IRC 501(r)(1) Requirements
In 2014, the IRS implemented IRC 501(r), which imposes five additional requirements for hospitals seeking tax exemptions under 501(c)(3). These requirements include [1] conducting community health needs assessment (CHNA), [2] implementing policies directed at financial assistance and emergency medical care, [3] limiting charges to the “amounts generally billed” (AGB), [4] making reasonable efforts to determine a patient’s eligibility for financial assistance before taking on “extraordinary collection actions” (ECAs), and [5] filing IRS Form 990 and providing copies of their audited financial statements.
Non-Profits Engaging in For-Profit Activities
Joint Ventures Under 501(c)(3)
Organizational & Operational Test Issues
While IRS 501(c)(3) requires that charitable hospitals operate exclusively for the exempt purposes provided, this regulation has been interpreted and applied by the IRS to require that non-profit hospitals operate primarily in activities that meet the exempt purpose requirement. This permits non-profit hospitals to engage in for-profit business activities, so long as those activities are “insubstantial” in comparison to exempt purposes. This allows non-profit hospitals to engage in for-profit activities, such as joint ventures, while still acting under a charitable title.
Weighing For-Profit Participation Against Non-profit Purposes
Two significant cases regarding the permissibility of joint ventures highlight the need to assess these partnerships. In the case of Redlands Surgical Services v. Commissioner of Internal Revenue, 113 T.C. 47 (U.S. Tax Ct. 1999), Redlands Surgical Services (RSS), a non-profit organization, formed a general partnership with Surgical Care Affiliates Inc. (SCA), a for-profit corporation. Subsequently, RSS applied for a non-profit tax exemption with the IRS.
For a joint venture arrangement (like the one RSS formed with SCA) to obtain a tax exemption, it must demonstrate a benefit to the community and a charitable purpose under 501(c)(3). The court examined the evidence regarding the general partnership, including RSS’s lack of control and voting power over the business’s operations. The court ruled that because of RSS’s lack of control over operations, they had an obligation to prioritize the interests of the for-profit organizations over nonprofit charitable purposes. The court thus ruled that this diminished any legitimate non-profit objectives they might have had.
In contrast, in St. David’s Health Care System v. United States, 349 F. 3d (5th Cir. 2003), St. David’s Health Care System, a non-profit organization, partnered with Columbia/HCA Health Corporation (HCA), a for-profit company. The partnership was a result of St. David’s financial difficulties.
Like in the Redlands case, the court analyzed the organizational and operational requirements under 501(c)(3) and whether the for-profit entity (HCA) exercised significant control over the non-profit organization (St. David’s). The court concluded that if a for-profit organization has control over a non-profit, it would be presumed that the organization primarily serves for-profit purposes rather than non-profit-exempt purposes.
While the case was ultimately remanded to determine issues of material facts, and despite the jury upholding St. David’s tax-exempt status, the IRS has since adopted the Fifth Circuit’s reasoning and opinion in the case, which established a “control standard” for determining whether a hospital’s joint venture disqualifies their tax-exemption status. Together, Redlands and St. David’s help define the contours of a joint venture model that some non-profit hospitals are able to use to generate profits while maintaining their non-profit status.
The Community Benefit Standard
A Brief History of the Community Benefit Standard
When Medicare and Medicaid were created in the mid-1960s, some hospitals were concerned that if there was less need to help the poor, they might lose their tax-exempt status and have to pay federal taxes. To address these concerns, the IRS developed a new standard for hospitals to qualify for tax exemption that essentially erased the original intent for the exemption: The Community Benefit Standard. This standard looked at different factors, such as providing care to Medicare and Medicaid patients, operating an emergency room, and having an open medical staff. This new standard did not center around providing support to the indigent community, and led to many questioning whether care for indigents under federal law truly is an essential function of a “non-profit.”
The criticism of the similarities between non-profits and for-profits has continued since that time. In 2004, then-Iowa Senator Charles Grassley publicly stated, “Too often, it seems that tax-exempt hospitals offer less charitable care and community benefit than for-profit hospitals.” Grassley’s statement echoed many others’ concerns, and in the mid-2000s, attention was drawn to how little charity care non-profit hospitals had been providing. Issues mainly centered around pricing, collection tactics, compensation for executives, and questions regarding the integrity of non-profit hospitals’ stated missions.
Is There a Benefit to Be Derived from This Standard?
Even with all of the issues surrounding the Community Benefit Standard, there is still an argument that it should not be revoked if it can be shown that it provides some community benefit when compared to for-profit hospitals, such as 1) better quality of care, 2) reduced costs of treatment, or 3) a higher amount of charity care provided. However, independent reviews of these three potential areas of community benefit are, at best, inconclusive.
