Special report on taxation. Court of Appeals denies tax exemption based on "substantial commercial purpose"

When viewed against the background of continuing state and federal legislative efforts to limit the availability of tax-exempt status, the Living Faith case could be seen as yet another indication of difficult times ahead for nonprofit providers. Although it is too early to tell whether this will in fact be the case, tax-exempt providers should be aware of the Living Faith case as perhaps the clearest statement from a federal appeals court in recent years that the operation of an enterprise in too businesslike a manner may make it a taxable activity. Tax-exempt providers that now operate or plan to operate ancillary businesses, whether through joint ventures, wholly-owned subsidiaries, or otherwise, should carefully evaluate such activities against the criteria articulated in Living Faith. This analysis is important not only for purposes of determining whether such activities can qualify for tax-exempt status in and of themselves, but also as an indicator of how such activities might affect the tax-exempt status of the provider.     

Ownership conversions in health care organizations: who should benefit?

Because equity capital is becoming an important financing source for health care organizations, the conversion of many such organizations from nonprofit to for-profit status is a significant public policy issue. Since many states require converting nonprofits to repay the "community" for its investment during the nonprofit status period, three questions arise: (1) How much is the entity worth? (2) How much of that worth should be returned to the community? (3) In what form should it be returned? The paper addresses these questions, and demonstrates why responsible public policy calls for them to be carefully considered if community interests are to be preserved.     

The role of tax exemption in a competitive health care market

The Federal Trade Commission and Department of Justice 2004 report on competition in health care raises the issue of nonprofit versus for-profit form in several contexts, including their relative financial performance, pricing behavior, and role in caring for the uninsured poor. The report, however, does not discuss in detail the connection between tax exemption and the nonprofit/for-profit debate. Is tax exemption, for example, "buying" charity care for the poor, and would withdrawal of exemption negatively impact health care for the uninsured poor? Or is tax exemption justified on the grounds of other nonprofit behavior outside the financial realm and thus not considered by the report? If nonprofit status does not result in differential financial behavior (as the report concludes) and if competition will end the ability of hospitals to cross subsidize free care for the poor (as the report speculates), is there any reason to retain tax exemption for nonprofit hospitals? This article summarizes the debate on these issues and offers some alternatives to the current structure of tax exemption for nonprofit health care providers.     

Healthcare organizations and the Internet: impact on federal tax exemption

Tax-exempt healthcare organizations have turned to the Internet as a powerful tool in communicating with the public, medical staff, and patients. Activities as diverse as providing links to the Web sites of other organizations, selling goods and services, soliciting contributions, and hosting forums on the Internet raise unresolved questions concerning the impact of Internet use on such organizations' tax-exempt status. The Internal Revenue Service has provided no guidance to date regarding the manner in which a nonprofit organizations' use of the Internet may affect its tax-exempt status or subject it to federal income tax on some sources of funds. This article suggests analytical approaches for applying existing law in the Internet context and identifies areas that are ripe for additional guidance.     

Special report on reimbursement. The safe harbor for small investment interests: where do joint ventures go from here?

There is no specific federal self-referral legislation presently proposed or in effect that statutorily prohibits providers from referring Medicare or other patients to entities in which the referrers have an investment interest, except for existing "Stark" legislation, which applies only to clinical laboratory services, effective January 1, 1992. (See Newsletter, Vol. 6, No. 1, January 1991, at 3.) Thus, health care joint ventures are not per se illegal. The publication of the Safe Harbor Regulations does nothing to change this fundamental fact, and it should not cause providers to abandon existing joint ventures, or planned ones, in a "knee-jerk" fashion, without careful analysis. Of course, there is no guarantee that expanded "Stark" legislation, or some other new self-referral legislation, will not be enacted in the future to prohibit providers from referring patients to entities in which they have an investment interest. Because of this uncertainty, all health care joint ventures should contain "unwinding" provisions to govern the rights and obligations of investors in the event that the venture is required to, or the participants voluntarily elect to, dissolve. Any new venture being contemplated should plan for dissolution, and existing ventures should undertake an internal review of their charter documents to assess whether the rights and duties of all participants upon dissolution are properly spelled out. If not, amendments should be made now, while all participants are on good terms. A failure to agree in advance upon such important issues is an invitation to discord, and possibly even litigation.     

Does the nonprofit form fit the hospital industry?

Nonprofit hospitals currently enjoy favored legal status. In this Article, Professor Clark critically examines the basis for such preferential treatment. He begins by identifying endemic problems in the health care industry and then explores the relationship between nonprofit hospitals and these problems. He finds that the evidence does not persuasively establish that nonprofit hospitals serve as fiduciaries rather than exploiters, and that nonprofits engage in much involuntary cross-subsidization of medical services. He concludes that the legal favoritism for the nonprofit form is based not on sound reasoning and hard data but on intuition. Professor Clari proposes that the legal rules affecting nonprofit hospitals reflect this reality by treating both nonprofits and for-profits neutrally, by controlling cross-subsidization, and by strengthening consumers' information about and control over health care decisionmaking.     

