This article will address the problem of how to classify hospital-based physicians (such as emergency room physicians, radiologists, pathologists and anesthesiologists), who contract with hospitals either on a part-time or full-time basis, who are not employees of the hospital or of a group medical practice, and who are not partners in a medical practice. It will not deal with the classification of doctors who contract with hospitals to serve as medical directors or program directors as independent contractors; that topic is beyond the scope of this article.
 

In the mid-1970’s, the IRS aggressively challenged the status of all classes of workers who contracted as independent contractors, focusing its attention on those companies which contracted with the independent contractors. In 1978, Congress enacted legislation intended to grant interim relief to companies which utilized the services of independent contractors.
 

From 1978 through the mid-1980s, the IRS backed off on its challenge to businesses utilizing the services of independent contractors. In 1988, the Internal Revenue Service instituted a program known as ETEP (Employment Tax Enforcement Program), instructing its agents to audit businesses of all types which contract with independent contractors. ETEP has not only continued but has intensified in recent years. Included as one of the targets of the IRS program are hospitals which contract with doctors as independent contractors.
 

If a doctor who contracts with a hospital is an employee of the hospital or a professional corporation, whether it be an individual practice or a group practice, and taxes are withheld from the doctors pay, the physician is an employee and there is no issue for the IRS to challenge. If a doctor is a member of a medical group practicing as a partnership, and one or several members of the group contract or the group itself contracts with a hospital to provide services, there is no issue for the IRS to challenge. What the IRS does challenge is those sole practitioners and partners or shareholders in group practices that contract separately with hospitals. Payments for services are made directly to these doctors, and they are given a Form 1099. There is no withholding. Are these doctors employees of the hospital or independent contractors?
 

Historically, almost every state in the United States has a statute prohibiting the corporate practice of medicine by for-profit hospital corporations, a doctrine originally designed to protect patients and to prevent interference in the doctor-patient relationship. All fifty states have laws permitting the employment of physicians by professional corporations and professional associations. Most states have laws allowing HMOs to employ physicians, while others have created special exceptions from the doctrine against the corporate practice of medicine for non-profit hospitals, medical colleges, and charitable institutions.
 

It is our experience that most doctors, when they contract with a hospital to provide services, enter into a written agreement which is negotiated at arms-length between the hospital and the doctor. Frequently both sides have attorneys representing them in these negotiations. How then can the IRS contend that these same doctors are employees of the hospital - in clear contradiction to the prohibition against the corporate practice of medicine? In so doing, the IRS would place the hospital in a position where it is forced to breach its written contract with the doctors regarding services provided to the hospital by the doctor as an independent contractor.
 

What is the Law?
The tax law regarding a physician contracting with a hospital, emergency room, anesthesiology department, pathology department, or radiology department is unclear. Various pronouncements from the IRS, are at best, confusing, inconsistent, and difficult to apply.
 

The question of whether doctors that provide services to hospitals are independent contractors or employees has been considered by the IRS numerous times, in both published Revenue Rulings and Private Letter Rulings. In addition, there are a handful of tax court decisions which have considered whether a doctor was an independent contractor or employee. Most of the court decisions are income tax cases dealing with whether the doctors could properly deduct expenses as a self-employed individual, or whether certain pension payments made either by the doctors or the hospitals on a doctor’s behalf are deductible. The classification of emergency room physicians has been considered by the IRS several times in the last eight years, and a careful analysis of the IRS determination and the facts considered might be of some help in determining the proper classification of emergency room physicians as well as other hospital based physicians such as pathologists, anesthesiologists and radiologists.
 

The ideal place to start is the most recent Private Letter Ruling released by the Internal Revenue Service on July 12, 1996, dealing with physicians who contracted with a general partnership that provides emergency room services for various hospitals.
 

The partnership contracted with various doctors, under written agreements to provide services as emergency room doctors at a particular hospital. The agreement provided that the physicians were responsible for the method and manner in which the services were rendered and that the partnership would not exercise any control or discretion over the manner, mode, methods or means used by the doctors in performing these services. The written agreement specifically provided that the doctor was free to provide emergency room services for other groups and hospitals and, in fact, the doctors did perform services for other emergency care facilities in the area.
The partnership and the doctors mutually determined the schedule for coverage at the hospital’s emergency department on a monthly basis, and the contract between the partnership and the doctor required that the services must be rendered personally by the doctor.
 

