Physician-Owned Distributors: Reliance Medical Systems Files Suite Contesting OIG Fraud Alert

In April of this year, we reported on a new Special Fraud Alert regarding physician-owned distributorships (PODs) issued by the Office of Inspector General (OIG) for the U.S. Department of Health and Human Services (HHS).

The Special Fraud Alert focuses on the specific attributes and practices of PODs that OIG believes produce substantial fraud and abuse risk and pose dangers to patient safety.  OIG reiterated its concern about the proliferation of PODs and OIG’s longstanding position that the opportunity for a referring physician to earn a profit, including through an investment in an entity for which he or she generates business, could constitute illegal remuneration under the anti-kickback statute.  Thus, OIG concluded that it will view PODs as inherently suspect under the anti-kickback statute.

In response to this Fraud Alert, Reliance Medical Systems, LLC (Reliance), which manufacturers highly customized spinal implant devices and surgical tools, brought a lawsuit against HHS-OIG in the U.S. District Court for the Central District of California challenging OIG’s stance.

Reliance Medical Systems is a design company that specializes in making customized implants and surgical tools, according to a press release announcing the lawsuit. According to the federal lawsuit, “the key element of Reliance’s business model is harnessing the design insights of physicians, whose expertise in spinal surgeries enables Reliance to design implants and surgical tools that lead to better patient outcomes.”

From its inception in 2006 through 2012, Reliance and its related companies included physicians as owners. The federal lawsuit says that “Reliance has found that physician ownership is the model that maximizes and optimizes physician design input.”

Reliance asserts in its complaint that the “fraud alert that characterizes physician-owned distributors (PODs) as “inherently suspect” violates the First Amendment rights of small businesses and physicians and should be declared invalid, as reported by the American Health Lawyers Association (AHLA).

According to the Reliance lawsuit, “at the core of the federal government’s crusade is its recent declaration that physician-owned companies are ‘inherently suspect.’ This declaration not only clashes with court decisions and government guidance affirming the legality of physician-owned companies, but signals that any person wishing to speak about the formation of a physician-owned company will be ‘inherently suspect[ed]’ of violating laws that carry severe criminal and civil penalties. This unfairly and unconstitutionally burdens First Amendment rights of free speech and due process rights.”

Reliance maintains in their complaint that the “inherently suspect” designation cloaks speech concerning this business model “in a presumption of guilt” in violation of the First Amendment.  This is especially troublesome for PODs because various court cases and government guidance have confirmed the legality of physician-owned entities, AHLA writes.

As we previously summarized, the OIG Fraud Alert defines PODs as any physician-owned entities “that derive revenue from selling, or arranging for the sale of, implantable medical devices ordered by their physician-owners for use in procedures the physician-owners perform on their own patients at hospitals or ambulatory surgical centers.”

According to the complaint, the physician-ownership model “is lawful under the anti-kickback statute” as described by the Ninth Circuit in Hanlester Network v. Shalala, 51 F.3d 1390 (9th Cir. 1995).

The complaint alleges large, corporate manufacturers, faced with competition from smaller physician-owned firms, “embarked on a multi-year effort to win at the legislative/agency level through substantial lobbying efforts.” These lobbying efforts resulted in congressional hearings and calls for additional guidance from OIG, culminating in the March 2013 special fraud alert, which refers to PODs as “inherently suspect” under the anti-kickback statute and indicates that an arrangement may still be found unlawful even in the absence of any suspect characteristics.

According to the complaint, “Reliance now wishes to return to the physician-owned entity business model,” which it moved away from in 2012, “but efforts to do so have been stymied by the OIG’s fraud alert.”

“The OIG’s arbitrary and capricious designation of all physician-owned entities as ‘inherently suspect under the anti-kickback statute’ is having a chilling effect on Reliance’s First Amendment right of free speech and has cloaked Reliance in a presumption of guilt in violation of Reliance’s due process rights under the Fifth and Fourteenth Amendments,” the complaint alleges.

The complaint asks the court to declare that the “inherently suspect” designation is “invalid, incorrect and/or inaccurate.”