Special report on taxation. IRS issues stricter guidelines for audits of tax-exempt hospitals

The new audit guidelines serve as yet another reminder to tax-exempt hospitals that great care must be taken in structuring and documenting business arrangements with physicians and executives so as to withstand scrutiny by the IRS with regard to exempt status. Since increased census and utilization, and enhancement of the hospital's financial position, are no longer acceptable justifications for such activities as physician recruitment incentives (being suggestive of payment for referrals), it is important that hospitals make an effort to ensure that board minutes, recruitment policies, internal memoranda, and other documentation set forth the reasons--other than the benefits to the institution's bottom line--for having entered into such transactions. Hospitals must establish and document a community need for each physician recruited. Hospitals that actively recruit should be armed with studies evaluating recruiting needs in each clinical area, based on objective criteria, taking into consideration managed care contracting needs and the provision of services to the poor and needy. Finally, hospitals should re-examine all joint ventures and other business relationships with physicians to determine whether such arrangements resulted from arm's length negotiation, involve fair market value for goods and services, and conform, insofar as possible, with the Medicare fraud and abuse safe harbor regulations. Under GCM 39862 and the new guidelines, "aggressive" arrangements may not only create exposure under fraud and abuse laws, but could jeopardize the provider's tax-exempt status as well.     

Corporate reorganization: the last gasp or last clear chance for the tax-exempt, nonprofit hospital?

The current revolution in health care organization and financing, increased competition, and a retrenching of industry from its commitments to expansion of health care benefits challenge the nonprofit hospital's existence as a viable entity. Hospital governing boards and administrators have turned to corporate reorganization in order to maintain their financial position and to continue to serve their communities. This Article examines the not-for-profit concept and the problems facing nonprofit hospitals. It reviews the pros and cons of reorganization and the for-profit/nonprofit controversy. It questions whether the hybridization of the hospital results in a stronger or weaker species and discusses the possible effects of the newly structured entity on the quality and delivery of health care. Finally, the Article suggests that the nonprofit hospital may survive only by a continued commitment to societal and communal values, to service rather than to profit; that this commitment is adequate justificaton for the preservation of the nonprofit system, and its preservation will reinforce and strengthen the concept.     

Tax administration as health policy: hospitals, the Internal Revenue Service, and the courts

Since 1969 federal tax policy has permitted nonprofit hospitals to turn away indigent patients or to transfer them to public hospitals. The Internal Revenue Service made health policy, but its officials remain convinced that they were not making policy at all. Convinced that it was reasoning from legal principles, the Revenue Service accepted the hospital industry's view of the history and purpose of hospitals. The federal courts further obscured the problem. Moreover, the Revenue Service took no interest in the effects of its ruling on the services provided by tax-exempt hospitals until 1989. We describe these events and seek to explain them by linking the recent history of health policy to the assumptions that govern the making of tax policy. We conclude that the making of health policy by tax officials who are not accountable for it and who believe that they are not making policy at all is not in the public interest.     

Tax-exempt bonds and sponsored research

"Sponsored research," wherein a business corporation or the government pays a portion of the cost of research activities carried out by a university or hospital, is increasingly important both for state institutions and for Section 510(c)(3) organizations. Sponsored research arrangements that are not properly structured can jeopardize the status of tax-exempt bonds issued to finance the facility at which the sponsored research occurs. While these rules have been difficult to apply in practice, properly structured agreements can provide funding for research without undue risk. This Article discusses the multiple pieces of guidance put forth by the Internal Revenue Service to clarify the many issues and tiers of analysis necessary to ensure a properly-structured sponsored research agreement.     

Revocation of tax-exempt status,excise taxes,and other intermediate sanctions issues,plus income taxes: how the rules have changed after Caracci v. Commissioner

This Article discusses Caracci v. Commissioner, in which the Tax Court imposed intermediate sanctions based on its finding that insiders caused three applicable tax-exempt organizations to sell assets to three for-profit entities owned and controlled by those same insiders. It explores the standards enumerated in Caracci, hypothesizes as to the pending appeal, and examines the guidance given by the decision's clarification of the intermediate sanctions provisions of the Internal Revenue Code.     

