Tax Policy Seminar

Note

January, 2013

On the Verge of Extinction: Non Profit Hospitals’ Charity

Juliana Sleeper

Table of Contents

I. Introduction....................................................................................................................................... 2

II. Non-Profit Hospital History and Origin of Tax exemption................................................2

III. 501(c) Requirements and Health Care Organizations.....................................................4A. In General...................................................................................................................................................... 4B. Operational Exclusivity Requirement................................................................................................. 4

1) Revenue Rulings and evolving the meaning of “charitable”....................................................................52) Non Exempt Activities and Commerciality Doctrine..................................................................................6

C. Prohibition Against Private Inurement...............................................................................................7D. Prohibition Against Excessive Private Benefit.................................................................................7E. Public Policy Test........................................................................................................................................ 8

IV. 501(c) Criticism.............................................................................................................................. 8A. Charging the Poor Far More.................................................................................................................... 9B. Debt Collection and Bad Debt...............................................................................................................10C. Excessive Insider Benefit....................................................................................................................... 10

V. 501 (r) and Its Shortfall.............................................................................................................. 11A. Community Health Needs Assessment..............................................................................................11

1) Define Community...................................................................................................................................................122) Gather Data.................................................................................................................................................................123) Refine Data and Find Strategy............................................................................................................................124) Distribute Report to the Public..........................................................................................................................13

B. Financial Assistance Policy................................................................................................................... 13C. Limitation on Charges............................................................................................................................. 13D. Billing and Collection Requirements.................................................................................................14E. Shortfall....................................................................................................................................................... 15

VI. Proposal.......................................................................................................................................... 16A. Quantitative Standard for FAP.............................................................................................................16B. Sanction....................................................................................................................................................... 16C. Board of Directors.................................................................................................................................... 16D. Redefine “Community Benefit”............................................................................................................17E. Insider Benefit........................................................................................................................................... 17

VII. Conclusion.................................................................................................................................... 18

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I. Introduction

United States hospitals emerged from a great tradition of charity. People established hospitals to shelter and care for the sick, the poor, the diseased and the mentally ill.1 In 1736, New York City’s almshouse instituted the first program that was similar to a hospital when it created a six bedroom ward to care for the disabled and chronically ill.2 A few years later in 1751, Doctor Thomas Bond and Benjamin Franklin created the nation’s first hospital in Pennsylvania "to care for the sick-poor and insane who were wandering the streets of Philadelphia."3 To manifest the purpose of charity, the Pennsylvania hospital created a seal with the image of the Good Samaritan and the inscription “Take care of him and I will repay thee”. 4

The hospitals’ role of the Good Samaritan portrayed by this hospital and the many that followed has led the US government to give income, property, and other tax exemptions to non-profit hospitals. In 2002 alone, tax-exempt hospitals received a total of $12.6 billion in government tax exemptions.5 Although tax exemption for a hospital’s charity work continues, modern hospitals (those dating from the late 20th century) have lost their tradition of charity.6 Hospitals still charter with the purpose of charity, yet provide little actual charity.7 In fact, until recently modern hospitals charged poor patients triple or quadruple what they charged wealthier patients with insurance.8 Inability to pay medical bills became the leading cause of bankruptcy in the United States.9

This note will discuss the charity tax exemption for non-profit hospitals and the lack of proper legislation pertaining to their practices. Part II of this

1 History of Public Hospitals in United States, National Association of Public Hospitals and Health Systems, http://www.naph.org/Homepage-Sections/Explore/History.aspx (last visited Jan. 9, 2012).2 Id. 3 Pennsylvania Hospital History: Stories – Nation’s First Hospital, PennMedicine, http://www.uphs.upenn.edu/paharc/features/creation.html (last visited Jan. 9, 2012).4 Id. 5 Terri L. Brooks, Billions Saved in Taxes While Millions Underserved-What Has Happened to Charitable Hospitals?, 8 Hous. Bus. & Tax L. J. 391, 395 (2008).6 Id.7 Id. 8 See footnote 51: 8 Ind. Health L. Rev. 3659 Laura L. Faulkerts, Note, Do Nonprofit Hospitals Provide Community Benefit? A Critique of the Standard for Proving Deservedness of Federal Tax Exemptions, 96 Iowa L. Rev. 761, 763 (2009).

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note offers a brief overview of US hospital history and the origin of tax exemption for non-profits. Part III reviews each 501(c) requirement. Part IV analyzes 501(c)’s problems. Part V explores 501(r) and its attempt to fix 501(c) and its shortfall. Finally Part VI advances a tax proposal to improve charity medical care for the medically indigent.

