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Utilization of a 1099 Marketing Rep – Two Recent Cases

Jeffrey S. Baird, JD • February 18, 2018

AMARILLO, TX – In the real world, it is common for a business (auto parts supplier, widget company) to “outsource” marketing to a marketing company. The marketing company generates business for the widget company, the widget company pays commissions to the marketing company, and everybody is happy. Unfortunately, what works in the real world often does not work in the DME universe. An example of this has to do with marketing companies. If a marketing company generates patients for a DME supplier, when at least some of the patients are covered by a government health care program, then the supplier cannot pay commissions to the marketing company.

The federal anti-kickback statute makes it a felony to knowingly and willfully offer, pay, solicit, or receive any remuneration to induce a person to refer an individual for the furnishing or arranging for the furnishing of any federal health care program (“FHCP”) – covered item or service, or to induce such person to purchase or lease or recommend the purchase or lease of any FHCP – covered item or service. 42 U.S.C. § 1320a-7b(b). Many courts have adopted the “one purpose test,” which states that if one purpose of a payment is to induce referrals, the anti-kickback statute is violated, notwithstanding that (i) the primary purpose for the payment is to compensate for legitimate, substantive services, and (ii) the compensation is fair market value.

The Office of Inspector General (the “OIG”) has adopted safe harbors that provide immunity for arrangements that satisfy certain requirements. The employee safe harbor permits an employer to pay an employee in whatever manner the employer chooses in exchange for the employee assisting in the solicitation of federal health care program business, as long as there is a bona fide employer-employee relationship. 42 C.F.R. § 1001.952(i). The only way that an independent contractor can be paid for marketing or promoting Medicare-covered items or services is if the arrangement complies with the Personal Services and Management Contracts safe harbor. This safe harbor permits payments to referral sources as long as a number of requirements are met. Two of the requirements are that (i) payments must be pursuant to a written agreement with a term of at least one year, and (ii) the aggregate compensation paid to the independent contractor must be set in advance (e.g., $24,000 over the next 12 months), be consistent with fair market value, and not be determined in a manner that takes into account the volume or value of any referrals or business generated between the parties. 42 C.F.R. § 1001.952(d). Because the aggregate compensation is not set in advance, percentage-based compensation arrangements do not qualify for protection under the Personal Services and Management Contracts safe harbor.

The OIG has repeatedly expressed concern about percentage-based compensation arrangements involving 1099 independent contractor sales agents. In Advisory Opinion No. 06-02, the OIG stated that “[p]ercentage compensation arrangements are inherently problematic under the Anti-Kickback Statute, because they relate to the volume or value of business generated between the parties.” Moreover, in Advisory Opinion No. 99-3, the OIG stated:

Sales agents are in the business of recommending or arranging for the purchase of the items or services they offer for sale on behalf of their principals, typically manufacturers, or other sellers (collectively, “Sellers”). Accordingly, any compensation arrangement between a Seller and an independent sales agent for the purpose of selling health care items or services that are directly or indirectly reimbursable by a Federal health care program potentially implicates the anti-kickback statute, irrespective of the methodology used to compensate the agent.  Moreover, because such agents are independent contractors, they are less accountable to the Seller than an employee. For these reasons, this Office has a longstanding concern with independent sales agency arrangements.

Further, in its response to comments submitted when the safe harbor regulations were originally proposed, the OIG stated:

[M]any commentators suggested that we broaden the [employee safe harbor] to apply to independent contractors paid on a commission basis. We have declined to adopt this approach because we are aware of many examples of abusive practices by sales personnel who are paid as independent contractors and who are not under appropriate supervision. We believe that if individuals and entities desire to pay a salesperson on the basis of the amount of business they generate, then to be exempt from civil or criminal prosecution, they should make these salespersons employees where they can and should exert appropriate supervision for the individual’s acts.

