less than
$600, the hospital would have no Form 1099-MISC or W-2 reporting obligation.

                  3.       Reporting Requirements

       From a reporting perspective, a tax-exempt hospital must report (on Form 1099 for non-
employed physicians and Form W-2 for employed physicians) any item or gift that is included in
a physician’s “gross income” if the total fair market value of the benefits that the physician
receives directly from the hospital during the year is at least $600. Even if the hospital would not
need to report the item or gift on a Form 1099-MISC or W-2, the IRS may require the hospital to
disclose the benefits provided to physicians on its Form 990.

        Form 990 requires tax-exempt healthcare organizations (including hospitals, faculty
practice plans and HMOs) to report certain benefits that they provide to directors and officers,
top five highest compensated employees, other “key employees” and certain other “disqualified
persons.” See Form 990, Core Form Part VII and Schedules J & L.

       Key employees include employees other than officers, directors or trustees who are the
top twenty highest paid earning more than $150,000 from all related organizations for the

           See Section IV.B.1. below. This article assumes that the benefits provided to members of the hospital
medical staff represent fair market value compensation for the services that these persons provide to the hospital,
and does not discuss the application of Code § 4958, which imposes excise tax penalties on certain individuals in
connection with the payment or receipt of compensation in excess of fair market value.

                                                        - 23 -
relevant calendar year who: (a) has responsibilities, powers or influence over the organization
similar to those of officers, directors, or trustees; (b) manages a discrete segment or activity of
the organization representing 10% or more of the total activities, assets, income, or expenses of
the organization; or (c) “has or shares authority to control or determine 10% or more of the
organization’s capital expenditures, operating budget, or compensation for employees.”64

        Disqualified persons are generally those individuals who, at any time in the last five years,
were in a position to exercise substantial influence over the hospital, such as board members who
have a right to vote, officers, certain high-admitting physicians or other individuals who
supervise the management, administration, operation or finances of the hospital or one of its
departments.65 Other Section 501(c)(3) organizations (except for IRC § 509(a)(3) supporting
organizations) and most non-highly compensated employees (for 2009, anyone earning less than
$110,000 per year whether full or part-time) are deemed not to have substantial influence and are
never disqualified persons (unless they are family members of another disqualified person or
deemed disqualified persons such as voting members of the board and certain officers). Treas.
Reg. § 53.4958-3(e)(2); IRC § 414(q)(1)(B)(I).

        The Form 990 reporting obligations arise in several areas depending on both the
relationship of the physician to the exempt organization and the type of benefit involved. The
hospital may also need to report benefits provided to group practices (as opposed to individual
physicians). If a benefit is provided as part of a group practice’s professional service agreement
with a hospital for example (such as parking provided to physicians who staff its radiology
department pursuant to an exclusive contract), these benefits may more appropriately be
considered as provided by the hospital to the group practice, as opposed to an individual
physician in the group practice. The Form 990, Part VII, also requires disclosure of total
compensation provided to the top five highest paid independent contractors for professional
services and the top five highest paid independent contractors for other services. For further
discussion of relevant exclusions from income and Form 990 reporting, see Section IV.B. below.


         A.         Gather Facts

        The first step in developing an effective policy for the provision of gifts, incidental
benefits and other business courtesies to medical staff physicians is to evaluate and assess what
types of gifts and benefits are currently being offered, to whom, and under what circumstances.
This net should be cast with the goal of uncovering all such items and benefits, including those
that might be offered to a physician’s immediate family members or office staff, and those that
may be offered from different offices or “cost centers” within the organization. Examples of
what to track and make the subject of a centralized policy are: courtesy discounts; meals; donuts
              Form 990 (2008), Instructions, Part VII & Glossary, p. 49.
            The determination of whether an individual physician is a “disqualified person” for purposes of Code
§ 4958 is a fact-intensive analysis. It is recommend that each hospital work to examine its medical staff for purposes
of identifying physicians who may be “disqualified persons,” as reporting obligations with respect to these
individuals have increased with the recent redesign of Form 990 for the 2008 tax year and beyond.

                                                         - 24 -
and bagels; concierge services; rounds of golf; tennis court fees; health club discount; sporting
event tickets; concert tickets; art exhibit or lecture tickets; training and support services; lodging;
cell phones, pagers; cocktail parties; movie and play tickets; holiday ham or turkey; flowers; fruit,
logo gifts (e.g., clothing, pen, golf balls, duffel bag), CME courses; parking; commemorative
plaque; retirement gift; office supplies and stationery; and any other items or services of value.
Depending on what items are being provided, query whether they are being provided pursuant to
an organization or department-wide policy or on an ad-hoc basis. Also determine who the
decision-maker is with respect to each of the items and what factors he/she might consider in
determining what is provided to whom.

       B.      Conduct an Analysis Under Applicable Laws

        Next, analyze the categories of gifts and benefits currently being provided (or that the
organization has determined it would like to provide) under the Stark Law, the Anti-kickback
Statute and the federal tax requirements, along with any applicable state laws. Determine which
practices the organization is comfortable with and which it would like to only offer under certain
circumstances or if certain internal approvals are in place, or that it would like to discontinue
entirely. Deciding which course of action to follow for particular items and services is often a
balancing act and a question of risk tolerance. For example, limiting these gifts to the strict
parameters of the “nonmonetary compensation up to $300” exception and the “medical staff
incidental benefits” exception may provide the most certainty and lowest risk (if properly
tracked), but a variety of other factors may allow for greater flexibility by relying on a host of
other Stark Law exceptions (albeit with more intensive and costly monitoring and more in-depth
involvement by legal and compliance staff to interpret the scope of the other exceptions).

       C.      Develop and Implement a Written Policy

         Although medical staff gifts can be legal in a variety of circumstances up to strictly
prescribed values, in other circumstances or at greater values they may be suspect or illegal.
Accordingly, if a centralized process or consistently-applied conflicts of interest policy is not
implemented, it is likely that Stark Law mandated dollar amount thresholds are being exceeded
at least inadvertently for items provided by a hospital to physicians, and that the Anti-Kickback
Statute and tax risks are greater than the hospital’s legal or compliance department may realize.
As part of an effective compliance program, every health care system should develop, implement
and evaluate a conflicts of interest policy that mandates disclosure of potential conflicts and
requires reporting of medical staff gifts, so that the system can ensure its compliance with these
laws and the related ethical and fiduciary obligations of its physicians (and board members).

