Specialty Hospitals and Gainsharing Get Renewed Regulatory Attention


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Senators Grassley (R-IA) and Baucus (D-MT) introduced on May 11, 2005 a bill to enact the "Hospital Fair Competition Act of 2005".  Senator Grassley is the Senate Finance Committee Chairman and Senator Baucus is ranking Democratic member of the Committee.  In addition to making certain changes to the DRG system, the bill would permanently prohibit the development of new, physician-owned specialty hospitals and would significantly curtail the expansion of existing physician-owned specialty hospitals.  The bill would also direct the Secretary of the Department of Health and Human Services to establish a so-called "gainsharing arrangement" exception to the general prohibition against making payments to physicians to reduce or limit care to Medicare or Medicaid patients under their care. Finally, the bill would make conforming changes to the anti-kickback statute and Stark to accommodate the new gainsharing exception.  The day after the introduction of the bill, CMS Administrator Mark McClellan indicated CMS's support for the "robust competition, high quality and patient satisfaction that many specialty hospitals provide." However, Dr. McClellan also announced that CMS would "take steps to make sure that specialty hospitals are really providing hospital services and meeting other obligations for hospitals."

The move by Senators Grassley and Baucus is likely to be the first volley in the battle over the future of specialty hospitals. Support for the substance of the bill is likely to be tepid among Republicans in the House. Nevertheless, the substance of the bill, and CMS's position on specialty hospitals, is worth a careful look.

Stark's Whole Hospital Exception, the Current Moratorium, and the Proposed Permanent Moratorium on New Specialty Hospitals

Currently, a physician may refer to a non-rural hospital in which the physician has an ownership interest only under the auspices of Stark’s so-called "whole hospital" exception.  Without the whole hospital exception, the physician would have no way of avoiding the general prohibition on referrals to non-rural hospitals in which the physician has an ownership interest.  Currently, there is a moratorium in effect that excludes from the whole hospital exception any new physician-owned specialty hospitals developed after December 8, 2003.  Specialty hospitals are currently those that primarily provide cardiac, orthopedic or surgical care. The Secretary of HHS can add other specialties to the list if it determines that those specialties are inconsistent with the purpose of permitting physician investment in a hospital under Stark.  The moratorium essentially prohibits the development of such hospitals until June 8, 2005.  The bill would make the moratorium permanent and would impose further conditions on those specialty hospitals already in operation or under development as of November 18, 2003 (the so-called "grandfathered" hospitals).  Under the existing rules, a grandfathered hospital can retain its grandfathered status as long as (i) the number of physician investors at any time after November 18, 2003 is no greater than the number of physician investors as of November 18, 2003, (ii) it does not increase its number of beds by more than 50% of the beds it had as of November 18, 2003 or 5 beds, whichever is greater, and (iii) it does not change the type of services it offers among the regulated categories (e.g., surgical, cardiac and orthopedic).

The Grassley-Baucus Bill and Further Restrictions on Grandfathered Specialty Hospitals

The Grassley-Baucus bill would impose further restrictions on grandfathered specialty hospitals.  First, the bill would not allow the percent of the investment in a grandfathered specialty hospital by physician investors at any time on or after June 8, 2005 to be greater than the percent of investment by physician investors as of that date.  Second, the bill would prohibit a grandfathered specialty hospital from increasing the percent of the investment in the hospital by any physician investor at any time on or after June 8, 2005 to an amount greater than the percent of the physician’s investment as of such date.  Third, the bill would prevent a grandfathered specialty hospital from increasing its operating rooms at any time on or after June 8, 2005 to a number greater than the number of rooms it had as of such date.  Finally, the bill would prohibit a grandfathered specialty hospital from increasing the number of its beds at any time on or after June 8, 2005.  In other words, the bill would do away with the ability of a grandfathered specialty hospital to increase the number of its beds by the greater 50% or 5 and replace that limitation with an absolute prohibition on increasing the number of its beds at any time on or after June 8, 2005.


The Social Security Act prohibits hospitals from knowingly making a payment to a physician as an inducement to reduce or limit services to Medicare or Medicaid beneficiaries under the physician's care.  In addition to altering Stark’s rules with respect to specialty hospitals, the bill would authorize the Secretary of HHS to establish an exception for arrangements between hospitals and physicians in which the physicians share in the hospitals' savings arising out of cost reduction efforts involving the physicians.  Such arrangements are often referred to as "gainsharing arrangements".  The Secretary would be instructed to implement requirements that minimize financial incentives that could effect physician referrals and that insure that the quality of care provided to individuals is protected under the gainsharing arrangement exception.  Currently, gainsharing programs have been able to move forward, despite the Social Security Act's prohibition, under the protection of program-specific advisory opinion letters issued by HHS’s Office of Inspector General.  These letters essentially "bless" specific programs with internal safeguards that the OIG deems to be adequate, but currently each hospital seeking to implement a gainsharing program must seek its own advisory opinion.  The bill would provide a gainsharing program exception of general applicability and may therefore obviate the need to obtain an advisory opinion before implementing a gainsharing program. Further, the bill would make conforming changes to the anti-kickback statute and the Stark law to accommodate the new gainsharing exception.

CMS's Announcement

Immediately after the introduction of the bill, CMS staked out its position on specialty hospitals.  The Administrator of CMS announced that CMS supported the "robust competition, high quality and patient satisfaction" that specialty hospitals may provide. However, CMS acknowledged that specialty hospitals had an unfair advantage and set forth four steps that it plans to take to do away with that advantage.  These steps are as follows:

  • Reform payment rates for inpatient hospital services through changes to the DRG system.  CMS will review specific DRGs prevalent in specialty hospitals that may result in overly generous payments being made to these hospitals.
  • Reform payment rates for ambulatory surgery centers.  CMS suspects that some orthopedic and surgery specialty hospitals exist only because payment rates are more favorable for services performed in a facility certified as a hospital than for comparable services provided in a facility certified as an ASC.  CMS plans to implement in January 2008 reforms to the ASC payment system to diminish these differences.
  • Closely scrutinize whether facilities meet the definition of a hospital.  CMS will review existing specialty hospitals to determine whether or not they meet CMS's definition of a "hospital."  Currently, according to CMS, a hospital must be "primarily engaged in furnishing services to inpatients."  CMS is threatening to revoke the provider status of specialty hospitals which primarily provide services on an outpatient basis, presumably taking advantage of the rate spread between outpatient services performed in a hospital and outpatient services performed in an ASC. CMS has not commented on the impact that this position might have on many acute care general hospitals that perform more outpatient than inpatient work.
  • Review procedures for approval for participation in Medicare.  CMS plans to revisit the procedures by which specialty hospital applicants for provider status are examined to ensure compliance with relevant core requirements for hospitals.  CMS has not yet indicated what it considers to be a "core requirement".  CMS has indicated that it wishes to consider how the Emergency Medical Treatment Labor Act (commonly known as "EMTALA") should apply to specialty hospitals, in particular with reference to transfers arising in the emergency departments of other hospitals.  While it studies the issue of what it will consider to be absolutely required of all specialty hospital applicants, CMS will instruct its intermediaries to refrain from processing further applications for a six-month period.  It is not clear exactly when the period commences, although CMS has indicated that it expects to revise its procedures by January of 2006.  Accordingly, with or without congressional action, there is now a de facto moratorium on new specialty hospitals through about the end of 2005.

For more information on the Grassley-Baucus bill and CMS's announcement, please feel free to contact one of the authors listed above.