II. Non-Profit Hospital History and Origin of Tax exemptionIn the early days of the United States, “the only source of medical

assistance available to the poor who could not afford private professional medical care” was religiously established non-profit hospitals.10 The wealthy had private doctors who made house calls when they were sick, but the poor could not afford such services.11 By the end of the 19th century, hospitals served other purposes besides just curing the sick.12 Hospitals provided sanitary areas to quarantine and care for people with infectious maladies and allowed surgery patients easier access to anesthesia.13 People other than the poor wanted and needed the hospitals. 14Because of lingering class division, hospitals were still divided into two separate systems; large voluntary (non-profit) hospitals for the poor supported by philanthropic contributions and small doctor owned hospitals catering to wealthier individuals. 15

Between 1900 and 1930, the trend moved toward fewer proprietary hospitals and fewer private doctors.16 By mid 1940s, voluntary hospitals significantly increased while doctor owned hospitals declined.17 The most influential force behind the growth of voluntary hospitals was Blue Cross Blue Shield Insurance.18 Blue Cross Blue Shield reimbursed voluntary hospitals at a rate much exceeding that paid to proprietary hospitals.19 In 1946 congress enacted the Hill-Burton Act, which intended to subsidize construction of non-profit and public health care facilities, allocating billions of dollars to the construction of health care facilities.20 By the end of the 20th

century, the US health care system greatly depended on hospitals, especially the non-profit hospitals. 21

10 Id. at 766.11 Id.12 Nina J. Crim, Evolutionary Forces: Changes in For-Profit and Not-For-Profit Health Care Delivery Structures; A Regeneration of Tax Exemption Standards, 37 B.C. L. Rev. 1, 10 (December, 1995).13 Id. 14 Id. at 11.15 Id. 16 Id. at 12.17 Id. at 13.18 Id. 19 Id.20 Id. at 14.21 Id. at 26.

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The tax exemptions for non-profit hospitals started early in US history. In early America, the corporation was the accepted legal form of charitable activities; and in 1894, when the US first adopted the federal income tax on corporations, the government exempted from income tax those “corporation, companies, or associations organized solely for charitable, religious…purpose.” Because voluntary hospitals were formed by religious entities with the sole purpose of charity, they were tax-exempt.22 Since then, legislation has evolved to demand more specific requirements to qualify an entity as a “charity organization”.23

The current IRC 501(c)(3) applies to “organizations not organized for profit but operated exclusively for the promotion of welfare…and the net earnings of … exclusively to charitable purposes.”24 Healthcare organizations have to meet IRC 501(c)(3) requirements to be exempt them from federal income tax.25

III. 501(c) Requirements and Health Care OrganizationsA. In General

Under IRC 501(c)(3), a health care organization must satisfy six requirements26: (1) The organizational test – when creating an organizational document, the hospital must state clearly that it organized as a not for profit corporation and its purpose is “charity.”27 Compared to the other five requirements, this is an easier requirement to fulfill, because it requires only on the chartering document. (2) The operational exclusivity test – it must be operated exclusively for the purpose specified in organizational test.28 (3) The private inurement test – an insider may not inure any portion of organization’s net earnings.29 (4) The private benefit test – any private benefit, which is measured qualitatively and quantitatively, must be incidental to the public benefit.30 (5) Political lobbying test – the organization must comply with limits on political lobbying and campaign activities.31 (6) Public policy test.32 Because requirement (1) and (5) are unambiguous and without contention, this note will focus on requirements (2),(3),(4) and (6).

22 Laura L. Folkerts, Note, Do Nonprofit Hospitals Provide Community Benefit? A Critique of the Standard for Proving Deservedness of Federal Tax Exemptions, 34 J. Corp. L. 611, 614 (2009).23 Id. 24 Id. 25 Id. 26 37 B.C. L. Rev. 1, 33.27 Id. at 33.28 Id. at 34.29 Id.30 Id. 31 Id. at 35.32 Id.

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B. Operational Exclusivity RequirementThe Supreme Court decided that “operational exclusivity requirement”

mandated only that an organization must serve “primarily” its tax-exempt purpose and it is permitted to have “incidental” activities unrelated to the exempt purpose.33 Presumably, an organization performing non exempt activities but having significant non-profit operation will still meet this requirement. Thus, under 501(c)(3) a hospital could operate substantially for its charitable purpose and have only incidental non-exempt activities and pass the exclusivity requirement.34

The interpretation of “charitable” purpose and what constitutes “non exempt” activities are ambiguous; the courts and the IRS have struggled to make them clear.35 The IRS issued revenue rulings to guide hospitals in the meaning of “charitable”.36 The courts have adopted the Commerciality doctrine to help define “non exempt activity.”37

1) Revenue Rulings and evolving the meaning of “charitable”The IRS issued three revenue rulings in the attempts to define “charitable.” They went from 1956’s very narrow interpretation of the meaning to 1983’s controversially broad interpretation. Even though the congress and the courts dealt with this controversy, the 1983 ruling still stands after thirty years. Revenue Ruling 56-185

In 1956, the IRS issued a revenue ruling to guide hospitals in defining charitable tax exemption.38 The ruling states the IRS deemed a hospital charitable if it “operated to the extent of its financial ability for those not able to pay for the services rendered and not exclusively for those who are able and expected to pay.”39 The ruling emphasizes that a hospital shall not refuse service to a patient who needs care but is not able to pay. Also the IRS describes charity as charging for services at lower rates or providing service free of charge.40 Hence, the IRS defined narrowly the term “charity”. However the ruling does not impose an obligation of how much charity work needs to be performed.41 Revenue Ruling 69-545