         In developing a written policy, consider including specific categories of items or benefits
that the hospital has clearly determined to prohibit, and an approval process for those that it may
allow under certain circumstances. The policy should also identify the “responsible individual”
within the legal or compliance department for addressing questions and facilitating approvals.
The policy may also include checklists or a sample approval form to help streamline the approval
process. The policy should be written in “layperson” terms, but could reference the specific laws
that are driving the policy or could tie back to a summary of applicable laws developed by the
hospital’s legal department or compliance staff. The policy should be updated from time to time,
at least annually (e.g., to reflect new Stark Law dollar amount thresholds and changes in laws

                                                - 25 -
and regulations, and to incorporate changes in hospital practices). Hospital leaders and staff
should have input into drafting the policy and be educated on and receive a copy of the policy
when its finally developed and implemented.66

          D.         Develop and Implement a Tracking Mechanism

         Mechanisms for tracking the provision of gifts, incidental benefits and other business
courtesies offered to medical staff physicians may be very sophisticated (e.g., individual
physician key cards swiped each time a physician parks for free or enters the doctor’s lounge for
a free meal, etc.), while others may be more basic and (e.g., spreadsheet with simple formulas
included to automatically tally running totals as new benefit programs are logged), to honor
systems where physicians report their own benefits weekly or monthly (e.g., sign for food in the
doctor’s lounge). Ultimately, what mechanism is selected will be driven by the extent and nature
of gifts and benefits provided to physicians by the organization. The critical point, however, is
that the items and services should be tracked so that Stark Law-driven thresholds (whether per
gift or in the aggregate) will not be exceeded, the organization can gauge its level of risk under
the Anti-kickback Statute, and tax restrictions and reporting obligations can be met. A sample
spreadsheet for this purpose is included with the materials for this session.

          E.         Self-Disclosure Options

                     1.       Stark, Anti-kickback Statute and CMP Law Violations

         If a hospital discovers that the provision of de minimis medical staff benefits did not
comply with a Stark Law exception, and there is no cure period available, disclosure options are
limited. On March 24, 2009, the HHS-OIG wrote an “Open Letter” to health care providers
containing what the agency has described as refinements to the OIG’s Self-Disclosure Protocol
(SDP).67 In the latest of four Open Letter’s about the SDP, the OIG announced two policy changes
that serve to (1) clarify when the SDP should be used to address potential physician self-referral
(Stark Law) violations (i.e., only when combined with colorable issues of noncompliance with the
Anti-kickback Statute); and (2) narrow the applicability of the OIG’s April 24, 2006 Open Letter. In
the 2006 guidance, the OIG had encouraged providers to utilize the SDP to voluntarily disclose
potential violations under both the Stark Law and the Anti-kickback Statute. In the most recent Open
Letter, the OIG also announced that it will impose a minimum civil monetary penalty (CMP) of
$50,000 for any non-compliance with the Stark Law and Anti-kickback Statute reported under the

        Even though the OIG has narrowed the scope of potential Stark Law violations that providers
can disclose under the SDP, enforcement activity continues unabated. Providers discovering potential
Stark Law violations now have more limited options for addressing them. In addition to enacting

           For an overview of dollar limits and other key elements of corporate policies on giving or receipt of gifts,
see Corporate Gifts & Entertainment: A Survey of Practices (HCCA/SCCE March 2009), available online at The Minnesota Attorney General’s Office also
has a sample travel and entertainment policy for nonprofit hospitals available online at
               The 2009 Open Letter is available online at

                                                          - 26 -
effective measures to remedy past non-compliance and to prevent similar occurrences in the future,
the options for additional corrective action are, in effect, the same alternatives that providers had
prior to the 2006 Open Letter.

        a.      Use the SDP to file a voluntary disclosure with the OIG and cast the conduct in
question as a potential violation of both the Stark Law and the Anti-kickback Statute. As in the
past, providers will be walking a fine line between making the threshold statements necessary to
show that there was a potential Anti-kickback Statute violation without necessarily admitting that
there was definitely an Anti-kickback Statute violation. As noted above, the 2009 Open Letter
refers to “colorable violations” of the Stark Law and Anti-kickback Statute as the threshold for
accepting a voluntary disclosure under the SDP. In that regard, it is important to note that if the
provider is not accepted into the program, the disclosures it makes could be used against the
provider and other parties in any ensuing investigation or litigation. Moreover, with the $50,000
minimum penalty, it will be hard to argue that there was a technical violation for which the
provider should not pay any penalty at all.

        b.      Make an informal voluntary disclosure to the local U.S. Attorney’s Office. If the
conduct is arguably only a potential Stark Law violation, disclosing to the Assistant U.S.
Attorney (AUSA) in charge of health care matters in the Civil Division in the provider’s district
may provide some comfort that the government would not intervene in a later qui tam case under
the False Claims Act, even if the disclosure was somehow not viewed as a public disclosure
denying relator status. Such comfort, however, can come with a steep price and may involve
substantial settlement payments. , There is also a risk that the AUSA may view the conduct as
potentially criminal and involve the Criminal Division in the matter.

        c.      If the potential violation is discovered in the context of due diligence for an
acquisition, merger or joint venture, a provider might consider filing advisory opinion requests
with OIG (for Anti-kickback Statute issues),68 and with CMS (for Stark Law issues).69 This
approach may be appealing where there are reasonable arguments to support a position that there
has been no violation or where there is the potential for abuse on the Anti-kickback Statute side,
but also safeguards in place to minimize those risks. If the advisory opinion request is rejected,
or either CMS or OIG are unwilling to issue a favorable advisory opinion, the deal may be
derailed at least until another disclosure avenue can be followed to completion. Of course, OIG
cannot issue advisory opinions on questions of intent, and neither OIG nor CMS will opine on
fair market value.