Examining the IRS Approach to Enacting IRC 501(r)(1)
In 2014, after the Patient Protection and Affordable Care Act (ACA) took effect, the IRS sought to address concerns over hospitals that provided minimal charitable services yet claimed broad tax exemptions. Thus, the IRS imposed new obligations under IRC 501(r). While 501(r) seeks to hold non-profit hospitals accountable by providing a list of five additional requirements for non-profits, notably the new standard does not require hospitals to provide charity care. Some scholars argue that without a mandated level of charity care, hospitals may implement “[more] restrictive income requirements or make lucrative and burdensome financial assistance application[s] to deter individuals from being able to qualify and receive [needed] benefits.”
Why is There No Strict Charity Care Requirement?
Through the ACA, the IRS implemented IRC 501(r). The IRS’s implementation of IRC 501(r) recognizes that one-size-fits-all charity care requirements might not effectively address broader underlying local community health needs. Instead, a broader definition of community benefit has allowed hospitals to include expenditures beyond charity care that still fulfill a charitable mission, such as devoting operating surpluses to education, research, and training needs. In sum, the IRS’s broader definition of charity care, which includes community benefits, aims to move nonprofit hospitals towards more proactive community health improvements.
State Tax Exemptions
In addition to the IRC’s federal requirements, states have implemented requirements that allow non-profit hospitals to qualify for state tax exemption statuses. State-level requirements to qualify for non-profit tax exempt statuses differ vastly across the United States.
For example, Arizona law does not expressly include a community benefit requirement. Thus, non-profit hospitals in Arizona are not required to conduct assessments in the community or develop plans and strategies to address the community’s specific health needs. Additionally, Arizona law does not require non-profit hospitals to implement financial assistance policies to protect indigent patients within the community, nor are there limitations on either how much hospitals may charge/bill or on collection practices. Arizona also provides additional tax breaks for these hospitals, including property tax exemptions under Ariz. Rev. Stat. §42-11105 and a sales tax exemptions under Ariz. Rev. Stat. §42-5159.
In contrast to Arizona’s more lenient approach, California has implemented a community benefit standard for non-profit hospitals. While California does not create minimum community benefit requirements for hospitals to maintain their exemption status, the state does require hospitals to submit reports addressing their community benefit plans and payment policy plans every other year or when there are substantial changes in the hospital’s current policies.
Oregon’s New Legislation
In contrast to Arizona laws and a step further than California requirements, Oregon has become known for higher regulations imposed on non-profits. In 2019, the Oregon legislature passed House Bill 3076 (HB 3076), which established new state minimum requirements for determining community benefits, and on July 7, 2023, Governor Tina Kotek signed Oregon House Bill 3320 (HB 3320). These new laws are aimed at setting financial assistance aid requirements for charitable healthcare service organizations and ensuring that non-profit hospitals are providing genuine charity care to indigent patients in the community.
Oregon’s Community Benefit Standard
HB 3076 amended two Oregon statutes, ORS 442.200 and 646.639. HB 3076 grants the Oregon Health Authority (OHA) power to administer Oregon’s new community benefit standard, which is focused on increasing charity care by non-profit hospitals, as detailed below.
Spending Floors
In Oregon, non-profit hospitals must engage in “community benefit spending” to receive tax-exempt status. Community benefit spending refers to money a hospital spends on unreimbursed care they provide. HB 3076 created minimum spending floors for each non-profit charitable hospital in Oregon. OHA has created individual spending floors based on multiple factors, including “the hospital’s previous spending history, the hospital’s financials, and the hospital’s community needs assessments.” In addition, OHA makes clear that the imposed spending floors are truly the bare minimum, and hospitals are encouraged to increase their spending in certain areas for the general welfare of the community.
In determining what qualifies as a community benefit activity to meet non-profit hospital spending requirements, OAR 409-023-0105(7)(a)(2) provides a list of eligible categories. This list includes [1] charity care, [2] losses related to Medicaid and State Children’s Health Insurance Program, [3] losses related to other publicly funded health care programs (specifically excluding Medicare), [4] community health improvement services, [5] health professionals’ education, [6] subsidized health services, [7] research, [8] financial and in-kind contributions to the community, [9] community-building activities, and [10] community benefit operations.
In addition to these more rigid requirements, OAR 409-023-0110(2) requires OHA to recalculate these spending floors every two years to help ensure that the minimum spending requirements accurately reflect the needs of the community. Additionally, OAR 409-023-0110(3) requires OHA to publish the spending floors and to receive feedback from hospitals and the public.
Expanding Financial Assistance
In addition to new minimum spending floor requirements, HB 3076 expanded requirements for financial assistance non-profit hospitals must provide to patients in two ways: by (1) requiring hospitals to provide financial assistance to a great number of individuals, and (2) expanding requirements for hospitals must abide by to protect against improper debt collection tactics.
HB 3076 expanded financial assistance by requiring that non-profit hospitals provide financial assistance to patients with income up to 400% of the federal poverty level (FPL). The legislation created four different tiers of reduced care based on a patient’s income. Specifically, ORS 442.614 requirements for Financial Assistance Policies require non-profit hospitals to adjust a patient’s costs based on the patient’s income tier. Under ORS 442.614(1)(a), Tier 1 patients fall between 350-400% of the FPL and receive a 25% adjustment to their costs, Tier 2 patients fall between 300-350% of the FPL and receive a 50% adjustment, Tier 3 patients fall between 200-300% of the FPL and receive a 75% adjustment, and Tier 4 patients fall between 0-200% of the FPL and receive a 100% adjustment.
