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Closing the Gaps and Loopholes: Analyzing Tax Exemption of Non-Profit Hospital Joint Ventures After the Affordable Care Act
Published online by Cambridge University Press: 27 January 2021
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A bustling, non-profit hospital bills an elderly patient more than $2,000 for a magnetic resonance imaging (MRI) scan ordered by his physician. Despite the enormous profits the hospital will accrue during the year, its total revenue stream will be tax-exempt because it qualifies as a § 501(c)(3) organization under the Internal Revenue Code (IRC). A hospital’s ability to navigate the tax system without serious ramifications presents potential issues, particularly as the healthcare market is undergoing gradual changes in the wake of the Affordable Care Act (ACA). An organization’s ability to obtain preferential § 501(c)(3) tax status by showing that it is “organized and operated exclusively” for one of the exempt purposes under the statute is a root cause of many problems. This involves fulfilling a two-prong test under IRC § 501(c)(3), which includes both an organizational and an operational component. Both tests have to be satisfied or the organization in question loses its tax-exempt status under § 501(c)(3).
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References
1 26 U.S.C. 501(c)(3) (2006).
2 26 C.F.R. 1.501(c)(3)-1(a) (2013).
3 Id.
4 Geisinger Health Plan v. Commr, 985 F.2d 1210, 1214 (3d Cir. 1993).
5 Roger P. Meyers, Risky Ventures: The Impact of IRS Health Care Joint Venture Policy, 42 U. MICH. J.L. REFORM 481, 491 (2009).
6 Id. at 481. This is assuming that the organization and operation of activities are geared towards such a charitable purpose.
7 Rev. Rul. 69-545, 1969-2 C.B. 117.
8 IRS Exempt Organizations (TE/GE), Hospital Compliance Project Final Report, IRS (Feb. 22, 2009), available at http://www.irs.gov/pub/irs-tege/frepthospproj.pdf.
9 Id.
10 26 U.S.C. 501(r) (2006 & Supp. IV 2010).
11 Id.
12 See generally St. David's Health Care Sys. v. United States, 349 F.3d 232 (5th Cir. 2003).
13 Gail Rebecca Floyd, Nonprofit Joint Ventures and Community Benefit: A New Approach, 58 FED. LAW. June 2011, at 23. Gail Floyd's article won the first place prize of the Donald C. Alexander Tax law Writing Competition in 2011, sponsored by the Federal Bar Association Section on Taxation.
14 26 U.S.C. 501(c)(3).
15 Id.
16 Edwin H. Beus, Tax Exempt Organizations Law Barometer of Public Policy, 10 UTAH B.J. 19, 19 (1997).
17 Geisinger Health Plan v. Commr, 985 F.2d 1210, 1214 (3d Cir. 1993); see also Sound Health Assn v. Commr, 71 T.C. 158, 178 (1978).
18 Geisinger Health Plan, 985 F.2d at 1214.
19 26 C.F.R. 1.501(c)(3)-1(a) (2013).
20 Id.
21 Nationalist Movement v. Commr, 37 F.3d 216, 219 (5th Cir. 1994).
22 Id.
23 Id. at 219-220.
24 B.S.W. Group, Inc. v. Commr, 70 T.C. 352, 357 (1978).
25 Id. at 359.
26 26 U.S.C. 511 (2006).
27 Id.
28 Id. 512.
29 Id. 513.
30 B.S.W. Group, Inc. v. Commr, 70 T.C. 352, 357 (1978).
31 Rev. Rul. 56-185, 1956-1 C.B. 202.
32 Rev. Rul. 69-545, 1969-2 C.B. 117.
33 Id. The IRS utilized relevant facts and circumstances to conduct this review.
34 Id.
35 Id.
36 Id.
37 Id.
38 Id.
39 Id.
40 Id.
41 Id.
42 Id.
43 Sound Health Assn v. Commr, 71 T.C. 158, 191 (1978).
44 There are two types of hospital joint ventures: whole hospital and ancillary hospital. In a whole hospital joint venture, the nonprofit hospital contributes its entire hospital facility to the resulting joint venture, whereas in an ancillary joint venture, the nonprofit hospital contributes only a portion of its hospital facility or services (such as ambulatory surgery centers, MRI centers, or home healthcare centers) to the joint venture. For the purposes of this Note, the discussion on tax exemption analysis will not focus on the difference between the two types of joint ventures.
45 Rev. Rul. 98-15, 1998-12 I.R.B. 718.
46 Id.
47 Id.
48 Id.
49 Redlands Surgical Services v. Commr, 113 T.C. 47, 97 (1999).
50 Id. at 48.
51 Id.
52 Id.
53 Id. An example of market benefit was the elimination of sources of potential competition for patients. Another benefit came in the form of reduced pressure to compete for spending in expensive equipment as a result of the joint venture partnership.
54 Id. at 47.
55 St. David's Health Care Sys. v. United States, 349 F.3d 232, 232 (5th Cir. 2003).
56 See generally Gary J. Young, Federal Tax-Exemption Requirements for Joint Ventures Between Non-Profit Hospital Providers and For-Profit Entites: Form Over Substance?, 13 ANNALS HEALTH L. 327 (2004).
57 See generally id.
58 Id. at 234.
59 Id. at 233.
60 Id. at 234.
61 Id.
62 Id.
63 Id. at 237.
64 Id. at 243. Factors concerning the level of control by the non-profit entity are related to management of day-to-day operations, which in the St. David's case was the job given to Galen.