                  2.      Tax-exempt Status

         Tax-exempt healthcare organizations may face additional voluntary disclosure decisions
if a pattern of incidental benefits develops that, in the aggregate, may be considered a substantial
non-exempt purpose or directly benefit insiders (e.g., routinely paying personal, non-business
expenses of directors and officers and not properly reporting the payments as compensation). To
date, the IRS' move into an era of more receptivity to voluntary self-disclosures under a new

            See 42 C.F.R. Part 1008 (OIG advisory opinion procedures).
            See 42 C.F.R. §§ 411.370-411.389 (CMS procedures for Stark Law advisory opinions).

                                                     - 27 -
Director of Exempt Organization Examinations has gone largely unnoticed. On April 16, 2009
the IRS posted a brief note on the use of Closing Agreements, the tax equivalent of a settlement
agreement in other compliance areas.70 The note lists six factors for taxpayers to address in
submissions requesting a Closing Agreement (essentially voluntary disclosures). The factors
include a description of why a Closing Agreement is appropriate (including why the matter
should not be resolved through filing current or amended tax returns), how it would benefit the
taxpayer without disadvantaging the IRS to enter into a Closing Agreement, a detailed
description of the corrective action taken, steps taken to ensure future compliance and a proposed
calculation of taxes, penalty and interest (i.e., a settlement amount). The note does not limit these
disclosures to particular areas of potential tax exposure.

        Any nonprofit healthcare organization addressing regulatory compliance issues should
consider the tax implications of the same underlying conduct. In light of this recent shift in
position at the IRS in favor of individual voluntary disclosures in appropriate cases, that tax
analysis should include a consideration of whether the arrangement raises significant enough tax
issues to warrant a voluntary disclosure to the IRS. In addition, if the physician is a disqualified
person, the reporting and correction procedures for excess benefit transactions would apply as
described in Section IV.B.3. of this outline.


        In troubling economic times, executive compensation in all sectors, including healthcare,
tends to come under greater scrutiny. Executive compensation packages that include hot button
perquisites (e.g., first class travel) in particular tend to draw more intense media and government
scrutiny. The IRS is also becoming more attuned to process issues in audits and compliance
checks, including increased attention to hospital internal audit functions. For example, as part of
the opening document requests in hospital audits, IRS agents are now asking for compensation
committee minutes as well as internal audit reports. State attorneys general and in more extreme
cases both state and federal prosecutors, also have focused on executive compensation, including
perquisites. With the increased transparency of executive compensation in the redesigned Form
990 (discussed below), that scrutiny and public curiosity about executive perquisites is likely to

        A.       Examples of Perquisites Gone Wrong

                 1.       IRS Audits

        Although the exempt organization involved in many of the following examples were not
health care organizations, the same principles and enforcement practices apply to tax-exempt
health care organizations.

           The IRS note and related guidance are available on the IRS website at,,id=202556,00.html.
            For a summary of ten executive perquisites at public companies likely to be considered among the most
egregious by many, see A. Barr, “Golden Coffins, Golden Office, Golden Retirement,” MarketWatch (May 13,
2009), available online at

                                                      - 28 -
        In John Marshall Law School v. U.S., 48 AFTR 2d 81-5340, 81-2 USTC ¶ 9514 (Ct. Cl.
1981), the court of claims upheld revocation of Section 501(c)(3) status for a law school based
on a pattern of private inurement to the founder’s sons and their families that included interest-
free unsecured loans, automobiles, insurance, children’s education, health spa membership,
home furnishings, and European travel.

       In TAM 9451001 (April 14, 1994) the IRS revoked tax-exempt status of an entity that
formerly operated a hospital and various outpatient clinics based on a finding of private
inurement and more than incidental private benefit. In addition to other, more substantial
payments, the IRS alleged that inurement or more than incidental private benefit resulted from
the organization’s payment for spousal travel, wedding gifts, china and glassware, theatre tickets
and a $49 bottle of perfume.

         In TAM 200243057 (July 2, 2002) the IRS reviewed a variety of alleged excess benefit
transactions with the founder of a used car donation program and his family, who were former
board members and officers of the organization. The benefits included advances that were argued
to be loans, potentially excessive compensation payments (including payments to entities the
founder controlled), payment of personal expenses, personal use of automobiles, and joint use of
space with car dealership. The TAM also reflects apparent deficiencies in corporate governance
under the prior board, such as a lack of board meetings until the founder resigned. The lack of
board oversight (including no record of board approval of the President’s salary) and lack of
documentation for the various arrangements (including fair market value, bona fides of a
purported loan and proof of actual provision of services) were key focal points in the TAM and
led the IRS to take a harsh view of all future transactions with the disqualified persons and
potentially question continuing exemption for the car donation program. The IRS specifically
criticized the new board for not taking more aggressive steps to seek repayment of the excess
benefits even the TAM indicates that “the new Board of Directors had actual knowledge of the
improper payments made by [the President] to himself during his tenure as an officer.” This
criticism likely related to the Board’s agreement to make additional payments to the President
after, in the IRS’ view, the Board knew that improper payments had been made in the past. This
TAM also illustrates that payment of personal expenses for executives outside of employment
compensation and Section 62 accountable plans will be a per se excess benefit. The example in
this case was the use of an automobile by a family member without proof it was for the exempt
organization’s business. Most hospitals have eliminated car allowances, however, which may
avoid some of the more abusive practices in this regard. It should also be noted that the utter lack
of documentation to support a transaction with a disqualified person increases the odds of the
IRS assessing the additional 100% penalty under Section 6684, as was done in this case. Finally,
in any exempt organization if the governing board (as the new board did in the TAM) discovers
excess benefits it must take reasonable steps to correct the transactions, i.e., seek repayment, or it
risks all future transactions with the disqualified person being treated as excess benefit
transactions and ultimately puts exemption at risk.