Each doctor was paid a percentage of the net receipts collected for their services. The partnership used a billing service to collect fees and net receipts were calculated by reducing gross receipts for services performed by the doctor by the cost of the billing service and by the doctor’s malpractice insurance premium. The doctors set their own fees for work performed and the doctors were paid by the partnership each month, no later than the last day of the following month in which the services were rendered. The doctors received no fringe benefits from the partnership nor were they reimbursed for any business expenses. The doctors were required to pay their own professional license, liability insurance, and their own continuing medical education expenses.
 

The Internal Revenue Service concluded that the doctors were independent contractors, basing its conclusion on the following: (1) the partnership did not exercise any control or discretion over the doctors or their work methods; (2) the doctors were free to provide similar services to others; (3) the parties mutually determined the scheduling; (4) the doctors were paid a percentage of the receipts generated by their services; and (5) the physicians set their own fee for their work.
 

Recently, another Private Letter Ruling concluded that emergency room physicians were independent contractors and in doing so reversed a prior IRS Private Letter Ruling which had initially concluded that the ER physicians were employees.
 

In this situation, the hospital, operated by the Catholic Church, contracted with various doctors to operate its emergency room. Each written agreement with the doctors was for a term of two years and could be renewed for an additional two-year terms. The agreement provided that the doctors were responsible for the method and manner in which services were rendered and that the hospital did not have nor exercise any control or direction over the doctors. The hospital indicated that the doctors were not required to adhere to the hospital’s rules and regulations for employees, but only to the medical staff by-laws - which were applicable to all doctors with hospital privileges - and to directives relating to the emergency department.
 

Because the hospital is a Catholic institution, the doctors were also required to agree to perform services in accordance with the ethical and religious directives for Catholic health facilities. Each doctor was also required to participate in the hospital’s medical staff quality assurance and peer-review committees with respect to services performed.
 

The hospital did not determine the hours of work or when services were to be performed, as long as the emergency department was covered twenty-four hours a day, seven days a week. The written agreement between the hospital and the doctors did state that, in the event that the doctors were unable to agree on a schedule, they would be bound by the decision of the hospital’s medical director. The doctors had the right to hire assistants as they deemed necessary to carry out their duties, as long as the presence and duties of the assistants was approved by the hospital and was in compliance with the hospital’s rules and regulations. The cost of assistants was borne solely by the doctors. The doctors were free to engage in private practice, as long as that practice did not interfere with the performance of their duties for the hospital. Under the written agreement, a fee schedule was agreed upon between the hospital and the doctors. Each doctor assigned to the hospital all professional fees attributable to their services and the hospital had the responsibility for billing and collecting such fees. The doctors were to receive 60% of billed professional fees for Medicare and Medicaid patients and 70% of billed professional fees for all other patients.
 

In concluding that these doctors were independent contractors, the IRS specifically pointed to the fact that the hospital did not retain the right to exercise the overall control over the doctors’ services necessary to establish an employer-employee relationship, noting specifically that the doctors could hire assistants for which they had the responsibility to pay. The doctors were not subject to hospital rules regarding employees in general, and no income guarantee was made. In conclusion, the IRS noted that it did not appear that the doctors, in the performance of their professional services, were subject to the direction and control of the hospital.
 

Other private letter rulings, as well as several published revenue rulings, discuss those common-law factors generally considered as evidence in determining whether physicians are independent contractors or employees. Unfortunately, an analysis of the various factors considered in these rulings does not allow one to come to a consistent conclusion.
In 1993, the IRS published a Proposed Coordinated Issue Paper on The Employee Status Of Hospital-Based Physicians (“Paper”), discussing whether hospital-based physicians are employees or independent contractors for employment tax purposes. The Paper lists 20 factors, 16 of which evidence control, and four of which indicate independence - all of which should be considered in determining the status of hospital-based physicians.
 

The Paper emphasizes that in determining a physicians’ status, control over the physician’s business operations should be given greater weight than control over the physician’s professional decisions. Where the physician controls his own business activities, this tends to indicate he is acting as an independent contractor. The IRS acknowledges that the business structure and intent of the parties in establishing a work relationship can be relevant, and may effect the status of the physician. This is especially true in the case of a physician who often practices medicine through complex business forms, such as partnerships, corporations, joint ventures, and who frequently uses the facilities or equipment owned by hospitals.
 

