In a recent enforcement action [https://www.justice.gov/usao-nj/pr/morris-county-sonography-company-enters-deferred-prosecution-agreement-agrees-pay-95000], a diagnostic testing company allegedly rented office space from a referring physician for an amount above FMV and was commercially unreasonable. The diagnostic testing business was purportedly occupying some office space in the physicians’ offices for a set number of weekly hours to perform diagnostic tests. The problem was that the diagnostic testing business agreed to pay for many more hours of use than they needed.
HVG has performed many FMV assessments on the sublease of office space, and there are a few critical elements to remember. It’s fair and reasonable to capture all of the office and business resources a provider is using/consuming during the sub-let period. For example, in many cases, a provider will need an exam room, furniture and equipment in the exam room, use of the waiting room, and the use of administrative staff and supplies. These are all fair, reasonable, and necessary elements of value to capture in a space (equipment and staff) sub-lease agreement. The valuation approach in this type of analysis is a cost-plus approach. The sub-leasing provider should pay a higher rental rate per square foot than the referring physician because they are typically not locked into a long-term lease contract. This type of lease arrangement is similar to executive suites or shared workspaces (like WeWork). I think it’s cleaner and much easier to structure the sub-lease agreement as an FMV fee for a set number of days per month. This is similar to a traditional office lease, where the tenant pays whether they use it or not. Obviously, the appearance of a kickback becomes visible when the sub-leasing provider doesn’t actually use the space the whole time, which also calls into question commercial reasonableness.