       The IRS also dealt with excess benefit issues involving perquisites in five technical
advice memoranda, TAMs 200435018 – 200435022 (May 5, 2004) related to a televangelist
organization. The TAMs focus on benefits to the founder (who served as President) and the
founder's family (his wife and son were also directors and officers). The benefits the IRS
questioned included the use of company credit cards to pay personal expenses (including meals,

                                                - 29 -
cell phones, gas and car repairs), the purchase of homes for the founder and his wife by the
company, payment for security and surveillance services and payment of the President's legal
fees. A key factor in the IRS assessment was the alleged lack of documentation of a business
purpose for the expenses. The TAMs are heavily redacted, so the dollar amounts are unclear but
based on the description of the expenses, they include relatively inexpensive items (at least
individually, though perhaps significant in the aggregate). Perhaps because of the lack of any
apparent attempt at a sufficient and timely correction, or perhaps to encourage it, the IRS also
took a very broad view of joint and several liability in these TAMs, assessing Section 4958
excise taxes against the President (“A”) not only for the payment of his allegedly personal
expenses, but also those of his family. The IRS, however, declined to revoke the organization’s
exempt status, concluding that Section 4958 taxes should be the exclusive penalty. See TAM
200437040 (June 7, 2004).

                  2.       State Attorneys General

        Executive compensation and perquisites also can peak regulators attention on a state level.
For example, starting in 2000, Minnesota’s then Attorney General (Michael Hatch) conducted
charitable trust audits of multiple healthcare systems, focusing in part on alleged misuse of
charitable assets contrary to corporate purposes. Among other issues, General Hatch focused on
travel and entertainment expenses paid by system entities including spousal travel, country club
dues, automobile leasing, financial planning and tax preparation services. The investigation of
perceived abuses at these healthcare systems also resulted in the Attorney General’s office
developing a series of sample policies for nonprofits, including conflicts of interest and travel
and entertainment expense policies.72

                  3.       Criminal Prosecutions

        Although not what one might typically view as a “perquisite,” embezzlement of funds
does raise potential tax concerns … and not just questions of the amount of taxable income
required to be reported by the embezzler. It can also be the basis of criminal charges for
inadequate disclosure on Form 990 and state law theft and other misdemeanor or felony charges.
Moreover, the IRS has taken the position that embezzlement by a disqualified person is an excess
benefit (in that it is a payment not being made in exchange for goods or services of equivalent
value). See 66 Fed. Reg. 2144, 2149 (Jan. 10, 2001) (preamble to the IRC § 4958 Temporary

   •   Misappropriation of Funds:
       U.S. v Beck, 3 AFTR 2d 1364, 59-2 USTC ¶ 9486 (W.D. Wash. 1959), aff’d, 298 F.2d
       622 (9th Cir. 1962): 501(c)(5) union executive misappropriated $365,000 of union funds
       to buy property in his name and pay personal expenses; payments were reported on Form
       990 as expenditures of the union.

       Commonwealth of Pennsylvania v Abdelhak, Misc. Docket No. 406 (Allegh. Co. Crim.
       Div., filed April 2000): Former CEO of Allegheny Health Education & Research
       Foundation entered a plea of nolo contendere to a single count of misapplication of

            Copies of the sample policies are available online at

                                                        - 30 -
       entrusted property, a misdemeanor, and was sentenced to 11½ - 23 months and was
       paroled after three months. Allegations included authorizing a $50,000 donation by
       AHERF to refurbish the football locker room at his son’s high school. Abdelhak v. Fisher
       (2002). R. Baird, “Abdelhak Plea Ends AHERF Saga,” Tribune-Review (Aug. 30, 2002)
       (available online at The
       Tax Court later rejected Mr. Abdelhak’s claims that AHERF had “unlawfully converted”
       his life insurance policy and other benefits. See Abedlhak v. Commissioner, T.C. Memo.

   •   Mischaracterized Payment of Personal Expenses:
       U.S. v Fumo, 100 AFTR 2d 2007-6902 (ED Pa. 2007): Court refused to dismiss Form
       990 portions of 139 count indictment alleging that state senator and his aide used
       charity’s funds to personally benefit Sen. Fumo including refurbishing his district office
       and paying for political polling. Sen. Fumo allegedly directed accountants (after they
       questioned expenditures) to prepare From 990 listing the polling expenses as a
       community needs survey. Also failed to disclose on Form 990 other payments that
       benefited Sen. Fumo:

            •   Yachting vacations plus 3 vacation homes

            •   Work on 33 room home including installation of heated sidewalks

            •   $27,000 bulldozer for Sen. Fumo’s farm

            •   Private Investigators to follow his ex-wives and political opponents

       Sen. Fumo was convicted on 137 counts on March 16, 2009 then freed on $2 million bail
       pending sentencing and an appeal. See S. Duffy, “Federal Jury Finds Former Pa. State
       Sen. Vincent Fumo Guilty on All Counts,” (March 16, 2009).

       B.       Reporting Perquisites

                1.     Taxable Income

        “Gross income” for federal tax purposes generally includes all economic benefits,
regardless of source, except for those benefits specifically excluded under the provisions of the
Code. IRC § 61(a). Certain noncash benefits are specifically excluded from the definition of
“gross income” under IRC § 132, including “working condition fringe benefits” and “de minimis
fringe benefits.” Whether approved or not, modest or large in amount, perquisites may result in
taxable income even if smaller or potentially more common benefits are not taxable. The
following paragraphs provide an overview of some of the exceptions that come in to play for the
“small stuff” and other perquisites from a federal tax perspective.

                       (a)     Working Condition Fringe Benefits

      The term “working condition fringe” means “any property or services provided to an
employee of the employer to the extent that, if the employee paid for such property or services,

                                               - 31 -
such payment would be allowable as a deduction under section 162 or 167.”73 IRC § 132(d). For
purposes of the rules governing working condition fringe benefits, the term “employee” includes
any independent contractor who performs services for the employer. Treas. Reg. § 1.132-
1(b)(2)(iv). However, independent contractors may not exclude the value of parking from their
gross income as a working condition fringe benefit. Depending on the circumstances, it may be
possible for the independent contractor to exclude any parking provided as a de minimis fringe
benefit. Neither federal Treasury Regulations nor any published guidance from the IRS address
whether an employer may provide gift cards (instead of cash reimbursements) to employees for
meals and exclude the cards from the employee’s income as a working condition fringe benefit.
The IRS takes the position, however, that the de minimis fringe benefit exception would not
apply to gift cards or gift certificates as discussed in the next section.