54 Fed. Reg. 3,088, 3,093 (Jan. 23, 1989).

A number of courts have held that marketing agreements are illegal under the anti-kickback statute and are, therefore, unenforceable. See Med. Dev. Network, Inc. v. Prof’l Respiratory Care/Home Med. Equip. Servs., Inc., 673 So. 2d 565 (Fla. Dist. Ct. App. 1996); Nursing Home Consultants, Inc. v. Quantum Health Services, Inc., 926 F. Supp. 835 (E.D. Ark. 1996), aff’d per curiam, 112 F.3d 513 (8th Cir. 1997); Zimmer, Inc. v. Nu Tech Med., Inc., 54 F. Supp. 2d 850 (N.D. Ind. 1999). For example, Medical Development Network involved an agreement wherein a durable medical equipment (“DME”) supplier agreed to pay an independent contractor marketing company (the “Marketer”) a percentage of the DME supplier’s sales in exchange for marketing its products to physicians, nursing homes, and others. When the DME supplier breached the contract, the Marketer sued, and the DME supplier defended on the ground that the agreement was illegal under the anti-kickback statute. A Florida appeals court agreed and affirmed the trial court’s ruling, holding that the agreement was illegal and unenforceable because the Marketer’s receipt of a percentage of the sales it generates for the DME supplier violated the federal anti-kickback statute.

Additionally, the OIG has taken the position that even when an arrangement will only focus on commercial patients and “carve out” FHCP beneficiaries, the arrangement will still likely violate the anti-kickback statute. In Advisory Opinion No. 06-02, the OIG explained as follows:

The “carve out” of Federal business is not dispositive, however, on the question of whether the proposed program potentially violates the anti-kickback statute. The OIG has a long-standing concern about arrangements pursuant to which parties “carve out” referrals of Federal health care beneficiaries or business generated by Federal health care programs from otherwise questionable financial arrangements. Such arrangements may violate the anti-kickback statute by disguising remuneration for Federal referrals through the payment of amounts purportedly related to non-Federal business.

Two recent cases in the pharmacy space exemplify the risks of paying commissions to 1099 independent contractor marketing reps. In the first case, Monty Grow (a former NFL player) was recently convicted by a Florida federal jury of receiving kickbacks to steer patients to a compounding pharmacy that, in turn, billed TRICARE for compounded drugs. Mr. Grow was convicted of health care fraud, conspiracy to defraud, receipt and payment of kickbacks, and money laundering. Mr. Grow had been accused by federal prosecutors of an arrangement to recruit and refer patients (covered by TRICARE) to Pompano Beach, FL – based compounding pharmacy, Patient Care America. According to the government, Mr. Grow effected the arrangement through his company, MGTEN Marketing Group, Inc. The evidence at trial showed that: (i) the prescriptions were signed by telemedicine companies using pre-printed prescriptions, (ii) there was no determination of medical need, (iii) the drugs were not, in fact needed and (iv) not only did the pharmacy pay kickbacks to Mr. Grow … but he, in turn, paid kickbacks to the TRICARE beneficiaries. The “money laundering” conviction arose from large dollar purchases that included real estate, automobiles, and securities. In addition, Shane Matthews (also a former NFL player and a University of Florida teammate of Grow), pled guilty to lining up patient recruiters as part of the arrangement and was sentenced to three months in prison.

In the second case, Steven M. Butcher, a former pharmaceutical sales rep, recently pled guilty to one count of health care fraud and one count of violation of the federal anti-kickback statute. Mr. Butcher joined three others who previously pled guilty to their roles in the arrangement, which prosecutors said was conducted through MedMax, LLC, a New York compounded medication sales and marketing company that Mr. Butcher allegedly owned and operated. The criminal information filed in the case stated that Mr. Butcher ran the arrangement for about two years and caused more than $45 million in losses to insurers, including TRICARE. According to the prosecutors:

  • Butcher and other MedMax sales representatives sought out participants of insurance plans that covered compounded drugs and encouraged them to obtain prescriptions for these medications … whether they were actually needed or not.
  • The prescriptions were then sent to compounding pharmacies that would, in turn, pay a percentage commission to Mr. Butcher.
  • Butcher would pay commissions to MedMax sales reps to incentivize them to obtain more unnecessary prescriptions. The sales reps would receive additional money if they got the prescriptions filled for themselves and/or their family, or if they recruited additional sales reps.
  • In some cases, Mr. Butcher and other sales reps reached out to physicians they knew in order to persuade them to prescribe unnecessary compounded medications.