65 Id. at 233.
66 Id. at 242.
67 Id.
68 Id.
69 Id. at 244.
70 In the wake of St. Davids, the IRS has issued a number of Private Letter Rulings for those organizations requesting more information on their tax-exempt statuses. In addition, the topic of control and community benefits in hospital joint ventures has been heavily discussed in journals since the decision. See generally I.R.S. Priv. Ltr. Rul. 200304041 (Jan. 24, 2003); I.R.S. Priv. Ltr. Rul. 200304042 (Jan. 24, 2003).
71 St. Davids, 349 F.3d at 243.
72 See generally Gary J. Young, Federal Tax-Exemption Requirements for Joint Ventures Between Nonprofit Hospital Providers and For-Profit Entities: Form Over Substance?, 13 ANNALS HEALTH L. 327 (2004).
73 Press Release, U.S. Sen. Charles Grassley, Chairman, S. Comm. on Fin., Grassley Asks Non-profit Hospitals to Account for Activities Related to Their Tax-Exempt Status (May 27, 2005), available at http://www.grassley.senate.gov/news/Article.cfm?customel_dataPageID_1502=12892.
74 See generally Hospital Compliance Project Final Report, supra note 8, at 2.
75 Id. at 1.
76 Id. at 3-4.
77 Richard T. Frazier, What Keeps You up at Night?, SAUL EWING HEALTH L. PRAC. GROUP CLIENT ALERT (Saul Ewing LLP, Philadelphia, P.A.), Feb. 2009, at 2, available at http://www.saul.com/media/site_files/2116_pdf_1870.pdf.
78 See Hospital Compliance Project Final Report, supra note 8, at 170.
79 Alex Grashkina-Hristov, Looking at Hospitals Through the Internal Revenue Service's Magnifying Glass: New Section 501(r) Requirements Affect Tax Return Requirements for Exempt Hospitals, 7 A.B.A. HEALTH eSOURCE 6, 6 (2011).
80 See Hospital Compliance Project Final Report, supra note 8, at 2.
81 See id. at 149.
82 See generally id.
83 26 U.S.C. 501(r) (2006).
84 Id.
85 HURON HEALTHCARE, INTERNAL REVENUE CODE SECTION 501(R) OVERVIEW AND COMPLIANCE STRATEGIES FOR TAX-EXEMPT HOSPITALS 18 (Mar. 2, 2011), available at http://www.huronconsultinggroup.com/library/501r-requirements.pdf.
86 Id. (citing STAFF OF JOINT COMM. ON TAXATION, 111TH CONG., TECHNICAL EXPLANATION OF THE REVENUE PROVISIONS OF THE RECONCILIATION ACT OF 2010, AS AMENDED, IN COMBINATION WITH THE PATIENT PROTECTION AND AFFORDABLE CARE ACT 81 (JCX-18-10 2010)).
87 IRS Requirements for a Community Health Needs Assessment for Tax Exempt Hospitals, CLIENT ALERTS, (Breazeale, Sachse & Wilson, LLP, Baton Rouge, LA), Aug. 2011, available at http://www.bswllp.com/?t=40&an=11301&format=xml&p=4860.
88 See supra notes 74-81.
89 HURON HEALTHCARE, supra note 85, at 5.
90 See D. Greg Goller & Scott M. Sherman, Thoughts and Comments on New Section 501(r), 22 TAXN EXEMPTS 13 (2010). See generally Katie Stewart & Darren Azman, Section 501(r) and Nonprofit Hospital Joint Ventures, 22 TAXN EXEMPTS 9 (2010).
91 See Goller, supra note 90, at 14.
92 See Stewart, supra note 90, at 10.
93 See Beus, supra note 16, at 19.
94 See id.
95 See Floyd, supra note 13, at 23.
96 See id.
97 Id. at 24-25.
98 Id. at 27-28.
99 Id.
100 See generally id. (asserting, for example, that complying hospitals will adopt policies to provide care for patients regardless of their ability to pay).
101 Id. at 28.
102 See id.
103 26 U.S.C. 501(r)(3)(A) (2006 & Supp. IV 2010).
104 Id. The assumption is that the community benefits provided by the nonprofit hospital will not substantially change every year, but there is no evidence that this is true.
105 Id. 6033(a).
106 Floyd, supra note 13, at 25.
107 See Hospital Compliance Project Final Report , supra note 8, at 2.
108 Floyd, supra note 13, at 23.
109 Id.
110 Id.
111 See St. David's Health Care Sys. v. United States, 349 F.3d 232, 237 (5th Cir. 2003).
112 Floyd, supra note 13, at 26.
113 Id.
114 See St. Davids, 349 F.3d at 242-43.
115 Id.
116 See Nationalist Movement v. Commr, 37 F.3d 216, 219 (5th Cir. 1994).
117 Floyd, supra note 13, at 27.
118 Id.
119 Id.
120 Given the novelty of 501(r), the exact number of non-profit hospital joint venture formations is unavailable.
121 Floyd, supra note 13, at 25.
122 See supra notes 25-27 and accompanying text.
123 See generally 26 U.S.C. 170 (2006).
124 See, e.g., Geisinger Health Plan v. Commr, 985 F.2d 1210, 1214 (3d Cir. 1993); Meyers, supra note 5, at 491.
125 Id.
126 See supra notes 63-65 and accompanying text.