        The definition of a working condition fringe benefit essentially means that the benefit
must represent an ordinary and necessary expense that is incurred for the employee to carry out
his or her trade or business. Therefore, the economic benefit’s value will be excluded from the
employee’s gross income if it serves the purpose of allowing the employee to get his or her job
done. Depending on the circumstances in which they are offered, home computers, professional
memberships, dues and publications, liability insurance, and educational assistance may be
working condition fringe benefits.

        Cash payments to an employee will not qualify as a working condition fringe benefit
unless the employer requires the employee to (i) use the payment for expenses in connection
with a specific or pre-arranged activity or undertaking for which a deduction is allowable under
section 162 or 167, (ii) verify that the payment is actually used for such business purpose
expenses, and (iii) return to the employer any part of the payment not so used. Treas. Reg.
§ 1.132-5(a)(1)(v).

        According to Treas. Reg. § 1.132-5(a)(2)(i), the property or services must be deductible
with respect to the trade or business of being an employee of the employer. The IRS has broadly
interpreted this requirement to mean that the employer derives a substantial business benefit
from the provision of the fringe benefit. See Rev. Rul. 92-69, 1992-2 C.B. 51.

       The following table summarizes the requirements of working condition fringe benefits:

What Determines Whether a Benefit Is a                     Whether the person who receives the benefit in
Working Condition Fringe Benefit?                          question could deduct it as an ordinary and
                                                           necessary business expense.

Who May Claim a Working Condition Fringe                   Common law employees and independent
Benefit?                                                   contractors. Volunteers of tax-exempt
                                                           organizations, such as board members, may also
                                                           claim working condition fringe benefits for those
                                                           items or services received in conjunction with the
                                                           services they provide to the organization.

            IRC § 162 deals with trade or business expenses, and IRC § 167 deals with depreciation.

                                                      - 32 -
What Limitations Exist on the Working               May not claim the value of parking as a working
Condition Fringe Benefits that an Independent       condition fringe benefit, but, depending on the
Contractor May Receive?                             circumstances, parking may be excluded from
                                                    gross income on other grounds, such as a de
                                                    minimis fringe benefit.

What Types of Items or Services May Be              Several types of property and services, such as
Working Condition Fringe Benefits?                  home computers, professional memberships, dues
                                                    and publications, liability insurance, and
                                                    educational assistance. Cash payments may also
                                                    be working condition fringe benefit, but only if the
                                                    cash payment is actually used solely for an
                                                    ordinary and necessary business expense.

Must Working Condition Fringe Benefits              No. Working condition fringe benefits need not be
Provided to an Independent Contractor Be            reported on Form 1099-MISC or Form W-2.
Reported on a Form 1099-MISC?

Must Working Condition Fringe Benefits              If the independent contractor is a current or former
Provided to an Independent Contractor Be            officer, director, trustee, key employee and top 20
Reported on Form 990?                               highest compensated employees, Form 990 (2008)
                                                    would not require reporting of any nontaxable fringe
                                                    benefit that is disregarded for purposes of IRC
                                                    4958; those disregarded benefits include de
                                                    minimis fringe benefits, working condition fringe
                                                    benefits and payments pursuant to an accountable
                                                    plan. For the five highest paid independent
                                                    contractors, compensation reporting on Form 990,
                                                    Core Form, Part VII, matches Form 1099-MISC,
                                                    Box 7. See Instructions, Form 990 (2008), Core
                                                    Form, Part VII, Column (F), p. 24, and Schedule J

What Records Must Be Kept to Substantiate           An organization that provides working condition
Working Condition Fringe Benefits?                  fringe benefits should maintain records
                                                    demonstrating the expense associated with the
                                                    benefit, the date and time in which it was provided,
                                                    the business purpose for providing the benefit, and
                                                    the business relationship with the person receiving
                                                    the benefit.

                      (b)    New Recruits

        In Rev. Rul. 63-77, 1963-1 C.B. 177, the IRS ruled that allowances or reimbursements
made to individuals by a prospective employer for expenses actually incurred in connection with
interviews for possible employment, which are conducted at the invitation of the employer, are
not “wages” subject to the federal employment taxes, including income tax withholding, and, to
the extent they do not exceed the expenses incurred, are not includible in the gross incomes of

                                                - 33 -
such individuals for federal income tax purposes. See also PLR 8321063 (Feb. 21, 1983) (same
result in paying interview expenses related to an intercompany relocation).74

                           (c)      De minimis Fringe Benefits

        “De minimis fringe” benefits represent another category of noncash economic benefits
that may be excluded from an employee’s gross income. See IRC § 132(e). These benefits may
be defined as “any property or service the value of which is (after taking into account the
frequency with which similar fringes are provided by the employer to the employer’s employees)
so small as to make accounting for it unreasonable or administratively impracticable.” See Treas.
Reg. § 1.132-6(a). This definition suggests that whether an economic benefit qualifies as a de
minimis fringe benefit turns on both the number of times that it is provided and the value of the
economic benefit that is conferred.

       Frequency for purposes of de minimis fringe benefits is generally determined by
reference to the number of times that the employer provides the benefit to each individual
employee. See Treas. Reg. § 1.132-6(b)(1). Applicable Treasury Regulations provide the
following example:

                  [I]f an employer provides a free meal in kind to one employee on a
                  daily basis, but not to any other employee, the value of the meals is
                  not de minimis with respect to that one employee even though with
                  respect to the employer’s entire workforce the meals are provided

Id. Despite this general rule, the IRS will examine the extent to which an employer provides a
benefit to its entire workforce when it would be administratively difficult to determine the
frequency with respect to individual employees. See Treas. Reg. § 1.132-6(b)(2). The Treasury
Regulations state that the personal use of employer-provided office equipment, such as a copying
machine, would be the type of benefit in which it would measure frequency at the workforce
level. Id.

        The IRS has not established a specific dollar threshold for what value is de minimis, but
has ruled that employment achievement awards having a fair market value of $100 do not qualify
as de minimis fringe benefits. See Chief Couns. Adv. 200108042 (Feb. 23, 2001). Therefore, the
lower the fair market value of the benefit, the more likely an employee may exclude it as a de
minimis fringe benefit. See, e.g., Field Serv. Adv. 200219005 (Dec. 31, 2001).