对合资经营相关法律问题的几点思考

对于“JOINTVENTURE”,应突破仅从企业形态对其认识的藩篱,其实质上是一种直接投资方式,译为合资经营,指两个或更多主体共同致力于一项特定商业事业的结合。国家投资政策与投资法律的要求、外国投资者的天然劣势、分散风险与争取待遇上的优惠等诸多因素促使了合资经营的产生与发展。但我国在利用合资经营这种投资方式时视野较狭窄、立法欠缺统一性且诸多规定与实际不符。建议取消以三资企业法为主体的外资法群,将合资经营直接规定于统一的外资法典的投资形式一章,而合资经营的具体法律形式,则交由相应的国内部门法调整。     

Caracci and the valuation of exempt organizations

In Caracci v. Commissioner, the Internal Revenue Service faced an important test in its application of Excess Benefit Taxes to disqualified persons of a nonprofit corporation that converted to for-profit status. This Article, written by the taxpayers' valuation expert, details the difficulties in the IRS case and demonstrates the reasons for the Fifth Circuit's reversal of the Tax Court's judgment in favor of the IRS. The author concludes with a number of lessons that taxpayers can take from Caracci.     

Proposed regulations to govern private business use of tax-exempt bond financed facilities

For the most part, owners of tax-exempt hospitals and other health care facilities should welcome the issuance of the proposed regulations because they generally clarify and liberalize former law. As pointed out, however, in certain instances the proposed regulations do impose additional requirements not found in current law. Accordingly, in those instances in which exempt facility owners may elect to apply the proposed regulations prior to their finalization, a careful analysis needs to be made of whether the old or new regime would be most beneficial.     

IRS General Counsel Memorandum threatens some hospital-physician joint ventures

To defend against the heightened scrutiny of hospital-physician relations expected from the IRS, hospital management should closely examine any activities now conducted with physicians to determine whether each activity, as organized and operated, furthers the hospital's charitable mission of promoting the health of its community, rather than merely enhancing the financial health of the institution itself. Any arrangements that do not appear to satisfy the principles enunciated in GCM 39862 should be examined to see if they should be restructured or dissolved. In structuring new transactions and examining existing arrangements, the following principles should be kept in mind: 1. Transactions should not be premised upon increased utilization or physician referrals. Enhancing or protecting market share, even for the purpose of preserving an institution's presence in the community, will likely no longer be accepted as a justification for pursuing joint venture arrangements. In justifying such ventures, management must distinguish between benefit to the community and benefit to the institution. 2. Transactions whereby existing services or equipment are "spun off" to a hospital-physician joint venture run a serious risk of enhanced IRS scrutiny. 3. Transactions creating or providing new facilities or services should be more favorably perceived, particularly where participants other than the hospital take an active role in managing the venture. Where the hospital is the sole general partner and merely manages what it would have managed had there been no physician investors, the question of why physicians are involved will likely be of greater concern than it has been in the past.(ABSTRACT TRUNCATED AT 250 WORDS)     

The Hermann Hospital closing agreement. Is informal guidance better than no guidance at all?

Creating barriers to communications between the IRS and the tax-exempt health care community is particularly troubling in this time of fundamental change. As exempt hospitals around the country gear up to provide service in a managed care environment, they are becoming involved in new forms of integrated delivery systems for which there is an utter lack of guidance. If the IRS is to formulate effective policy on questions involving the creation of these new health care entities, it needs to be aware of the dynamics and economic incentives at work in a managed care environment and how these incentives and dynamics differ from those in a fee-for-service context. The Hermann Hospital experience seems altogether contrary to these objectives.     

The Welfare Effects of Research and Production Joint Ventures

This paper develops a model to analyze behavior and welfare effects of a research and production joint venture (JV). In the model, a research dollar is more productive if spent in the joint venture because it increases the achievable probability of new product introduction. This efficiency of research and production joint ventures offsets, to some degree, the loss due to higher consumer prices. For some parameter configurations and joint venture membership rules, research and production joint ventures yield higher social welfare than research-only joint ventures (RJVs). This contrasts with some of the industrial organization literature on research collaboration and with traditional antitrust views.     

A cure for the Blues: resolving nonprofit Blue Cross conversions

This Article analyzes the issues involved in converting nonprofit Blue Cross organizations to for-profit status. These issues have arisen in the context of litigation regarding the "reorganization" of Blue Cross and Blue Shield of Missouri ("BCBSMo"). BCBSMo had reorganized by creating and transferring a majority of its business to a new for-profit subsidiary. Missouri consumer groups and state regulators characterized the "reorganization" as a conversion requiring BCBSMo to transfer its assets to a foundation dedicated to charitable health purposes. BCBSMo, however, denied that it had any obligation to leave behind its assets in the nonprofit sector. The BCBSMo litigation raises issues common to most conversions of nonprofit healthcare organizations, particularly conversions of nonprofit Blue Cross plans. This Article provides a road map for state regulators and the public to follow in ensuring that the public interest is fully protected in such conversions.