Mr. Butcher’s plea agreement requires him to (i) forfeit more than $4.5 million, roughly what prosecutors said Mr. Butcher earned through the arrangement and (ii) pay restitution of at least $45 million.

Granted, these two cases (i) involve a lot of money and (ii) contain facts that are appalling. Nevertheless, broken down to their simplest components, a key fact in each case is that a marketing company (1099 independent contractor) is generating FHCP patients for a provider and is, in return, receiving commissions for such patients. Here are the “take aways” from all of this:

  • It is permissible to pay commissions to bona fide W2 part-time or full-time employees who generate FHCP patients for the supplier.
  • The employment arrangement must be “bona fide,” not a “sham.” The smell test applie Let’s say that the supplier and the sales rep sign a written employment agreement; let’s say that the supplier withholds taxes from the rep’s paycheck; let’s say that the supplier gives a W2 to the rep; but let’s say that the supplier, in reality, exercises no supervision and control over the rep. It is likely that the this “employment” arrangement will be considered to be a “sham” arrangement … meaning that the government will likely take the position that the rep is, in fact, a 1099 independent contractor of the supplier. This, in turn, will result in a violation of the anti-kickback statute.
  • It goes without saying that only a human being (a “warm body”) can be an employee. An “it” (such as a marketing company) cannot be an employee. A marketing company is, by law, a 1099 independent contractor of the supplier.
  • A sales rep (who generates patients covered by an FHCP) can be a 1099 independent contractor if the arrangement complies with the Personal Services and Management Contracts safe harbor. However, a fixed annual fee arrangement (no commissions) with a sales rep is normally unrealistic.
  • If a 1099 independent contractor sales rep generates both commercial patients and patients covered by an FHCP, the parties cannot avoid violating the anti-kickback statute by the supplier paying commissions only for the commercial patients … and paying nothing for the patients covered by an FHCP.
  • Lastly, let’s say that the rep is a 1099 independent contractor, is paid commissions, and only generates commercial patients for the supplier. In this scenario, the federal anti-kickback statute will not apply. However, the parties will need to review the state’s anti-kickback statute. All states have anti-kickback statutes that are similar to the federal anti-kickback statute. Some state anti-kickback statutes only come into play when the payer is the state’s Medicaid progra Other state statutes come into play regardless of the payment source.

Attribution: A portion of this article is taken from (i) a February 6, 2018 Law360 article written by Daniel Wilson entitled “Former NFL Player Convicted Over $40M Tricare Fraud” and (ii) a February 14, 2018 Law360 article written by Jon Hill entitled “NY Pharma Sales Rep Cops To $45M Health Care Fraud.”

Jeff Baird will be presenting the following webinar:

HME News Webinar

2018 Look Ahead for DME Suppliers

Presented by: Jeffrey S. Baird, Esq., Brown & Fortunato, P.C. and Andrea Stark, MiraVista, LLC

Moderated by: Liz Beaulieu, HME News

Thursday, March 8, 2018

1:00 p.m. – 2:30 p.m. Eastern Time

2018 is the eighth year in a row Andrea Stark, Jeff Baird, and moderator Liz Beaulieu have teamed up for the annual outlook event to blueprint the legal and DME reimbursement challenges facing DME suppliers. And while most sequels seem to lose steam, Look Ahead continues to deliver a well-rounded, usable strategy that connects with attendees. A few of the hot topics for this year include:

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  • Best practices to capitalize on Medicare’s Targeted Probe and Educate program
  • Continued audit scrutiny for non-invasive ventilators
  • Preparing for changing patient Medicare IDs to avoid cash flow disruptions
  • State Medicaid cuts and sole source contracting
  • Outsourcing overseas
  • The latest from Capitol Hill on DME reimbursement reprieve

Register for 2018 Look Ahead for DME Suppliers.

Fee:      $149

Jeffrey S. Baird, JD, is chairman of the Health Care Group at Brown & Fortunato, PC, a law firm based in Amarillo, Tex. He represents pharmacies, infusion companies, HME companies and other health care providers throughout the United States. Mr. Baird is Board Certified in Health Law by the Texas Board of Legal Specialization, and can be reached at (806) 345-6320 or