Determining whether a physician who provides services to patients in a hospital setting is an independent contractor or employee is difficult, because the twenty-factor tests are harder to apply as the degree of independent judgment of the physician performing the services increases. Further, the application of the “twenty-factor” test to physicians is more complicated because the setting in which the physician performs the services for the patients often involves additional parties.
 

The IRS also believes that the factors should be weighed differently for physicians than for other workers who are unskilled, because of the degree of independent skill and judgment that must be exercised by a physician in providing medical services to patients. Thus, the factors in the twenty-factor test that focus on independence of judgment and the physician’s skill in providing patient care are less important than the factors that focus on the independence of the physician’s business operations and those business operations of the hospital. The business relationships between multi-parties in the medical care delivery system are important in applying the twenty-factor test to the provider of medical services, depending on whether a two-party setting or a multi-party setting exists.
 

A physician who practices medicine as an unincorporated, sole proprietor offering services to the public is generally a self-employed, independent contractor. The test for determining whether a physician is an independent contractor is whether someone other than the physician has the right to direct or control those components of the physician’s medical practice that are not necessarily linked to the physician’s independent medical judgment. Thus, the presumption that a physician is generally an independent contractor is grounded on the basis that the typical physician’s business operations, costs, and risks are not subject to the patient’s (or any other third party’s) control.
 

Employee status of physicians is most difficult to determine where medical services are provided through multi-business entities, where a physician is the sole shareholder, director and officer of a professional corporation or association, or where the physician is a shareholder or partner in a group practice.
 

In determining whether a hospital is the employer of the physician, the more obvious characteristics of such an arrangement include the following:
•The physician is a designated faculty member of the institution, with a specified academic title.
•The physician works exclusively in the hospital or hospitals owned by or affiliated with the institution.
•The physician’s salary is fixed without reference to fees collected by the institution for services rendered to patients.
•The physician is included as an employee for purposes of the institution’s employee benefits program.
In addition, the following are the major factors typically present in cases where the physician is an employee of the institution:
•The institution reserves the right to specify the hours during which the physician must be present to perform medical services.
•The institution is entitled to fees collected for medical services rendered to patients.
•The institution bears the risk and expenses associated with the delivery of medical care (e.g., the cost of professional liability insurance, the provision of office space and supplies, the furnishing of business support staff such as secretaries and transcriptionists).
 

For a hospital-based physician to qualify as a self-employed individual, it must be clear that the physician has bona fide control over the business aspects of the delivery of his or her medical services, despite the need for performances of such services in a hospital setting. Thus, if the written agreement between the hospital and the doctor provides that the physician, not the hospital, determines when and how frequently these services are to be performed, and that the physician, not the hospital, is entitled to all fees for medical services rendered, and that the physician is responsible for maintaining professional liability insurance and all other expenses of the medical practice, it would indicate that the physician is an independent contractor and not an employee. Assume further that the physician offers similar services under similar conditions to other hospitals and/or has a private practice of medicine, this strongly suggests that the physician is an independent contractor.
 

The IRS also acknowledges that there are some factors common to virtually all hospital/physician relationships, regardless of whether the physician is an independent contractor or the hospital’s employee, and that these factors should not be given much weight in determining the status of their relationship. These common factors are as follows:
•A requirement that medical procedures be performed in accordance with hospital protocol.
•The necessity of the physician to comply with internal hospital accreditation requirements before hospital privileges are granted.
•The use of hospital facilities (e.g., operating rooms, patient examination rooms, equipment).
•The reservation of rights of the hospital to terminate the physician’s privileges for cause (such as loss of license to practice medicine).
 

Conclusion
There is no clear-cut litmus test; the facts of each specific relationship must be examined thoroughly. Clearly, the professional nature of the relationship indicates that the mere lack of control over the method and means by which a physician renders his services is not alone sufficient to create an independent contractor relationship, but that the other relevant factors must be considered.

-by Barry H. Frank, Esq.

Mr. Frank is an attorney in Philadelphia, Pennsylvania.

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