In 1969, the IRS issued another ruling for the hospitals.42 It states that “promotion of health” is, according to the charitable law of trusts, an

33 Id.34 Id. at 36.35 Id.36 Id. at 43.37 Id. at 36.38 Id. at 43.39 Id. at 44.40 Id.41 Id.42 Id. at 45.

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exempt activity in and of itself;43 thus placing the hospitals in the per se exemption category.44 This ruling removed the requirement that a hospital should provide charity care to the extent of its financial ability.45 Instead of the financial ability standard, the IRS introduced the “community benefit standard.”46 Under the community benefit standard, a hospital can pass the charity requirement if it operates for the benefit of the community as a whole.47 – Having an emergency room and offering emergency services to the poor would qualify it.48 No limits are set to how much the hospital could charge the patient who is unable to pay but who did receive emergency service;49 so the hospital has all the rights to charge exorbitantly and deter the poor from seeking service. Moreover besides overcharging for the emergency services, a hospital can limit its service based on the person’s ability to pay, as long as the benefited class of people is not so small that its relief is not of benefit to the community. 50

Contrary to its predecessor, the 1969 revenue ruling construes “charity” very broadly and created per-se exemptions for the hospital. Congress expressly rejected the IRS’ broad approach but did not take any effective action to dismiss the ruling.51 Public attempted to challenge the ruling in court, but most were unsuccessful because of lack of standing.52 When a case came to the Supreme Court, the Court also dealt with and concluded the case similarly to the ruling of the lower courts, not discussing the merits of the ruling but instead holding the case nonjusticiable due to lack of standing.53 Furthermore, the vague community benefit standard resulted in no uniform interpretation.54

Revenue Ruling 83-157In 1983, the IRS published a ruling that repeats and amplifies the

message from the previous ruling. In this ruling the IRS abandons the emergency room requirement.55 As long as other factors indicate that the hospital is operating exclusively for the benefit of the community, an

43 Id.44 Id.45 8 Hous. Bus. & Tax L.J. 391, 408.46 Id. 47 Id.48 Id. 49 Id.50 Id. at 409.51 Id. at 410.52 Id. 53 Id. at 411.54 Id. 55 James B. Simpson and Sarah D. Strum, How Good a Samaritan? Federal Income Tax Exemption for Charitable Hospitals Reconsidered, 14 U.Puget Sound L.Rev. 633, 653 (1991).

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emergency room may deny service on the basis of ability to pay.56 The IRS realized that certain specialized hospitals, such as optometric and oncologic, might not need emergency rooms57; instead of making it a requirement, emergency room became one of the factors. The ruling lists other significant factors that will be considered.58 These include “a board of directors drawn from the community, an open medical staff policy, treatment of persons paying their bills with the aid of public programs like Medicare and Medicaid, and application of any surplus to improving facilities, equipment, patient care and medical training, education, and research.”59 With the 1983 ruling, the IRS affirms its broad interpretation of charity and acknowledges that there is no one controlling factor that determine charity operation. 60 2) Non Exempt Activities and Commerciality Doctrine

The IRS views commercial activities as non exempt purposes for 501(c)(3) organizations.61 The courts created the commerciality doctrine to help define IRS’s view of non exempt purposes.62 The commerciality doctrine does not provide specific guidelines but sets forth the general idea of what the IRS views as commercial activity.63 If the activity from the perspective of the consumer cannot be differentiated from for profit counterpart organization, the activity is considered commercial in nature and is a non exempt activity.64 The courts have listed many factors in evaluating and applying the commerciality doctrine.65 However, in practice application of the commerciality doctrine is rarely the reason the IRS denies the exemption of a health care organization.66 C. Prohibition Against Private Inurement

Private inurement happens when the hospital provides an unjust or excessive payment to an insider.67 If violated, the hospital will lose its exempt status. Insiders include not only the directors and officers of the hospital but also the physicians and medical staffs.68 The IRS absolutely prohibits private inurement and does not allow even the de minimus amount.69 However the IRS interprets “unjust or excessive amount” very

56 37 B.C. L. Rev. 1, 48.57 Id.58 Id.59 Id. 60 Id. 61 Id. at 37.62 Id.63 Id.64 Id.65 Id.66 Id.67 Id. at 68.68 Id.69 Id.

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leniently. Physician compensation and incentive arrangements are the most

controversial issues in regards to private inurement.70 Hospitals compete brutally to recruit and retain the best physicians.71 The competition causes US physicians to get paid double and triple what their counter parts in other countries get paid.72 However, physicians’ high salaries do not violate the prohibition against private inurement.73 According to the IRS guidelines a non-profit hospital can retain its tax-exempt status as long as the incentive package or the salary for a physician furthers the hospital's exempt purpose and the community benefits from the hiring of the physician and having the availability of the physician to treat patients outweighs the private benefit to the physician.74

