What are “Designated Health Services”? A Stark Law Guide for Small Practices (42 CFR § 411.351)

For small practices, understanding the Stark Law is essential to avoiding devastating financial and legal consequences. At the heart of this law lies the concept of Designated Health Services (DHS), defined in 42 CFR § 411.351. DHS is not just a technical term; it is the foundation upon which Stark Law compliance is built. If your practice bills Medicare or Medicaid for any DHS, then any financial relationship between a physician (or their immediate family member) and that DHS provider must comply with strict legal requirements.

This guide provides a comprehensive breakdown of what DHS entails, why it matters, and how small practices can navigate these rules without putting their operations at risk.

What Are Designated Health Services?

Under Stark Law, Designated Health Services (DHS) are a specific set of healthcare items and services defined by statute and regulation. A physician cannot refer a Medicare or Medicaid patient to an entity for DHS if the physician (or an immediate family member) has a financial relationship with that entity, unless an exception applies.

Categories of DHS under 42 CFR § 411.351:

1. Clinical Laboratory Services

2. Physical Therapy Services

3. Occupational Therapy Services

4. Radiology and Certain Imaging Services (including MRI, CT, and ultrasound)

5. Radiation Therapy Services and Supplies

6. Durable Medical Equipment (DME) and Supplies

7. Parenteral and Enteral Nutrients, Equipment, and Supplies

8. Prosthetics, Orthotics, and Prosthetic Devices and Supplies

9. Home Health Services

10. Outpatient Prescription Drugs

11. Inpatient and Outpatient Hospital Services

Each of these categories has its own unique compliance risks. For small practices, the most relevant tend to be lab services, imaging, therapy, and DME.

1. Billing and Referral Risks

If your practice offers DHS and refers Medicare or Medicaid patients internally or externally, improper structuring can trigger claim denials, repayments, and penalties.

2. Financial Relationships Scrutiny

Compensation agreements, leases, joint ventures, and ownership structures involving DHS providers are carefully examined under Stark Law.

3. Strict Liability

Unlike the Anti-Kickback Statute, Stark Law does not require intent. Even unintentional violations can lead to civil monetary penalties and repayment obligations.

4. Impact on Small Practices

Small practices, which often rely on ancillary services such as in-office labs or imaging, are particularly vulnerable. Compliance missteps can easily occur due to limited administrative resources.

Breaking Down Each Category of DHS

1. Clinical Laboratory Services

Many small practices partner with or own labs. Referrals to a lab in which a physician has a financial stake trigger Stark, unless an exception applies.

2. Therapy Services

Both physical and occupational therapy fall under DHS. Practices offering in-house therapy must ensure compliance with the in-office ancillary services exception.

3. Imaging and Radiology

In-house imaging (X-rays, ultrasounds, MRI, CT scans) is common in specialties like orthopedics and cardiology. Stark restricts referral relationships unless structured carefully.

4. Durable Medical Equipment (DME)

Providing braces, walkers, or other DME is considered DHS. Physicians with ownership or profit-sharing arrangements must tread carefully.

5. Home Health and Prescription Drugs

Partnerships with home health agencies or prescribing entities can create financial entanglements that trigger Stark compliance issues.

A small orthopedic group established an in-house imaging service with the dual goals of streamlining patient care and creating an additional revenue stream for the practice. To encourage utilization of the new service, leadership designed a compensation model that provided physicians with bonuses tied directly to revenue generated from imaging referrals. On its face, the arrangement seemed practical, patients could access imaging in a familiar setting, and physicians were rewarded for increasing efficiency.

The practice believed this arrangement was protected under the in-office ancillary services exception to the Stark Law, which permits certain designated health services (DHS) to be provided within the same group practice. However, regulators later found that the bonus formula violated Stark’s fair market value requirements. By linking physician pay directly to the revenue derived from referrals, the group had created a financial incentive that encouraged self-referrals, a prohibited arrangement under the statute.

This misstep underscored an important compliance truth: good intentions and convenience do not excuse technical noncompliance. Even within a group practice, any financial arrangement involving DHS must meet every element of the exception, including documentation, fair market value benchmarks, and a structure that does not reward referral volume.

Federal regulators later determined that the practice failed to meet several of the strict conditions required for the exception. Specifically, the bonus formula was based on referral volume and revenue, which Stark explicitly prohibits unless certain safeguards are met. While the practice intended to improve efficiency and patient convenience, the lack of compliance controls transformed the arrangement into a prohibited financial relationship.

Consequences

• Repayment of hundreds of thousands of dollars in Medicare reimbursements deemed improper.

• Imposition of civil monetary penalties for Stark Law violations.

• Requirement to enter into a compliance settlement agreement with the Office of Inspector General (OIG), including staff training and revised compensation policies.

Lesson Learned

Good intentions are not enough under Stark Law. Technical compliance with every requirement of an exception is mandatory, and even small missteps can result in major financial and legal consequences. Physician practices must rigorously document fair market value and ensure that no compensation is based on referral volume or revenue.

Exceptions That Protect Small Practices

While DHS creates risks, Stark Law exceptions provide safe pathways for compliance.

Common Exceptions:

• In-Office Ancillary Services Exception: Allows practices to provide DHS in their own offices, provided specific conditions (location, supervision, and billing) are met.

• Fair Market Value Compensation Exception: Ensures physician pay reflects actual work value, not referrals.

• Rental of Office Space/Equipment Exception: Requires leases to be written, at least one year long, and at fair market value.

• Physician Recruitment Exception: Permits financial incentives for physicians joining a practice, with restrictions.

1. Know What DHS You Provide
   Create a detailed list of all services in your practice that qualify as DHS.

2. Audit Physician Compensation
   Ensure compensation is not directly or indirectly tied to the volume of DHS referrals.

3. Evaluate Leases and Vendor Contracts
   Confirm office space, equipment, and service arrangements comply with FMV requirements.

4. Maintain Documentation
   Keep all contracts and FMV analyses in writing, updated annually.

5. Train and Monitor Continuously
   Regularly update staff on DHS rules and conduct audits to catch problems early.

Violations of Stark Law can also create False Claims Act (FCA) liability if prohibited referrals result in improper claims being submitted to Medicare or Medicaid. This means penalties can multiply, with treble damages and per-claim penalties.

For small practices, even a modest number of improper DHS referrals can snowball into six- or seven-figure liability.

Understanding Designated Health Services under 42 CFR § 411.351 is essential for any small practice that bills Medicare or Medicaid. DHS is the trigger point for Stark Law enforcement. By knowing what qualifies as DHS, applying the right exceptions, and building compliance into everyday practice operations, small practices can avoid costly pitfalls. With careful structuring, documentation, and proactive compliance programs, small practices can continue to offer valuable in-house services to patients without running afoul of federal law.

Maintaining compliance is an ongoing process. By adopting a regulatory solution, your practice can track obligations in real time, complete risk assessments with confidence, and stay audit-ready, demonstrating proactive risk management and reinforcing trust with payers and patients.

1. 42 CFR § 411.351 – Definitions: Designated Health Services.

2. Centers for Medicare & Medicaid Services (CMS) – Stark Law.

3. Office of Inspector General (OIG) – Stark Law Compliance Guidance.