        The IRS also takes the position that the de minimis fringe benefit exception would not
apply to gift cards or gift certificates because those items are not, in the IRS’s view,
administratively difficult to track. See, e.g., American Airlines, Inc. v. U.S., 98-2 USTC ¶ 50,323
(Cl. Ct. 1998); Treas. Reg. § 1.132-6(c); Rev. Rul. 59-58, 1959-1 C.B. 17; Field Serv. Adv.

             Although private letter rulings, technical assistance memoranda, general counsel memoranda and other
IRS administrative guidance are not binding precedent for other taxpayers under IRC § 6110(k)(3), they are viewed
as reflective of the IRS’ administrative practice in the absence of more definitive guidance. See, e.g., Hanover Bank
v. Commissioner, 369 U.S. 672, 686-87 (1962).

                                                       - 34 -
200219005 (Dec. 31, 2001). Gift cards that are redeemable at multiple stores for various
products likely are cash equivalents and thus would not qualify as de minimis fringes. Compare
Tech. Adv. Memo. 200437030 (April 30, 2004) ($35 gift certificates redeemable at a variety of
local grocery stores were cash equivalents and not excludable from income as a de minimis
fringe benefit) and Rev. Rul. 59-58, 1959-1 C.B. 17 (gifts of merchandise such as a holiday ham
or turkey may be excluded as a de minimis fringe benefit), with Hallmark Cards v. U.S., 200 F.
Supp. 847 (W.D. Mo. 1961) (gift certificates not cash equivalents where redeemable only for
merchandise in the taxpayer-employer’s store).

        The definition of an “employee” for purposes of de minimis fringe benefits is
exceptionally broad, including “any recipient of the fringe benefit.” See Treas. Reg. § 1.132-
1(b)(4). Examples of de minimis fringe benefits include, without limitation, the following:

           •      Occasional typing of personal letters by a company secretary;
           •      Occasional personal use of an employer’s copying machine;
           •      Occasional cocktail parties, group meals, or picnics for employees and their
           •      Traditional birthday or holiday gifts of property (not cash) with a low fair market
           •      Occasional theater or sporting event tickets;
           •      Coffee, doughnuts, and soft drinks;
           •      Local telephone calls; and
           •      Flowers, fruit, books, or similar property provided to employees under special

See Treas. Reg. § 1.132-6(e)(1). Items or services with an extended duration, such as season
tickets to sporting events, commuting use of an employer-provided automobile, and membership
in private country clubs or athletic facilities, are not de minimis fringe benefits. See Treas. Reg.
§ 1.132-6(e)(2). Employers may treat service awards of greater value, such as a gold watch, as a
de minimis fringe benefit. However, treatment as a de minimis fringe benefit for such awards is
limited to situations such as retirement or other instances in which the employer has no
expectation of or incentive for the performance of future services.

         The rules governing de minimis fringe benefits also apply in the case of employer-
operated eating facilities. See IRC § 132(e)(2). Meals provided at employer-operated eating
facilities may be excluded as a de minimis fringe benefit if the facility is (i) located on or near the
employer’s business premises and (ii) the revenues from the facility’s operations normally equal
or exceed its direct operating costs (a point which the IRS does routinely examine on audit).
Additionally, the provision of meals at the facility must satisfy a number of non-discrimination
requirements, such as being accessible to all employees on substantially the same terms. Id.

           The following table summarizes the requirements that de minimis fringe benefits must

What Determines Whether a Benefit Is a De            The frequency with which the benefit is provided
Minimis Fringe Benefit?                              and the fair market value of the benefit provided.

                                                 - 35 -
Who May Claim a De Minimis Fringe Benefit?       Anyone who receives the benefit.

What Types of Items or Services May Be De        Several items or services of low value that are
Minimis Fringe Benefits?                         provided on an occasional basis, such as personal
                                                 use of an employer’s copy machine, local
                                                 telephone calls, occasional theater or sporting
                                                 event tickets.

Must De Minimis Fringe Benefits Provided to an   No. de minimis fringe benefits need not be reported
Independent Contractor Be Reported on a Form     on Form 1099-MISC or Form W-2.

Must De Minimis Fringe Benefits Provided to an   No. Instructions to Form 990 (2008), Core Form,
Independent Contractor Be Reported on Form       Part VII, Column (F), p. 24, and Schedule J
990?                                             specifically exclude de minimis fringe benefits from
                                                 those items that must be reported when provided to
                                                 current or former officers, directors, trustees, key
                                                 employees and top 20 highest compensated
                                                 employees. For the five highest paid independent
                                                 contractors, compensation reporting on Form 990,
                                                 Core Form, Part VII, matches Form 1099-MISC,
                                                 Box 7.

What Records Must Be Kept to Substantiate De     An organization that provides de minimis fringe
Minimis Fringe Benefits?                         benefits should maintain records demonstrating the
                                                 expense associated with the benefit, the date and
                                                 time in which it was provided, the business purpose
                                                 for providing the benefit, and the business
                                                 relationship with the person receiving the benefit.

                      (d)    Accountable Plans

         Expense reimbursements are disregarded if made pursuant to an accountable plan under
Section 1.62-2(c)(2) of the Treasury Regulations. For a detailed discussion of accountable plans
in this context, see L. Brauer et al., Exempt Organization Continuing Professional Education
(CPE) Technical Instruction Program for FY2002, Chapter H, “An Introduction to I.R.C. 4958
(Intermediate Sanctions),” at pp. 300-304. Other expense reimbursements, however, will be
treated as excess benefits unless properly documented as part of a total reasonable compensation
package. See L. Brauer & L. Henzke, Exempt Organization Continuing Professional Education
(CPE) Technical Instruction Program for FY2003, Chapter E, “Intermediate Sanctions (IRC
4958) Update,” p. E-10; 26 C.F.R. § 53.4958-4(b)(1)(ii)(B)(3).

        To qualify as an accountable plan, the reimbursement or advance of expenses must meet
three requirements: (i) business connection (i.e., expenses incurred in the course of performing
services for the employer); (ii) the employee must adequately account to the employer for the
expenses within a reasonable time; and (iii) the employee must return to the employer any excess
reimbursement or allowance within a reasonable time. Treas. Reg. § 1.162-2(b).

