IRS Begins "Community Benefit" Inquiries -
Hospitals Contacted

Allen R. Killworth
Bricker & Eckler LLP
June 2006

Up to 600 tax-exempt hospitals may soon begin receiving inquiries from the IRS focusing on their compliance with the "community benefit standard" for tax-exemption. Hospitals targeted in this inquiry will receive a questionnaire (Form 13790) from the IRS asking the hospital to provide basic information about its operations, describe its community benefit activities and answer a number of questions about its compensation practices.

This "compliance check" by the IRS may presage revisions to the community benefit standard. In the larger context of the many challenges faced by tax-exempt hospitals, any hospital receiving such an inquiry should carefully consider their responses to this questionnaire and consult with counsel. Failure to carefully respond to this questionnaire could not only impact a hospital's tax exempt status, but could also provide ammunition to a plaintiff for claims under Ohio's Consumer Sales Practices Act, since responses to the questionnaire could be made available to the public upon request.

Recent Challenges Faced by Hospitals

Over the last several years, tax-exempt hospitals have come under heavy scrutiny by elected officials at both the state and federal levels, the IRS, the public, and other parties, including labor unions. This scrutiny has focused on three principal areas: (1) hospital billing practices and charity care; (2) compensation; and (3) governance.

The IRS has recently taken a number of steps to address perceived abuses in these areas, including significantly revising Form 1023, Application for Recognition of Tax Exemption, and Form 990, Return of Organization Exempt from Tax. In addition, the IRS announced plans to revisit the community benefit standard in its 2006 Exempt Organization Implementing Guidelines. The release of Form 13790 and the initiation of compliance checks should leave no doubt that the IRS is seriously considering making revisions to this standard.

Community Benefit Standard

The community benefit standard is the principal source for hospital tax-exemptions. The IRS first adopted this standard in Rev. Rul. 69-545, which describes a number of factors that hospitals must satisfy to justify tax-exemption. These factors include: (1) the operation of a full-time emergency room providing services to all patients regardless of their ability to pay; (2) providing non-emergency medical services to all individuals who are able to pay, including Medicare and Medicaid beneficiaries; (3) having an open medical staff; (4) having an independent board of directors comprised of civic and community leaders; and (5) using any surplus to improve the quality of care and for other exempt purposes.

Significantly, other than in the emergency room, Rev. Rul. 69-545 does not tie hospital tax-exemption to the provision of any charity care.

Compliance Check Questionnaire

The three-part Form 13970, Compliance Check Questionnaire for Tax-Exempt Hospitals, asks hospitals to provide significant amounts of information about their activities. Hospitals may refuse to respond to the compliance check; however, in such an event, the IRS reserves the right to begin a formal audit.

Part II of the questionnaire focuses exclusively on the community benefit standard, but also focuses heavily on the amount of charity care provided by hospitals. In fact, nearly half of the 72 questions in this part of the questionnaire deal with uncompensated care in some fashion. These questions make clear that either the IRS is taking a particularly expansive view of the community benefit standard or it plans to incorporate charity care concepts into future revisions of this standard.

Part II of the questionnaire asks hospitals to provide information in several distinct areas such as: (1) patient demographics, including an explanation for the denial of treatment to any patient; (2) emergency room operations; (3) governance; (4) medical staff privileges; (5) medical research programs and funding; (6) medical education and training; (7) amount of uncompensated care; (8) billing practices; and (9) community programs. Careful responses to the sections of the questionnaire regarding uncompensated care and billing practices are especially important in light of Ohio's Consumer Sales Practices Act and the increasing scrutiny of hospitals by state and federal regulators.

Part III of the questionnaire focuses exclusively on compensation practices, and asks the hospital to provide detailed information about the types of compensation provided. In addition, Part III of the questionnaire asks a number of questions to determine whether hospitals have complied with the requirements to create a rebuttable presumption of reasonableness for intermediate sanctions purposes, including several questions involving the type of comparability data used.

Recommendations

Hospitals that have not yet received an IRS community benefit inquiry should nevertheless review this form and consider their operations and practices in light of these questions. In addition, we recommend that hospitals undertake a comprehensive internal review of their compliance with the original community benefit standards. To the extent that a hospital's actual practices or operations deviate significantly from these standards, we recommend that the hospital consider conforming their practices to these standards.