The guidelines also allow physician incentives such as the hospital’s payment of:75 a physician’s private residence mortgage payment, moving expenses, malpractice insurance premiums, and below market price office rentals.76 The IRS’ lenient interpretation of inurement leaves almost nothing for excessive or unjust payment.77 A few situations that IRS defined as unjust payments are:78 (1) “unrestricted” income subsidies, and (2) payment without a set obligations.79 Hospitals could avoid being penalized for unjust payment by: (1) implementing high ceiling income subsidies and (2) specifying an obligation, such as treating certain amount of patients or giving emergency room duty. As interpreted, the private inurement requirement has no teeth, thus it serves no purpose in furthering charity works.D. Prohibition Against Excessive Private Benefit

Prohibition against excessive private benefit is the same concept as private inurement, except it applies to both insiders and outsiders.80 Under this prohibition, a de minimus amount of private benefit is allowed as long as it is incidental to public benefit.81 To be considered as an incidental private benefit, it must pass a two prong test:82 1) The private benefit must be insubstantial compared to the public benefit (quantitative test) and;83 2)

70 Id. at 75.71 Id. 72 Id.73 Id. 74 Id. 75 Id. 76 Id. 77 Id. 78 Id. 79 Id. 80 Id. at 7081 Id. 82 Id. 83 Id.

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the private benefit must be natural and unintentional to the activity that benefits the public (qualitative test).84 If this prohibition is violated, the hospital will lose its exempt status.85

E. Public Policy TestOriginal regulation does not use the phrase “public policy”.86 The

Supreme Court created the public policy test for the 501(c)(3) organizations in the case of Bob Jones University v. United States (“Bob Jones”).87 In Bob Jones, the Supreme Court disallowed religious tax exemption to a religious school that practiced racial discrimination against its students.88 The majority opines that if the entity's purposes and activities go against the fundamental public policy, the entity cannot provide public benefit.89 Since the Bob Jones, the IRS published several private letter rulings applying the public policy tests and following the Bob Jones decision.90 The IRS emphasized compliance with the Medicare/Medicaid anti kick back rules, anti dumping rules for the health organizations to comport with fundamental public policy.91

IV. 501(c) CriticismAlthough non-profit hospitals must meet all six requirements listed in

part III, the requirements do not lead the non-profit hospitals to do more charity work than for profit hospitals.92 No consensus on what constitutes community benefit or how to measure such benefits and no accountability for lack of charity give incentives to the non-profit hospital to be indistinguishable from the for profit hospital.93 It is also entirely possible for the non-profit hospitals to provide less charity care than for profit hospitals and still receive tax exemption.94 According to 2006 Congressional Budget Office Studies, non-profit hospitals provided a mean of 4.7% of operating expenses as uncompensated care while for profit counterparts provided 4.2%.95 Although non-profits receive $12 billion in tax-exemption, the amount of charitable care they provide is not significantly more (0.5%) than charitable care provided by for-profit hospitals.96 The non-profit hospitals justify their lack of charity care by arguing, “push for efficiency”. 97 Also,

84 Id. 85 Id. 86 IRC. 501(c)(3)87 37 B.C. L. Rev. 1, 76.88 Id. at 78.89 Id. at 76.90 Id. at 81.91 Id. 92 34 J. Corp. L. 611, 617.93 Id.94 Id. 95 Id. at 619.96 Id. 97 Id.

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Senator Grassley’s research showed that some non-profit hospitals provided less care to the poor than their for profit counterparts.98 While non-profits’ charity work decreased, their physicians and medical staffs’ salaries sky rocketed, and the hospitals provided more gold plated compensations and perks for their executives;99 this is a situation permitted because of the relaxed interpretation of private inurement and private benefit. A. Charging the Poor Far More

IRC 501(c)(3) requires non-profit hospitals to provide charity work, which is vaguely defined as “community benefit”.100 The IRS intentionally defined the term vaguely to meet the demands of actively changing modern hospitals.101A hundred years ago, the community benefit of the hospital was caring for the poor.102 Caring for the poor has been displaced by “the physician education, medical research, community health education, child birth classes, and immunization clinics.”103 Under 501(c)(3) (pre-501(r) addition), the hospitals were not required to give free service to the poor or charge them less.104 Hospitals were even allowed to charge a big premium to those who couldn’t afford insurance (This is only partially true under 2011’s 501(r), continued in part V).105 Unfair premium charge to the indigent and uninsured happened because of the lack of bargaining power:106

When an insurance carrier foots a hospital bill, the company “negotiates” a price with the hospital that is usually about half the original billing price. Yet when an individual without insurance is forced healthcare, they don't have this bargaining power. So they end up paying the “full” rates, making up the slack for the deals the insurance companies have gotten (as well as the uninsured individuals who never pay their bills).107

Thus, it became reverse charity where the poor ended up paying for the rich. Also under (pre-501(r) addition) 501(c)(3), the hospitals had no duty to inform the public about the “charity care program.”108 Many people could not take advantage of the charity care program that existed.109 Even after 2011’s 501(r) addition, most indigent patients come out greatly indebted

98 Id. at 620.99 Id. 100 96 Iowa L. Rev 761, 768.101 Id. 102 Id. 103 Id. at 769.104 Id. 105 Id. 106 Id. 107 Id. 108 Id. at 770.109 Id.

