Management Services Organizations (MSOs) (2024)

MSOs are primarily utilized as a vehicle by which non-physicians can legally own an entity that supplies administrative support to a medical practice’s operations. They can also provide an additional revenue stream for physicians who are winding down and/or retiring from clinical practice.

MSOs:

Why form an MSO?

MSOs are formed for a variety of reasons, but in most cases, their function is to transfer one or more of the non-clinical, business functions of a medical practice or facility to a business entity that may legally be owned by non-licensees (i.e. non-physicians). In most states, medical practices may be owned only by licensed physicians or other licensed healthcare providers. This severely limits the number of potential investors in a medical practice, and, consequently, limits the financial value of the practice. To the contrary, an MSO that provides exclusively non-clinical services to practices may be owned by non-licensees, including private equity or venture capital investors, hospitals or family members of the physician owners of a practice.

This flexibility in the ownership potential of MSOs make them popular in a variety of contexts, including:

To create value in a company that may be owned by outside investors or non-physicians associated with the practice
As an asset protection vehicle in order to reduce the overall exposure of a medical practice to malpractice liability
As an estate planning tool
To consolidate the non-clinical functions of multiple practices in order to achieve economies of scale
To consolidate non-clinical functions of a large group practice in preparation for a private equity sale
To create a “captive practice” or “friendly physician” model in states with strict corporate practice of medicine laws.

How is an MSO formed?

An MSO may be formed as either a limited liability company or general business corporation. The decision of what type of entity to use is typically guided by both legal and accounting considerations. An MSO entity may be formed in states outside of the state in which the medical practice operates. For example, many MSOs are formed as Delaware LLCs or corporations due to Delaware’s pro-business laws.

Once the MSO is formed, ownership documents must be established which govern the rights and obligations of the MSO’s investors. Additionally, the MSO will enter into a management services agreement (MSA) with one or more medical practices or facilities which will form the basis of the business relationship (including the management fee) between the MSO and the practices (discussed below). If the MSO will be assuming responsibility for non-clinical employees, space equipment or IT services, those items and services will need to be transferred from the practice to the MSO. Leases may be assigned to the MSO and assets of the practice may be contributed or sold to the MSO in a number of forms.

How is an MSA structured?

A management agreement (MSA) is a contract between an MSO and a medical practice or other healthcare business that governs the business relationship between the parties. The MSA should carefully detail all of the services to be provided by the MSO, as well as the services that are specifically excluded (e.g., clinical services). It is important that the parties distinguish between the clinical functions of the practice and the non-clinical functions of the MSO.

Additionally, it is important to remember that, at its essence, and MSO is merely a vendor of service for the practice. In most states, the practice must remain separate and independent, particularly with respect to clinical services.

Nevertheless, it is often the goal of the parties to confer to the MSO sufficient authority to operate the practice and generate a management fee that enables the MSO to generate returns to its investors. This may prompt the parties to establish a very robust MSA with strict requirements for the practice and a long-term commitment of five year or longer.

The basic framework of a typical MSA would include:

Term and Termination Provisions
Restrictive Covenants
Indemnification Provisions
A security interest whereby the MSO has a lien on the practice’s accounts receivable, where permitted
A detailed list of management services
A fee schedule for management services

The Private Equity Perspective

Private equity investors seeking to generate revenue in the highly regulated healthcare space need a vehicle that does not run afoul of the prohibition on non-physician ownership of a medical practice. Through the MSO model, the private equity firm can acquire the practice’s hard assets, lease them back to the practice, and provide back-office functions, in exchange for a management fee.

Practices that have already established a successful MSO model are even more attractive to private equity investors because the infrastructure and reporting are already in place. This facilitates due diligence and may abbreviate the timeline for consummating a transaction.

Regulatory Issues

There are a variety of Federal and State regulations that must be considered when exploring the feasibility of a proposed MSO model. Investors are well-advised to seek counsel familiar with the applicable laws, which include, but are not limited to:

The Corporate Practice of Medicine

The “corporate practice of medicine” (“CPOM”) prohibition aims to ensure that profit interests do not interfere in the exercise of a licensee’s clinical judgment. The fundamental principle underlying the prohibition is that lay people are more susceptible to being motivated by profits than licensed physicians, who are highly regulated. For this reason, professional entities comprised entirely of physician owners do not violate the CPOM prohibition. In a strong CPOM state, the MSO may not employ a physician or other clinical personnel; in a weak CPOM state, the MSO may be permitted to employ a physician, provided that the MSO does not interfere with the physician’s clinical decision-making.

When non-licensees are found to exercise control over the practice of medicine, consequences may include:

Discipline for the unauthorized practice of medicine, violation of fee-splitting laws, and/or self-referral prohibitions
Challenges by payors of the practice’s structure, potentially such that all claims submitted by the practice are considered false claims, leading to significant clawbacks

Fee-Splitting

In addition to CPOM prohibitions, many states prohibit physicians from splitting the fees generated from their medical services with others. Like the CPOM prohibition, the principle underlying fee-splitting prohibitions is: profit-driven decisions must not supersede the best interests of the patient.

The Stark Law

The Federal Physician Self-Referral Law, commonly referred to as the Stark Law, prohibits physicians from referring patients to receive designated health services (DHS) that are payable by Medicare or Medicaid from entities with which the physician or an immediate family member has a financial relationship, unless an exception applies. Financial relationships include both ownership/investment interests and compensation arrangements.

The Federal Anti-Kickback Statute (“AKS”)

The AKS imposes criminal penalties against individuals or entities that knowingly and willfully offer, pay, solicit, or receive any remuneration either (A) “in return for referring an individual to a person for the furnishing or arranging for the furnishing of any item or service for which payment may be made in whole or in part under a Federal health care program” (which include Medicare and Medicaid), or (B) “in return for purchasing, leasing, ordering, or arranging for or recommending purchasing, leasing, or ordering any good, facility, service, or item for which payment may be made in whole or in part under a Federal healthcare program.” Remuneration is defined broadly to include the transfer of anything of value, directly or indirectly, overtly or covertly, in cash or in kind. Violation of the Anti-Kickback Statute is a felony, and conviction may result in a fine of up to $25,000 per occurrence, and up to five years in prison, as well as exclusion from participation in government reimbursed programs.

Structuring the MSO Arrangement to Avoid Regulatory Pitfalls

A carelessly structured MSO arrangement has the potential to result in a variety of very expensive consequences to the parties, ranging from licensing board discipline to payor allegations of false claims and significant clawbacks. Experienced healthcare counsel will enable the MSO investors to determine, among other things:

The ownership composition of the MSO
If non-licensees will be involved, the state’s stance on the CPOM doctrine
A comprehensive list of services the MSO will provide and a corresponding management fee that is consistent with fair market value and is also commercially reasonable
Whether additional state requirements apply
Appropriate management services agreements, leases/license agreements, Business Associate Agreement, etc.

How Frier Levitt Can Help

Frier Levitt provides comprehensive regulatory counsel to licensees and entrepreneurs interested in utilizing the MSO model to achieve their business objectives.Contact usto speak to an attorney today.