HHS Releases Proposed Rule That Could Significantly Impact Drug Manufacturers, PBMs, and Other Stakeholders

March 12, 2019


The pharmaceutical industry invests billions in research and development. And as a result, the pharmaceutical industry has brought—and continues to bring—beneficial, life-saving, life-prolonging, life-enhancing, and cutting-edge drugs to market. The problem, for some, is not the acknowledged benefit of these drugs, but rather the ability to pay for them. U.S. drug pricing is not transparent. And some of this lack of transparency is caused by pharmacy benefit managers, or PBMs.

PBMs and Their Role in Setting (and Inflating) Drug Prices

PBMs are key players in determining what patients pay for their medications. Examples of well-known PBMs include Express Scripts, PharmaCare, and OptumRx.1 While a complete description of PBM activities is beyond the scope of this alert, PBMs generally administer prescription drug benefits through contracts—with and for—private insurers, self-insured companies, Medicare Part D plans, the Federal Employees Health Benefits Program, and state government employee plans. It can be helpful to think of PBMs as middlemen between other key players in the drug distribution and reimbursement networks.

PBMs administer prescription drug benefits, for instance, by: 1) establishing pharmacy networks that patients use to fill prescriptions—this includes negotiating patient drug prices with the pharmacies in the network; 2) implementing cost-containment measures such as prior authorizations, step therapy plans, and managed drug dispensing limits; 3) advising employers and others on the structure, benefits, and drawbacks of different drug plans; and 4) negotiating rebates on drug prices with pharmaceutical companies. It is point 4) that some pharmaceutical companies, and the U.S. government,2 have asserted is a significant component of rising drug prices and a target for future legislation.

In essence, some pharmaceutical companies and the U.S. government have asserted that PBMs can significantly increase prices that patients pay for drugs by not passing along all—or a significant portion of—drug rebates3 (negotiated with drug companies) to patients or their insurers. Patient copays can be based on a drug's list price (not the list price minus the rebate)—such that by failing to pass along rebates, PBMs can significantly contribute to increases in drug pricing and co-pays for those with insurance. The system lacks transparency. Indeed, the rebate details are considered trade secrets by PBMs, and in aggregate can add up to billions of dollars.4

Additionally, PBMs can negotiate provisions in their contracts with pharmaceutical manufacturers (e.g., price protection payments) such that when a drug company increases the list price of its drug, the PBM receives price protection payments, which cause the patient's out-of-pocket costs (based on the drug's list price) to increase while the PBM's costs do not. Thus, PBMs can be incentivized to prioritize higher cost drugs in their managed drug formularies to maximize the rebates and price protection payments PBMs retain for themselves. Finally, PBMs can increase prices by engaging in a process called spread pricing, that is—charging insurers more than they reimburse pharmacies—and pocketing the difference.

At a recent Senate Finance Committee Hearing, some Big Pharm CEOs also testified that PBMs played a significant role in setting the drug prices that U.S. consumers pay.5,6 Against this backdrop, the Department of Health and Human Services, or HHS, recently published a proposed rule that, if made final, would impact the role of PBMs in setting consumer drug prices.

The AKS and the Department of Health and Human Services (HHSs) Proposed Rule

The federal Anti-Kickback Statute (AKS)7 prohibits the exchange of remuneration—which the statute defines broadly as anything of value and explicitly includes rebates—for purchasing or ordering any good or service for which payment may be made in whole or in part under a federal health care program (e.g., Medicare). The AKS is a criminal statute, and AKS violations are felonies which can result in fines of up to $100,000 and imprisonment for up to 10 years.8

Within the AKS framework, however, a discount safe harbor9 protects certain discounts or other price reduction, including rebates, from prosecution and government enforcement action. The proposed rule intends to revise the discount safe harbor to explicitly exclude rebates paid by pharmaceutical manufacturers to PBMs, Medicare Part D plans, and Medicaid managed care organizations; and creates two new safe harbors, with the goal of lowering patient out-of-pocket costs for prescription drugs. This proposed rule has been endorsed by pharmaceutical manufacturers.10

The proposed rule, for example:

Revises the discount safe harbor such that "it would no longer protect price reductions from manufacturers to plan sponsors under Medicare Part D or Medicaid MCOs, either directly or through PBMs acting under contract with plan sponsors … in connection with the sale or purchase of prescription pharmaceutical products, unless the reduction in price is required by law."11 The HHS also proposes defining a PBM as "any entity that provides pharmacy benefits management on behalf of a health benefits plan that manages prescription drug coverage."12

One of the proposed rule's key potential effects is: rebate arrangements that allow PBMs to pocket rebates—instead of passing those rebates to purchasers—will no longer be protected under the proposed narrowed discount safe harbor unless such arrangements comply with another safe harbor. The HHS also expressly noted that conditioning rebates offered by manufacturers on one product for a commercial plan upon the product's favorable formulary placement across all plans, including Part D, would implicate the AKS, and is not protected under the current discount safe harbor or the provisions of the proposed rule.13

