Summary
The majority of hospitals in the United States are recognized as nonprofit organizations by federal, state and local governments. This status provides a number of financial benefits, including exemption from federal and state income tax as well as a variety of state and local taxes. Nonprofits can also receive donations that are tax-deductible to the donor and may benefit from tax-exempt bond financing. The standard hospitals must meet to receive and maintain nonprofit status is ambiguous and not easily amenable to either oversight or enforcement. There is strong evidence that many nonprofit hospitals do not operate in ways that are significantly different from those of hospitals that are operated as profit-generating enterprises.
As a result of increased scrutiny at the federal, state and local level, the IRS in 2008 began requiring that nonprofit hospitals report with more specificity the benefits they provide to the community. The Affordable Care Act (ACA) requires additional transparency from nonprofit hospitals and prohibits some of the more egregious charging and collection activities. The ACA also requires that each nonprofit hospital facility conduct an assessment of the health needs of the people in the community it serves and take steps to address those needs. This assessment must take into account input from persons who represent the broad interests of the community served by the hospital facility, including those with special knowledge of or expertise in public health. Some states have also enacted laws and regulations that require transparent charity care policies and practices that exceed the federal requirements.
This issue brief begins with a brief overview of nonprofit hospitals and a description of the requirements hospitals must meet to obtain the benefits that flow from nonprofit status. It then discusses problems that have been identified with the current regime and recent legislative and regulatory changes that have been introduced to address them.
Finally, it suggests opportunities for advocates to use these new tools to advance the health rights of low-income uninsured and under-insured patients.
Background
About 59 percent of hospitals in the United States are recognized by the IRS as nonprofit organizations.2 Sixty-eight percent of Medicare beds are located in nonprofit hospitals.3 Not including government-run hospitals, about 77 percent of community hospitals are nonprofits.4 Collectively, nonprofit hospitals own 86 percent of private hospital fixed assets.5
Nonprofit Hospitals Enjoy Substantial Tax Benefits
Qualified nonprofit organizations?those meeting the requirements of Internal Revenue Code 501(c)(3)–enjoy a number of benefits not available to profit-making corporations and organizations. Chief among these is favorable treatment under the tax code.6 Qualified nonprofit organizations are exempt from federal income tax, and donations to them are tax-deductible to the donor.7 They may also have the ability to have taxexempt debt issued for their benefit.8 Many nonprofits are also exempt from state and local taxes, including property, income and sales tax.9
Favorable tax treatment significantly reduces the cost of capital for nonprofit hospitals compared to similarly situated for-profits.10 According to the nonpartisan Joint Committee on Taxation (JCT), the income tax exemption and the ability to have taxexempt bonds issued for their benefit provided nonprofit hospitals with about $4.3 billion in savings in 2002.11 JCT estimated that, when state and local tax exemptions are included, nonprofit hospitals received tax benefits of $12.6 billion.12 According to information provided by the House Ways and Means Committee, in 2001 nonprofit hospitals made up less than two percent of qualified nonprofit organizations but received 41 percent of the tax benefits.13 These sums represent money that would otherwise be available to local, state and federal governments to use for service provision, reduction in taxes paid by other entities and other purposes.14
The 501(c)(3) Standard for Qualification as a Nonprofit Hospital is Ambiguous and Evolving
Although not specifically recognized in the Internal Revenue Code, hospitals may qualify as exempt nonprofit organizations if they meet certain criteria.15 Like all qualified nonprofits, they must be ?organized and operated exclusively for? an exempt purpose.16 Hospitals must also meet several other criteria to qualify for the preferential treatment afforded to nonprofits under the federal tax code.17
These criteria have changed over time. From 1956 through 1969, the IRS required nonprofit hospitals to provide care at no or low cost to those who could not afford it to the extent the hospital was financially able to do so.18 With the advent of Medicaid and Medicare, hospitals began advocating for a relaxation of this requirement on the grounds that the new legislation would eliminate or greatly reduce the demand for charity care.19 This advocacy effort bore fruit in 1969, when the IRS removed the charity care requirement in favor of a broad standard that required only that hospitals provide benefits to the community.20 This ambiguous ?community benefit? requirement remained generally unchanged from 1969 to 2008.21
Without clear guidelines in law or regulation, hospitals have usually been left to determine for themselves what activities qualify as community benefits. Not surprisingly, these activities vary across hospitals and hospital organizations, and even where similar benefits are recognized they are often measured inconsistently.22 Some private efforts have been made to standardize and quantify the benefits that nonprofit hospitals provide to the community, but they are largely voluntary and unenforceable.23 The standards by which states decide if hospitals qualify for preferential treatment under state law also vary considerably.24
The Nonprofit Hospital Tax Exemption and Its Discontents
In the mid 2000s, a number of federal agencies and officials began questioning whether this voluntary and seemingly arbitrary system was in need of reform. The key problem these officials identified was a lack of standards, accountability and transparency that made it difficult to distinguish hospitals that were providing substantial community benefits from those that were not. The Comptroller General of the United States, testifying before Congress, was blunt: ?[C]urrent tax policy lacks specific criteria with respect to tax exemptions for charitable entities, including not-for profit hospitals, in particular. If these criteria are articulated in accordance with desired public policy goals, standards could be established that would allow not-for-profit hospitals to be held accountable for providing services and benefits to the public commensurate with their favored tax status.?25
In 2005, the Government Accountability Office (GAO) reported that on one criterion that is measured relatively consistently across hospitals, the amount of uncompensated care provided to those that cannot afford to pay their hospitals bills, nonprofit hospitals scored only slightly better than for-profits.26 As to other possible benefits, the GAO ?was not able to discern a clear distinction among the government, nonprofit and for-profit hospital groups.?27 That same year, the IRS Commissioner testified before a Senate committee that ?abuse is increasingly present in the tax-exempt [hospital] sector? and that dramatic changes in the hospital system since 1969 have left ?certain actors specifically discussed in Rev. Rul. 69-54? less relevant in distinguishing tax-exempt hospitals from their for-profit counterparts.?28
The nonpartisan Congressional Budget Office (CBO) reported in 2006 that many nonprofit hospitals issued tax-exempt bonds to finance capital investment even when the hospital held assets sufficient to cover the costs for which the bonds were issued.29 A separate CBO report found that, far from serving those most in need, the average nonprofit hospital operated in an area with higher average incomes, lower poverty rates and lower rates of uninsurance than for-profit hospitals.30 It also found that, while nonprofit hospitals provided slightly more uncompensated care, on average, than for-profit hospitals (about 0.6 percentage points), they also provided care to fewer Medicaid patients as a share of their total patient population than did for-profit hospitals.31
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