Medical office timeshares: Four considerations for structuring compliant lease agreements Wade Blundell and Mike Vetter April 24, 2020 Share on Facebook Share on Twitter Share on LinkedIn Share via email Medical office timeshare arrangements are nothing new. However, these arrangements became more prevalent between hospitals and physicians in recent years as a cost-effective way to expand into surrounding geographical markets or provide added convenience and improved access to care to an active patient base. Similar to executive office timeshares, medical office timeshares allow physician tenants to rent space on a part-time basis (typically in four-hour time slots). The medical office space is controlled by independent physician practices or hospitals and can be tailored to meet the needs of specialists or generalists. By leasing space based on total time used, the healthcare provider is able to assess a new market and expand their patient base without the high overhead and start-up costs of a full-time office. These arrangements generally take one of two forms, traditional medical office timeshare or existing physician office space distribution. Traditional medical office timeshares are commonly set up by a hospital system utilizing a small medical suite located within the adjacent medical office building. The suite will typically consist of three exam rooms, a waiting room, check-in desk, physician office, nurse station, etc. The hospital will purchase the furniture and equipment for each room and provide other services. Some timeshare suites will have a front desk receptionist or clinical nurse available. Existing physician office space distribution capitalizes on the fact that many physician practices have underutilized time and space that can be offered to other physicians on a time-slot basis. The landlord/tenant relationship can be an independent physician providing space and services to a hospital employed physician, or vice-versa. This arrangement typically consists of the tenant given exclusive access to certain identified rooms (exam rooms, physician office, etc.), while sharing certain common areas with the landlord providers also utilizing the space. The medical practice will provide all the furniture and equipment for each room and typically make available many of the resources that already exist in the practice. It is also very common for the tenant to share the medical practice’s front desk receptionist on a limited use basis. The benefits of these arrangements are vast, but determining the appropriate timeshare lease rate for medical office timeshares is a challenging and complex process. Over the years, Centers for Medicare and Medicaid Services (CMS) has become increasingly skeptical of the concept and has implemented stringent regulations. According to the Stark Law, these agreements must be at fair market value (FMV) to ensure there is no undue benefit provided to a healthcare provider in a position to refer patients to the medical facility. Whether the medical facility is providing or receiving the services from the potential referral source, there are many areas to examine to ensure the agreement is compliant and at FMV. Hint: It’s about more than just square footage! 1. Space The first step in calculating the timeshare FMV rate is to identify the space cost that will be provided under the arrangement. The information necessary to calculate the space cost includes a real estate appraisal providing the FMV full-service rental rate and an architect drawing defining the square footage subject to the arrangement. If the suite is being utilized exclusively by the timeshare physician tenant during the defined use period, the total suite square footage will suffice. However, in a space distribution arrangement where common areas are shared, it is imperative that all exclusive use areas and common shared areas are clearly identified and appropriately allocated. Frequently, practices will make the mistake of not considering all the potential common area space used or needed for the medical practice operation to function. Common areas that must be considered include the waiting room, front desk area, nurse stations, restrooms, hallways, janitorial closets, IT closets, supply closets and break room. After the total square-footage applicable to the tenant is identified (exclusive-use square feet + allocated shared common area square feet), it is multiplied by the FMV full-service rental rate of the space determined by a real estate appraiser to ensure all building operating expenses are considered. 2. Furniture and equipment Next, consider the furniture and equipment that will be provided to and utilized by the timeshare tenant. Determining the appropriate FMV annual cost for the furniture and equipment must include both the exclusive-use and common area shared assets. These assets may include new or used furniture and equipment, and can range in materiality from A-Z. This is essential to having a Stark Law-compliant agreement, so while it’s easy to discount the importance of this factor, it’s crucial to work with a qualified party to determine the FMV annual cost of these assets. 3. Services In the traditional medical office timeshare arrangement, the owner of the facility can decide what services they would like to provide to their potential tenant. The commonly available services are telephone service, internet service, basic exam room supplies, basic office supplies, biohazard waste removal services, paper shred bin removal services, cable television in the waiting room, magazine subscriptions, water dispenser service and coffee supplies, among others. In an existing physician office space distribution arrangement, a full operating medical practice often has more services offered than a traditional medical office timeshare arrangement. One service-related cost that is frequently overlooked is the check-in staff at the front desk. A physician tenant may not be able to provide their own front desk receptionist, relying on the medical office’s receptionist to greet a patient, provide paperwork to the patient and notify the nurse the patient has arrived. Too many times, this service is overlooked as immaterial. However, there is a cost to having this individual at the front desk and must be accounted for in the FMV timeshare rate. 4. Consideration of short-term use premium Finally, a major component often missing from the medical office timeshare slot rate is a short-term use premium. In other industries, a premium is paid for the part-time use of space or services (i.e. conference room, executive office suite, rental car, hotel, equipment, etc.). Medical office timeshares are no exception; in fact, it’s essential to ensure compliance. Even if there is an appropriate build-up of all FMV costs associated with the factors outlined above, if the short-term premium is not considered, the arrangement is not FMV. In many cases, the short-term premium is missing or randomly applied without support. This is a vital step in determining the FMV timeshare rate associated with the part-time nature of the arrangement. Not only does the number of tenant time-slots impact the timeshare premium (two-half days per month vs. three-full days per week), so does the landlord utilization risk associated with the timeshare suite (investment in space utilized purely to lease out to timeshare tenants vs. full-time practice with excess capacity). Also, consider what is actually taking place in the market between buyers and sellers of these arrangements. Conclusion Medical office timeshare agreements have become more popular between hospitals and physicians. To ensure the arrangement is Stark compliant, each component must be considered, including accurate space utilization and rental rate (exclusive-use and shared), furniture and equipment, services and the appropriate short-term premium given the specific facts and circumstances of each arrangement. With well-documented support to ensure the timeshare rate is FMV, a medical office timeshare can be a great option to reach a larger patient base or providing added convenience and improved access to care to an active patient base, while minimizing overhead costs. About the authors After joining HMS Valuation Partners in 1997, Wade Blundell quickly became a partner in 1999. Dedicated to the firm’s clients, he has taken primary responsibility for overseeing the business valuations, most commonly for physician medical practices, diagnostic imaging centers, ambulatory surgery centers, urgent care centers, dialysis centers and physical therapy centers. In addition, Blundell also oversees the fixed asset valuation and timeshare lease valuation service lines within the firm. Mike Vetter joined HMS Valuation Partners in 2003. His primary responsibility is supervising the financial statement analysis and forecasting for business valuation engagements, as well as overseeing the analysis and market research necessary to establish the fair market rate associated with all goods and services (space, furniture and equipment, and other services) provided in timeshare lease valuation arrangements. Since joining HMS Valuation Partners, he has personally performed hundreds of business and timeshare valuations for a wide variety of clients.