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after a hospital visit.110 The leading cause of bankruptcy is still the inability to pay medical bills; and a bankrupt uninsured patients’ average medical bill is twice those privately insured patients’.111

B. Debt Collection and Bad DebtGenerally hospitals ask a patient to sign payment agreement forms

before the patient can receive treatment.112 The payment agreement forms are no different from blank checks, because neither the patient nor the hospitals know how much the bill is going to be.113 Even if the patient tries his best to make payments, he as many do may not be able to even pay the interest owed.114 As the patient makes payments for years to come, his bill continues to increase due to accumulating interest.115 When the patient can no longer make payments, the hospital hires debt collectors to harass the patient with threats, and if the patient still does not pay, the hospital sues the patient in court.116

North Carolina’s Medical Center Mercy, a non-profit hospital, has sued 12,000 patients since 2007.117 Many patients could not afford to make payments;118 at least 4000 of the patients could have qualified for charity program, had they been informed of the program.119 If a hospital is unable to collect the debt, the hospital writes it off as bad debt and includes the write off as part of its “community benefit”.120 The vague community benefit standard allows the hospital great latitude in what is considered charity works. In many hospitals, charitable works includes bad debt write offs after the hospital threatens and bankrupts indigents who should have qualified for the charity program.121 Such practice seems contrary to fundamental public policy, the sixth requirement of 501(c)(3), yet the IRS exempts the hospitals despite such practice.

110 Id. 111 Id. 112 8 hous. Bus. & Tax L.J. 391, 417.113 Id. 114 Id. 115 Id. 116 Id. 117 Alicia Caramenico, Hospital Sues Thousands of Patients Who Can’t Pay Bill, Fierce Healthcare, (April, 24. 2012), http://www.fiercehealthcare.com/story/carolinas-healthcare-hospital-sues-thousands-patients-who-cant-pay-bill/2012-04-24118 Id.119 Id. 120 8 hous. Bus. & Tax L.J. 391, 417.121 Id.

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C. Excessive Insider BenefitThe median Chief Executive Officer (“CEO”) salary in US is $732,744.122

Out of the top ten highly paid non-profit executives, five executives worked for the non-profit hospitals.123 In 2010, one member of the board of the trustees of New York Presbyterian Hospital received $4.3 million.124 While the general public finds such compensation outrageous and per se excessive, the IRS accepts the non-profit hospitals’ justification. The hospitals justify this lavish payment by explaining that these CEOs generate much more benefit to the community than their salary costs the institution.125

Critics highly scrutinize physicians’ soaring salary as well.126 In 2012, Fortune 100 announced that the highest “salaried employees” in the US are the physicians at the Southern Ohio Non-profit Medical Center (“SONPMC”).127 SONPMC pays the physicians on average $490,647.128 The range of the average doctor’s salary in US is $156,000 - $315,000. 129

V. 501 (r) and Its ShortfallIn March 2010, Congress enacted major health care reform measures by

signing the Patient Protection and Affordable Care Act.130 One of these measures is IRC 501(r).131 Section 501(r) imposes four additional operational requirements for non-profit hospitals:132 Community health needs assessment, financial assistance policies, limitation on charges, and

122 Chief Executive Officer Salary, Salary.com, http://www1.salary.com/Chief-Executive-Officer-Salary.html (last visited Jan. 9, 2012).123 Bob Herman, Becker’s Hospital Review, (Sept, 18. 2012), http://www.beckershospitalreview.com/compensation-issues/hospital-ceos-rank-among-highest-compensated-at-major-non-profits.html.124 Id. 125 HuffingtonPost, “Ten Nonprofit CEOs Who Earn $1 Million or More: Chronicle of Philanthropy,” at http://www.huffingtonpost.com/2012/09/20/10-nonprofit-ceos-millionaire_n_1899904.html.126 37 B.C. L. Rev. 1, 75.127 100 Best Companies to Work for 2012 –Compensation, Salaried – from Fortune, CNN Money, http://money.cnn.com/magazines/fortune/best-companies/2012/pay/ (last visited Jan. 9, 2012).128 Id. 129 Time-Health and Family, “Doctors’ Salaries: Who Earns the Most and the Least,” at http://healthland.time.com/2012/04/27/doctors-salaries-who-earns-the-most-and-the-least.130 M. Paige Gerich, Applying the Section 501(r) Rules to Governmental Hospitals, 22 txnexempt 03, 3 (2011).131 Id. 132 Id.