The proposed rule, in addition to amending the discount safe harbor as described above, also adds a new safe harbor for point-of-sale price reductions.14 This theoretically could benefit patients, for example, by lowering patient out-of-pocket costs at the pharmacy. The new safe harbor, to be effective, requires that the following criteria be met:15

The reduced price must be set in advance with a plan sponsor under Medicare Part D, a Medicaid MCO, or the PBM acting under contract with either; the sale does not involve a rebate unless the full value of the reduction in price is provided to the dispensing pharmacy through a chargeback or series of chargebacks, or is required by law; and the reduction in price must be completely applied to the price of the prescription drug charged to the beneficiary at the point of sale.16

The HHS notes that the "proposed safe harbor's requirements are intended to exclude from its protection conduct that mimics rebates but are referenced in other ways in the contracts between a manufacturer and a PBM, a plan sponsor under Medicare Part D, or a Medicaid MCO."17 For example, "fees that are based on a percentage of a prescription pharmaceutical product's list price could be a disguised kickback and would not be protected by this proposed safe harbor unless the requirements created by this rule are met."18

Finally, the HHS proposed adding a new safe harbor for fixed fees that "manufacturers make to PBMs for services the PBMs provide to the pharmaceutical manufacturers, for the manufacturers' benefit, when those services relate in some way to the PBMs' arrangements to provide pharmacy benefit management services to health plans"19 if the following criteria are met:

The PBM must have a written agreement with the pharmaceutical manufacturer that covers all of the services the PBM provides to the manufacturer in connection with the PBM's arrangements with health plans for the term of the agreement and specifies each of the services to be provided by the PBM and the compensation associated with such services. Next, the compensation paid to the PBM must be consistent with fair market value in an arm's-length transaction; be a fixed payment, not based on a percentage of sales, and not be determined in a manner that takes into account the volume or value of any referrals or business otherwise generated between the parties, or between the manufacturer and the PBM's health plans, for which payment may be made in whole or in part under Medicare, Medicaid, or other Federal health care programs. Finally, the PBM must disclose in writing to each health plan with which it contracts at least annually, and to the Secretary upon request, the services rendered to each pharmaceutical manufacturer related to the PBM's arrangements to furnish pharmacy benefit management services to the health plan.20

The broad proposed definition of a PBM and application of the proposed new safe harbor to "services [that] relate in some way to the PBMs' arrangements" can result in uncertainty in the industry. While the proposed rule should promote greater transparency of certain arrangements between PBMs and drug manufacturers and limit the legal protection of some types of manufacturer payments to PBMs, especially arrangements that are intended to manipulate formulary placement of drugs and/or restrict competition from other drug manufacturers, e.g., generics, the HHS also recognizes the possibility that some types of manufacturer remuneration to PBMs may continue to be protected under other existing safe harbors.

PhRMA's Reaction to the Proposed Rule

The Pharmaceutical Research and Manufacturers of America (PhRMA), which represents many innovative biopharmaceutical companies, "applaud[ed] the Administration for taking steps to reform the rebate system to lower patients' out-of-pocket costs," further stating that "[t]his proposal would also help to fix the misaligned incentives in the system that currently result in insurers and pharmacy benefit managers (PBMs) favoring medicines with high list prices."21


Interested parties should note that the comment period for the proposed rule closes on April 8, 2019. If finalized, the HHS proposes an effective date of January 1, 2020, for the proposed revisions to the discount safe harbor. Drug manufacturers, PBMs, and other stakeholders in the drug supply chain should begin planning now to ensure compliance if the proposed rule becomes final, which appears likely. If finalized, PBMs and drug companies should also recognize that they may become more vulnerable to AKS enforcement actions for certain manufacturer arrangements. For questions about HHSs proposed rule, or any FDA related matter, please contact David Hoffmeister, Vern Norviel, or any member of WSGR's FDA/life sciences practice.

Charles Andres and Eva Yin contributed to the preparation of this WSGR alert.

1 By some estimates, Express Scripts, PharmaCare, and OptumRx account for more than 70 percent of prescription drug benefits that are delivered through these PBM managed networks.
2 See, e.g., 84 Fed. Reg. 2340 (Feb. 8, 2019).
3 PBMs make money, in part, by retaining some or all of the rebates they negotiate.
4 See, e.g., John Arnold, "Are pharmacy benefit managers the good guys or bad guys of drug pricing?" STAT, (Aug. 2018), available at:
5 Id.
7 See 42 U.S.C. § 1320a-7b(b) (or Section 1128B(b) of the Social Security Act).
8 Id.
9 See 42 C.F.R. § 1001.952(h).
11 84 Fed. Reg. 2340, 2347 (Feb. 8, 2019) (emphasis added).
12 84 Fed. Reg. at 2363.
13 Id.
14 Id. at 2344.
15 Id. at 2349.
16 Id.
17 Id.
18 Id.
19 Id. (emphasis added).
20 Id. at 2349-2350, 2363.