Debt Collection Protections
An Oregon report conducted in 2019 found that of Chapter Seven and Thirteen bankruptcy filings in Oregon, at least 60% included individuals with medical debt. HB 3076 sought to address this by creating new protections against debt collectors. Specifically, HB 3076 requires hospitals to screen patients to see if they are eligible for financial assistance before referring them to collections; patients who qualify cannot be charged interest on the remaining amounts owed. The bill also provides a private right of action under the federal Unfair Debt Collection Act. Additionally, ORS 646.639 Unlawful Collection Practices specifically spells out what debt collectors in Oregon cannot legally do.
Oregon’s New Non-Profit Requirements
While HB 3076 was a step towards ensuring true charitable care is provided by non-profit hospitals, there was still concern around hospitals’ financial assistance policies and referring patients to debt collection agencies before performing a financial assistance eligibility screening. The OHA HB 3076 Implementation Report expressed concerns about the difficulty patients face in obtaining financial assistance information online. Many forms require patients to provide asset information, even though financial assistance is supposed to be based solely on income, not a patient’s assets. Furthermore, hospitals were found to be sending debt to collections without complying with waiting periods or notifying and screening for eligibility for financial assistance. To address these concerns, HB 3320 was passed, and went into effect on July 1, 2024. The bill introduces two changes to the billing practices of hospitals and expands eligibility for financial assistance. HB 3320 accomplishes this by amending two Oregon statutes ORS 442.610 and 442.618.
ORS 442.610
ORS 442.610(3)(a), as amended in 2024 by HB 3320, provides that hospitals shall not only supply a “paper copy of the financial assistance policy,” but also provide patients with an application form for financial assistance if they request it. Likewise, ORS 442.610(3)(b)(C) requires hospitals to not only inform patients of their financial assistance policies, but also provide patients with the specific internet address for financial aid applications, which can be completed and submitted online and accessed on cellular devices. Making applications more accessible for patients online specifically addresses many of the concerns HB 3076 did not cover.
HB 3320 also requires that hospitals provide more prominent notices to patients about the availability of financial assistance. Originally, hospitals were only required to include information about financial assistance on billing statements. However, starting at the beginning of 2024, hospitals are now required to include information about financial assistance on their websites and anywhere a patient may go to pay a bill or to access the patient’s account.
While the above statutes apply to both non-profit and for-profit hospitals, HB 3320 also enacted ORS 442.610(4), which is specifically addressed to non-profit hospitals’ applications for financial assistance. ORS 442.610(4)(a) provides in part that “[a] nonprofit hospital’s application for financial assistance […] [m]ay require the resident to provide only [t]he patient’s household income […] and [i]nformation about any third party that may be liable for the cost of the services.” (Emphasis added.) Additionally, the document must explain that any other additional information from the patient is optional. Optional information may include information about a patient’s other assets, but disclosure of such assets is optional. This statute helps clarify that financial aid is based only on household income and helps to ensure proper processing of claims for aid that might have been improperly denied under HB 3076.
ORS 442.618(2)
Additionally, HB 3320 amended ORS 442.618(2)(d) to require non-profit hospitals to report: (1) how many applications for financial assistance they receive, and how many of those applications were then approved; (2) of those who received financial assistance, the number of individuals who received assistance without completing the hospital’s financial assistance application, and (3) “payer types” of those who received financial assistance and those who were denied.
ORS 442.618(2)(e) now requires hospitals to report the number of accounts that were subsequently referred to debt collection agencies and those that were transferred for “extraordinary collection actions” as described under IRC 501(r)(6).
Lastly, ORS 442.618(2)(f), as amended, requires hospitals to report the average, median, and total amount of debt owed to the hospital by patients who were placed into collections during the reporting period.
Conclusion
Nonprofit hospitals receive significant tax breaks at both the federal and state levels. In exchange, they are expected to uphold a charitable mission by addressing unmet health needs within their communities, mainly by providing charity care to indigent patients. Yet, because the IRS does not require a firm charity care threshold, instead adopting a broad community benefit standard, questions remain as to whether these institutions are doing enough to meet their charitable missions. Ultimately, Oregon’s updated approach of setting minimum spending floors and bolstering financial assistance by making aid more accessible could serve as a test case for whether more stringent requirements may be used to effectively ensure non-profit hospitals are ultimately upholding their charitable missions. Only time will tell whether other states or the IRS itself will adopt similar strategies to maintain a more flexible community benefits approach.
The goal of Oregon’s new legislation is to ensure that charitable hospitals offer financial assistance to indigent patients and invest in the health of the community. However, questions remain as to whether these new requirements are sufficient to ensure true charity work.