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billing and collection requirement.133 If a hospital does not satisfy the 501(r) requirements, the hospital will lose its exempt status and could also be liable for a $50,000 penalty.134 A. Community Health Needs AssessmentUnder the new IRC 501(r), hospitals must conduct a community health needs assessment (“CHNA”) every three years.135 The IRS considers a CHNA conducted when the CHNA report is made available to the public.136 Hospitals can execute a CHNA requirement in four steps:137 1) Define community, 2) Gather data, 3) Refine data and find strategy, 4) Distribute report to the public138

1) Define CommunityIn order to assess community health needs, the hospital must first define

their community.139 The IRS requires a CHNA report to include the description of the community and how the community was defined.140 The hospital must consider its stated mission, purpose, geographic area, principal special care, and target population.141 The community must be defined broadly and not exclude a certain demographic intentionally.142 If the community is defined too narrowly, the IRS can conclude that a CHNA was done improperly.143

2) Gather DataOnce the community is defined, the hospital can gather data. A properly

conducted CHNA includes input from people who represent broad interests in the community served by the hospital.144 These include: Persons with special knowledge or expertise in public health, government departments and agencies with current data or other information relevant to the health needs of the community, leaders, representatives or members of specific populations such as medically underserved, persons with low incomes, and minorities.145 The law does not specify how many people must be interviewed or surveyed.146 Likewise, the law does not designate what

133 Id. 134 Id. 135 IRC 501(r)(1)(A)136 Notice 2011-52, IRB 30 (July 25, 2011).137 Kurt Bennion, New Section 501(r) Reporting Requirements for Non Profit Hospitals, www.cliftonlarsonallen.com/WorkArea/DownloadAsset.aspx?id=423 (last visited Jan, 9. 2012.) at 7. 138 Id.139 Id. at 5.140 Id.141 Id. 142 Id. 143 Id. 144 IRC § 501(r)(3)(B)(i).145 Bennion, at 5. 146 Id.

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method to use when gathering information.147 However, the law requires hospitals to gather information not only from people who use the hospital’s services but also from those who do not.148 A hospital must include in the report the process and methods used to conduct the assessment, sources of dates and data used, and names of those who represent specific populations.149 3) Refine Data and Find Strategy

Section 6033(b)(15) requires that the hospital specifically address each identified community health need and implement a strategy to meet the need regardless of its significance.150 To identify the health need, the hospital must first refine all the data compiled and find general consensus that indicates the community need.151 Once the data is refined and community needs are identified, the hospital must address strategies meeting community need.152 The strategy will include how it intends to meet the needs or an explanation if it does not intend to meet a certain need.153 The IRS considers implementation of strategy complete when it is officially approved by the hospital’s governing body, or any other authorized party.154

4) Distribute Report to the PublicThe hospital must make a CHNA report widely available to the public.155

The IRS considers the report widely available if it is on the hospital’s or its parent’s website and if the reader is clearly informed that the report is available.156 The hospital must provide the report free of charge and allow the public to download the report from the website.157 B. Financial Assistance Policy

Under the new IRC 501(r)(4), hospitals are required to establish and write out their financial assistance policies.158 However, the section does not mandate any specific financial assistance criteria, threshold, or other amounts;159 each hospital’s assistance policy may be tailored to its financial condition and market demographic.160 Thus, it is entirely possible for a

147 Id. 148 Id. 149 Notice 2011-52, IRB 30 (July 25, 2011).150 Bennion, at 8. 151 Id. 152 Id. 153 Id. 154 Id. 155 Id. 156 Id. 157 Id. 158 IRC § 501(r)(4).159 Douglas M. Mancino and Robert C. Louthian III, Requirements for Section 501©(3) Hospitals Under New Section 501(r), 22 Txnexempt 3, 10 (2010).160 Id.

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hospital to have a very minimal financial assistance program.161 But the hospital must have some sort of written financial assistance policy, and the written policy must include: eligibility criteria, whether the service includes free or discounted care, the basis for calculating amounts charged, the methods for applying for financial assistance and the hospital’s collection policy.162 If the hospital has an emergency department, the written policy must also inform the patient that the hospital provides emergency medical care without discrimination and regardless of individual’s eligibility under the financial assistance policy.163 Furthermore, the hospital must widely publicize the written policy to the community it serves.164 Hospitals must do more than just post their financial policies around their premises.165 The section does not specify methods but requires community outreach.166 C. Limitation on Charges

IRC 501(r)(5) requires the hospital to limit the amount it charges for emergency or other medically necessary care provided to patients eligible for financial assistance to no more than the lowest amounts charged to insured patients.167 This limitation precludes other patients who do not qualify for financial assistance.168 Thus, an uninsured patient who is not poor enough to be eligible for financial assistance might still have to pay a premium for care.169

IRC 501(r)(5) contains a few ambiguities. The IRS did not clearly explain “lowest amount charged to insured patients.”170 It is unclear whether the lowest rates would be those payable under an individual insurance policy, a small group policy, or a large group policy.171 Hospitals are confused about whether or not they should also count the deductible as a form of payment.172 Likewise, the section does not explain much about “medically necessary care.”173 Medically necessary care (“MNC”) widely varies per individual and per circumstance.174 However if narrowly construed, MNC

161 Id. 162 Id. 163 Id. 164 Id. 165 Id. 166 Id. 167 IRC § 501(r)(5).168 Id. 169 New501(r) Requirements for Tax Exempt Hospitals, Huron Consulting Group, http://www.huronconsultinggroup.com/library/Huron%20Healthcare_New%20501(r)%20Requirements%20for%20Tax%20Exempt%20Hospitals.pdf (last visited Jan, 9. 2012.)170 22 Txnexempt 3, 11.171 Id. 172 Id. 173 Id. 174 Id.