      Although the IRS does not specifically define “reasonable time” for submission of
expenses, there are two safe harbors which eliminate uncertainty about what is “reasonable.” The

                                             - 36 -
first safe harbor provides that sixty (60) days between the incurrence of an expense and its
submission for reimbursement is reasonable. Treas. Reg. § 1.162-2(g)(2)(i). The second safe
harbor would require that the employer provide each employee no less frequently than quarterly
with a written statement advising them of any expenses that have been reimbursed during the
period covered by the statement and requesting that any unsubstantiated expenses incurred
during that same period be submitted for reimbursement. The employee would then have 120
days after receipt of the statement to substantiate those additional expenses and seek
reimbursement. Treas. Reg. § 1.162-2(g)(2)(ii). This safe harbor would provide greater time for
the employee but presents a much greater administrative burden to the organization. Plans that
are outside of these safe harbors are not necessarily out of compliance with the accountable plan
rules; rather a facts and circumstances analysis of reasonableness would be required.

                          (e)      Cell Phones and Other Listed Property

        In many cases, such as with the use of automobiles, laptops, cell phones and other “listed
property” (see IRC § 280F(d)(4)), it is necessary to keep and maintain records of business use to
determine the portion of their value that is a nontaxable fringe benefit.75 It may not be sufficient
to simply maintain certifications of “no personal use” for laptops, cell phones or automobiles.
Failure to do so can result in the entire value being taxable to the employee and potentially a per
se excess benefit (if the employee is a disqualified person). Because of the added administrative
burden of the required record keeping, a number of hospitals have either eliminated these
perquisites for most or all executives, replaced the perquisites with a cash stipend treated as
additional compensation, or included the amounts of these perquisites as taxable income on
Forms W-2 or 1099 either wit or without a gross-up payment to cover the additional tax liability.
Section 4958 does not prohibit such gross-up payments as long as they are properly reported as
income and total compensation is reasonable. Provision of any tax gross-up payments, however,
would be reportable on Form 990 (2008), Schedule J, Part I, Line 1a. Other organizations have
implemented more detailed recordkeeping requirements for any such perquisites that are
continuing. Which approach makes the most business and legal sense will vary by organization
and likely will be affected by the corporate culture, existing pay levels, and appetite for increased
administrative and recordkeeping burdens (compared to historical practices).

                 2.       Form 990 Reporting and Compliance Checks

       To date, the IRS has issued three compliance checks for various exempt organizations,
including hospitals and colleges and universities, inquiring about executive compensation either
alone or in conjunction with other questions. All three of those questionnaires include questions
designed to elicit a description of various perquisites provided to executives, including items
such as cell phones, laptops, automobiles and spousal travel. The results of the first two of those
compliance checks (the Executive Compensation Initiative and the Hospital Compliance Project)
can be seen reflected in the expanded disclosure of compensation matters on the redesigned
Form 990.76 Public disclosure of those policies also may heighten scrutiny of the compensation

             See 26 C.F.R. 1.62-2(e)(2); see also IRS Fringe Benefits Audit Techniques Guide (02-2005), available
online at,,id=134943,00.html.
           The questionnaires from all IRS Exempt Organizations compliance checks, and the reports on the IRS’
findings where available, can be found online at,,id=162493,00.html. For a

                                                      - 37 -
process and other transactions with insiders in the media and by other stakeholders, such as those
in Congress who may be inclined to take additional action to restrict compensation and/or further
enhance transparency.77

        The level of compensation detail and number of executives included in the Form 990
compensation disclosures has expanded steadily, particularly in the redesigned Form 990 for
2008. With the redesigned Form 990 for tax years beginning in 2008, in addition to various
forms of traditional cash compensation (e.g., base, bonus, incentive, deferred compensation),
Form 990 also requires reporting of any other compensation reported on Forms W-2 or 1099-
MISC (e.g., debt forgiveness, gross-up payments for taxes on cell phones), and various non-
taxable benefits for all current and former (within the past five years) officers, directors, trustees,
“key employees” and top five highest paid other employees.78 In addition, Form 990, Schedule J,
Parts I and III require disclosure of a variety of hot button perquisites provided to nonprofit
executives, including first class or charter travel, spousal/companion travel, tax gross-up
payments (e.g., to pay the executive’s tax liability on certain fringe benefits), discretionary
spending accounts, housing, health club or social club dues and initiation fees, and various
personal services (e.g., maid, chauffeur, chef). If any of those benefits are provided,
organizations are also required to disclose on Schedule J, Part I, Line 1b whether there is a
written policy in place regarding the payment or reimbursement of those expenses. Organizations
are also required to disclose whether they follow the IRS-prescribed rebuttable presumption
procedure for approving executive compensation,79 and whether they intend to rely on the initial
contract exception for any compensation arrangements.80

       The Instructions for Form 990 also include a detailed chart (pp. 25-27) identifying dozens
of items of compensation and where they are to be reported on the redesigned Form 990. The


discussion of the IRS reports on two of these compliance projects, see G. Griffith & J. King, “IRS Issues Executive
Compensation Initiative Report,” 16 Health Law Reporter (BNA) 321 (March 15, 2007); and J. Colombo, G.
Griffith & J. King, “Hospital Compliance Project Final Report – IRS Establishes a Framework for Nonprofit
Hospital Tax Compliance,” Journal of Taxation of Exempt Organizations, Vol. __, No. __, p. ___ (May/June 2009).
The General Accounting Office (GAO) also inquired about a variety of perquisites in its hospital compensation
survey and its findings were detailed in a report to Congress. GAO-06-907R Nonprofit Hospital Systems (June 30,
2006), available online at
            For more in-depth reviews of executive compensation issues for tax-exempt healthcare organizations,
see G. Griffith & J. King, “The Dollars and Sense of Executive Compensation,” Compliance Today, Vol. 9, No. 4,
p. 20 (HCCA, April 2007); G. Griffith, “Executive Compensation in Troubled Times – Part 1,” Compliance Today,
Vol. 11, No. 3, p. 32 (HCCA, March 2009); and G. Griffith, “Executive Compensation in Troubled Times – Part 2,”
Compliance Today, Vol. 11, No. 4, p. 30 (HCCA, April 2009).
             Form 990 (2008), Schedule J, Part II.
             Form 990 (2008), Schedule J, Part I, Line 1a.
             Form 990 (2008), Schedule J, Part I, Line 8; see also 26 C.F.R. § 53.4958-4(a)(3).