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could just be lists of things that doctors generally agree as MNC.175 For example, if Jane Doe were admitted unconscious as an inpatient after having been stabilized in the emergency room, her rate for inpatient care is debatable.176 Her care could be deemed medically necessary because she was unconscious when admitted and had to stay in the hospital, but her care as an inpatient may not be considered MNC under the narrow definition.177 The IRS should clarify whether the definition of MNC is to be broadly construed or narrowly defined.

The IRS proposed two methods to deal with the “lowest amount” ambiguity, the prospective method and look back method.178 The look back method examines past Medicare only claims or Medicare and private insurance claims paid to the hospital to determine the amount generally paid.179 The prospective method requires the hospital to estimate how much Medicare would pay for a particular service and if the financially assisted patient were a Medicare patient.180 D. Billing and Collection Requirements

IRC 501(r)(6) prohibits non-profit hospitals from performing extraordinary collection actions before the hospital has made reasonable efforts to determine if the individual qualifies for the financial assistance policy program.181 Extraordinary collections include lawsuits, liens on residences or human body parts (a concern stemming from a notorious Chicago case), arrests or other similar acts.182 “Reasonable effort” is not yet defined.183 As such, hospitals are challenged to define these efforts.184

Proposed regulation defines “reasonable efforts” to entail notifying relevant individuals about the financial assistance policy, providing sufficient information for the applicant in completing the financial assistance policy application, and documenting the determination process regarding whether the applicant is financial assistance policy-eligible.185 Under proposed regulation, reasonable effort should be conducted for at

175 Id. 176 Id. 177 Id. 178 Prop. Treas. Reg. § 1.501(r)-5(b)(1), 77 Fed. Reg. 38147, 38165 (June 26, 2012)179 Id. 180 Id. 181 IRC § 501(r)(6).

182 22 Txnexempt 3, 11.183 Id. 184 Id. 185 Edward K Lunder and Edward C. Liu, Cong. Research Serv., R42634, 501(c)(3) Hospitals: Proposed IRS Rules under § 9007 of the Affordable Care Act, 7 (July 27,2012).

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least 120 days after issuance of the first bill.186 If by the end of 120 days, the patient has not submitted a financial assistance policy application, the hospital may engage in extraordinary collection.187 Moreover, the proposed regulation requires the hospital to process the application within 240 days after issuing the first bill to the patient.188

E. ShortfallAlthough 501(r) greatly improves transparency in hospital billing and

collection policies and standardizes community benefit reports, it still does not address all the critical problems of 501(c). 501(r)(4) requires hospitals to establish a Financial Assistance Policy (“FAP”), but does not specify how many potential patients FAP should assist. Thus, the hospitals may form an exclusive FAP that benefits only a few patients.

If a hospital has an exclusive FAP, it also affects numbers of people who could receive the benefit and/or protection under section 501(r)(5) and (r)(6). For instance, under section (r)(5) a hospital has to limit its charges but only for FAP eligible patients. If the hospital has a very exclusive FAP, most of the hospital’s uninsured patients would still have the same old problems as 501(c), where they have to pay far more than insured patients. Even if a hospital has an inclusive FAP, the poor will encounter another problem. The few uninsured poor not qualified for FAP will be liable for the discounts to insured patients and FAP eligible patients; with even fewer people to make up for lower revenues because of insurance pricing, the charges to uninsured will be much higher than pre-501(r). Whether FAP is inclusive or exclusive, it does not rescue the poor; exclusive program will help too few and an inclusive program will still leave some facing guaranteed bankruptcy due to higher surcharge.

Under section (r)(6), the hospitals are prohibited from using extraordinary collection measures for FAP eligible patients. People who have delinquent accounts and who are not FAP eligible can still be harassed and taken to court, and liens can be put on their body parts. Even FAP eligible patients will be the victims of extraordinary collection measure after a certain period of time.

Section 501(r) does not discuss bad debt or insider benefit. Therefore, bad debt and excessive insider benefit issues are left unresolved.

VI. ProposalA. Quantitative Standard for FAP

Congress should impose strict quantitative standards for FAP.189 Strict quantitative standards for FAP will encourage hospitals to assist the maximum number of indigent.190 Before setting such standards, Congress must gather enough data to determine an appropriate minimum

186 Id. 187 Id. 188 77 Fed. Reg. 38147, 38156 June 26, 2012.189 34 J. Corp. L. 611,637190 Id.

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requirement.191 An unattainable standard will lead some hospitals to abandon their non-profit status;192 consequently there will be less charity medical service for the poor.193 Each hospital has different financial conditions and market demographics. Thus the standard should be adjustable for different situations. However, the hospitals must not have extensive control over the standard amount deemed adequate for indigent care. For instance, if the standard is 5% of a hospital’s profit, the hospital could increase its expenses and make zero profit (accordingly 0 for FAP). Likewise, if the standard is 5% of the revenue, the hospital will use various accounting methods to decrease its revenue (accordingly decreasing the FAP amount significantly). Instead if the standard is 5% of the hospital’s tax-exempt amount, the hospital is less likely to attempt to reduce the tax-exempt amount (because non-profit hospitals strive to maximize their tax-exempt amount) thus the hospital will have less control over the FAP amount. Congress should allow at least three years grace period for the hospitals to meet the new requirement.B. Sanction

Congress should impose a penalty on the hospitals that fail to meet the quantitative standard.194 The penalty should be high enough to deter the hospitals from strategically failing.195 For instance, if the FAP amount is $200,000 per year and the penalty is $50,000, the hospital will decide to pay the penalty rather than abide by quantitative standard. Additionally, if the hospital fails to meet the standard repeatedly (for example: for three consecutive years), the IRS must revoke the hospital’s non-profit status. Once revoked, the hospital will have to wait a certain period of time to reapply for non-profit status. Such sanctions will encourage hospitals to comply with the quantitative FAP standard. C. Board of Directors

Congress should require the hospitals to retain board members who represent the broad interests of the public, such as advocates of the medically indigent or the medically indigent themselves.196 The representing members (“representatives”) must have enough voting power to voice their broad interest. Additionally, the representatives should be required to hold two annual meetings where the public has the opportunity to join and discuss the public’s concern about their local non-profit hospital; these meetings must be recorded and summarized in a written report and be shared with the hospital’s other board members. Furthermore the representatives should file a yearly public report of what they accomplished

191 Id. 192 Id. 193 Id. 194 34 J. Corp. L. 611, 637.195 Id. at 638.196 Id. at 636.

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as board members and how the board members responded to the public’s semi annual meeting.

Congress should also require more transparency from all of the board members. Board members must provide in their annual public report about their compensation, doctors’ salaries, hospitals’ operating expenses, revenues, the total amount of financial assistance provided, and how many people benefited.197 Such transparency from the board will ensure compliance with the laws, inform local communities, encourage more charity works, and provide more information for future legislation.198

D. Redefine “Community Benefit”Congress should redefine the term “community benefit” to aid consistent

enforcement by the IRS.199 Congress could redefine it as: “explicitly addresses a documented need or health status problem, such as (A) improving access to health series for vulnerable people… [;] (B) enhancing public or community health; advancing knowledge (through educating health professionals or supporting research that benefits the public).”200 Such a definition is flexible enough for the hospitals to remain tax-exempt.201 Also, it would allow the IRS to receive more detailed reports, which would help measure the community benefit the hospitals provide.202

Congress should clearly preclude bad debt from the “community benefit” definition. Catholic hospitals have long excluded bad debt from their community benefit calculation and have flawlessly maintained their tax-exempt status;203 this shows that excluding bad debt would not negatively impact a hospitals’ operation.204 However, if bad debt is no longer considered community benefit or charitable care, most likely the hospitals will hound the medically indigent more aggressively. If hospitals can’t take advantage of bad debt to receive more tax exemption, they will try to maximize collection, including more aggressive collection of bills owed by the medically indigent. Hence, the Congress should pass additional legislation forbidding hospitals from using any aggressive collection method or selling their debt to aggressive collection agencies. Aggressive collection method, as differentiated from 501(r)’s extraordinary method, includes but are not limited to: “A) charging excessive interest during short period of time, B) not providing at least 6 months of grace period, C) violating patient

197 Id. at 623.198 Id. 199 Id. at 638.200 Id. 201 Id. 202 Id. 203 Bobby A. Courtney, Hospital Tax-Exemption and the Community Benefit Standard: Considerations for Future Policymaking, 8 Ind. Health L. Rev. 365, 382 (2011).204 Id.

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and his/her family’s privacy …” Congress should add more specifics to the list after requesting public comment on the proposed legislation. E. Insider Benefit

Congress should require that hospitals provide a report with the estimate of quantified benefit brought to the hospital by their key insiders such as the CEO, CFO and the top twenty-five percent highest salaried doctors (“Top Doctors”). If the benefit is substantially less than the salary paid to key insiders, the key insiders have three years grace period to improve or face pay downgrades. If a certain benefit cannot be quantified (even as a good will amount), the hospital must still include in the report how it benefited the hospital or the community. Additionally Congress should require that the Top Doctors give uncompensated care to at least few medically indigent patients who could really use the Top Doctors’ treatment. The Top Doctors receive high salaries but most likely focus on wealthier insured population who can afford the expensive treatment. They are less likely to treat poor patients with complicated medical issues. If the Top Doctors in a non profit hospital serve only the wealthy, in this respect the hospital is no different from the for profit hospital and the hospital should not receive tax-exempt status. A poor cancer patient, who can’t receive a Top Doctor’s service at a for-profit, should at least have a chance at a non-profit charity organization, which is required by law to serve him.

VII. ConclusionUnlike their historical counterparts, which acted as charitable

institutions, most non-profit hospitals do not operate charitably today but, like businesses, put profit before charity. Vaguely defined requirements in the Internal Revenue Code 501(c)(3) and 501(r) give non-profit hospitals incentives avoid traditional charity work, such as caring for the poor. Recent legislation, 501(r), is a step in the right direction to return charity to the work of non-profits. However the Congress should improve 501(r) so that the non-profit hospitals actually deserve their exemptions.

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