                                                        - 38 -
IRS is also publishing a series of frequently asked questions (FAQs) on its web site regarding
Form 990 reporting requirements, several of which relate to compensation reporting.81

                  3.       Potential Excess Benefits

        Whether or not perquisites are excluded from income and on what basis is also important
for assessing compliance with the excess benefit rules of IRC § 4958. The Section 4958
regulations provide that certain non-taxable fringe benefits are to be disregarded in determining
whether or not an arrangement results in an excess benefit. Pursuant to the regulations, those
disregarded benefits include: (a) nontaxable fringe benefits excluded from gross income under
IRC § 132 (e.g., working condition fringe benefits and de minimis fringe benefits), other than
certain amounts related to IRC § 4958 excise taxes or traditionally non-indemnifiable expenses
(unless qualifying as de minimis fringe benefits); and (b) payments pursuant to an accountable
plan under Section 1.62-2(c) of the Regulations. Treas. Reg. § 53.4958-4(a)(4)(i)-(ii) &

        In the event a particular perquisite is not excluded from income under IRC § 132 so as to
be disregarded for IRC § 4958 purposes, then the value of that benefit must be considered in
determining whether total compensation is reasonable. In addition, the benefit may need to be
reported on Form 990 and on Forms W-2 or 1099. Failure to properly report any item of
compensation can lead to a finding that the full amount of the unreported items constitutes a
taxable excess benefit regardless of the value of any items or services provided in return, unless
there is other contemporaneous (pre-audit) evidence of an intent to treat the benefit as part of the
compensation for services rendered. See Treas. Reg. § 53.4958-4(c). The rebuttable presumption
procedure would be relevant for establishing that properly reported compensation is reasonable;
however, it does not protect a failure to properly report perquisites. See Treas. Reg. § 53.4958-6.

         If an excess benefit transaction has occurred, in order to avoid imposition of the second-
tier tax (at the rate of 200% of the amount of the excess benefit), the disqualified person must
timely (before a notice of assessment is sent) repay the benefit plus interest at least equal to the
applicable federal rate. See Treas. Reg. § 53.4958-7. This “correction” may be accomplished by
returning specific property and paying an additional amount, if necessary, to cover the interest,
but only if the organization approves an in-kind repayment (and the disqualified person does not
participate in that decision). If the property has appreciated in value, the organization may either
keep or return the amount of the appreciation in excess of the original value of the benefit plus
interest. If the property, however, has depreciated in value (or not appreciated enough to cover

           The FAQs are available online at,,id=206636,00.html. For
additional discussion of potential Form 990 reporting issues for hospitals, see J. King & G. Griffith, Form 990
Disclosure Requirements Challenge Hospitals, Provide Opportunities, The Health Lawyer (The ABA Health Law
Section), Vol. 21, No. 3, p. 1 (Feb. 2009).
           Treas. Reg. § 53.4958-4(b)(1)(ii)(B)(2) provides that payment of premiums for, or the direct payment or
reimbursement of, the following will not be disregarded unless they qualify as de minimis fringe benefits pursuant to
IRC § 132(a)(4): (i) any penalty, tax or expense of correction; (ii) expanses not reasonably incurred in respect of a
court or administrative proceeding arising out of the performance of the person’s services for the organization; or
(c) expenses resulting from acts or omissions that were willful and without reasonable cause.

                                                       - 39 -
the interest component of a correction payment), the disqualified person must pay the difference.
See Treas. Reg. § 53.4958-7(b)(4).

        Under certain circumstances, such as when an exempt organization follows the
procedures for establishing a rebuttable presumption of reasonableness, the IRS may abate any
excise tax liability that disqualified persons would otherwise incur.83 The IRS justifies abatement
as a means of encouraging the correction of excess benefit transactions. For example, if the
disqualified person corrects the excess benefit transaction within 90 days of the IRS mailing a
notice of deficiency, any 200% tax must be abated.84 Similarly, if the IRS determines that the
excess benefit transaction resulted from reasonable cause and not willful neglect, it may also
abate the 25% tax.85 To the extent that a charity establishes the rebuttable presumption of
reasonableness, a disqualified person could cite reliance on this process as grounds for abatement
of any excise tax liability. Moreover, if the tax is abated as to the disqualified persons, abatement
is automatic for the organization managers participating in that transaction.86

        C.         Alternatives to Perquisites

        As both pressure on the bottom line and notoriety of executive compensation packages
increases, one good rule of thumb to live by for exempt organizations is to avoid having the
organization featured on the front page of the paper in a negative story on executive
compensation. In addition to documenting reasonableness and factoring mission objectives into
compensation plan design, one way to reduce the risk of negative publicity is by avoiding hot
button perquisites in the executive compensation program. With that principle in mind, many
nonprofit healthcare organizations are moving away from perquisites and toward more of an all
cash and traditional benefits (medical and dental insurance, life insurance pension) compensation
program. An extra $20,000 in performance-based bonuses, for example, may get an executive to
the same point economically as a modest car allowance, country club dues and/or free spousal
travel, but it is a less salacious line item. Whether intentionally or not, the IRS has provided a list
of several of these hot button perquisites in the new Form 990.87

        The views set forth herein are the personal views of the author and do not necessarily reflect
those of the law firm with which he is associated.

IRS Circular 230 Disclosure: To ensure compliance with requirements imposed by the IRS, we
inform you that any U.S. federal tax advice contained in this communication (including any
attachments) is not intended or written to be used, and cannot be used, for the purpose of
(i) avoiding penalties under the Internal Revenue Code or (ii) promoting, marketing or
recommending to another party any transaction or matter addressed herein.

             See, e.g., Internal Revenue Manual (IRM) §
             See, e.g., IRM §
             Treas. Reg. § 53.4963-1; see also IRM §
             26 U.S.C. §§ 4961(a), 4962(a) & 4963(a); FY2002 CPE Text, Chapter H, supra, at p. 278.
             Form 990 (2008), Schedule J, Part I, Line 1a.

                                                        - 40 -

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