Health Care Reform: Tax-Exempt Hospitals Face New Requirements
Tax-exempt hospitals must take swift action to ensure compliance with new requirements under the Patient Protection and Affordable Care Act (the “Act”) in order to maintain exempt status. As part of the sweeping reform of the U.S. health care system, the new law imposes the following four new requirements on nonprofit hospitals, described in more detail in this advisory:
- A mandated community health-needs assessment
- Written financial assistance and emergency care policies
- Limitations on patient charges
- Requirements regarding billing and collections practices
The new requirements are generally effective for tax years beginning after the date of enactment (March 23, 2010). For calendar-year organizations, this means Jan. 1, 2011, but the requirements could be effective as early as April 1, 2010, for organizations with a March 31 tax year-end.
The new law is the latest chapter in a long-standing policy debate on the standards that distinguish hospitals that merit tax exemption as charitable organizations under Internal Revenue Code (the “Code”) Section 501(c)(3) from those that do not. Since 1969, hospitals have qualified for federal tax exemption if they were organized and operated as nonprofits and met a “community benefit standard” set out in Internal Revenue Service (IRS) administrative rulings. Under that standard, an exempt hospital must promote the health of a broad segment of the community it serves.
Satisfaction of the community benefit standard has been based on facts and circumstances such as whether the hospital’s board of directors is comprised predominantly of individuals who represent a broad cross section of the community (as opposed to physicians and hospital administrators), whether the hospital has an open medical staff policy and an emergency room that is open to all regardless of ability to pay, whether it accepts and treats Medicare and Medicaid patients, and whether it uses surplus funds to improve facilities, equipment and patient care, and to provide health-related education, training and research.
In recent years, Congress has increasingly pressured the IRS to tighten these standards. The IRS has focused on establishing baseline data to gain a clearer picture of the level of community benefit that exempt hospitals currently provide, using a consistent set of metrics, before imposing new requirements. Effective for the 2009 tax year, exempt hospitals must complete Schedule H to the redesigned IRS Form 990 (Return of Organization Exempt from Income Tax), reporting detailed information on charity care and community benefit.
Now the Act adds new Section 501(r) to the Code, which for the first time imposes specific statutory requirements that hospitals must satisfy in order to qualify under Code Section 501(c)(3). The new rules apply to any “hospital organization,” defined as any organization that operates a facility that is required to be licensed or registered as a hospital under state law, as well as any organization that the secretary of the Treasury Department determines provides hospital care as the principal basis for its tax exemption. For a “hospital organization” that operates more than one hospital facility, the organization must meet the new requirements separately for each facility, and will not be treated as described in Section 501(c)(3) with respect to any facility that does not separately meet the new requirements.
It is not clear what these provisions mean for a single legal entity that operates multiple hospital facilities, e.g., whether the failure of one facility to meet the requirements will jeopardize the organization’s overall Section 501(c)(3) status, or whether the facility that fails to qualify may be treated as an unrelated trade or business of the organization. Nor is it clear how the new rules will affect Schedule H reporting, which currently requires aggregation of all activities conducted by a single legal entity, rather than reporting on a facility-by-facility basis.
New Code Section 501(r) imposes the following requirements:
1. Community health needs assessment
A tax-exempt hospital must conduct a community health needs assessment (CHNA) at least once during any three-year period. The hospital must then adopt an implementation strategy to meet the needs identified in the CHNA and make the CHNA widely available to the public. In performing the assessment, the hospital is required to obtain input from a broad cross section of the community it serves, including those with special knowledge or expertise in public health. The CHNA requirement is effective for tax years beginning after the second anniversary of the date of enactment of the Act (Jan. 1, 2013, for calendar-year organizations).
Hospitals must report on Form 990 how the needs identified in the CHNA are being met, and provide a description of needs that are not being met and an explanation of why such needs are not being addressed. Hospitals must also include audited financial statements with their Form 990 submissions.
Any hospital that fails to conduct the CHNA will be subject to an excise tax of $50,000 under new Code Section 4959.
2. Financial assistance and emergency medical care policies
Tax-exempt hospitals are required to have written policies that address financial assistance and emergency medical care. The financial assistance policy must address eligibility criteria for financial assistance and the type of assistance (i.e., free or discounted care), the application process, the basis for calculating the amount charged to patients, and the measures to publicize the policy widely within the community that the hospital serves. The hospital’s emergency care policy must require it to provide, without discrimination, care for emergency medical conditions regardless of the patient’s eligibility under the financial assistance policy.
A tax-exempt hospital must also have a separate billing and collections policy, or alternatively include in its financial assistance policy the actions the hospital may take if amounts that it bills are not paid.
3. Limitations on charges
For individuals who are eligible to receive financial assistance under the hospital's policy, the hospital cannot charge more than the amounts generally billed to insured individuals for emergency and other medically necessary care. The hospital must also prohibit the use of “gross charges.” Neither the Act nor the legislative history defines “gross charges,” but the term is generally understood to mean the full amount that a hospital charges without taking into account any discounts negotiated with insurance companies.
4. Billing and collection
A hospital must make reasonable efforts to determine whether a patient is eligible for assistance under its financial assistance policy before taking “extraordinary actions” to collect unpaid bills. Extraordinary collection actions generally include lawsuits, arrests, liens on residences, and similar collection methods. The Act requires the Treasury Department to issue regulations defining “reasonable efforts.” The legislative history suggests that reasonable efforts include notifying the patient of the hospital’s financial assistance policy at the time of admission, submitting invoices, and providing written and oral communications before taking collection actions or reporting to credit rating agencies.
Treasury study and reports
Beyond the requirements for hospitals, the Act mandates administrative oversight and reporting procedures that may lay the foundation for additional reforms in the future. The Act requires the Treasury Department secretary to review the community benefit activities of each tax-exempt hospital at least once every three years. Although the Act does not specify how the review will be conducted, it seems likely that it will be through Schedule H to Form 990.
The Treasury Department secretary must also submit an annual report to Congress, in consultation with the Health and Human Services (HHS) secretary, containing information for tax-exempt, taxable and government-owned hospitals regarding charity care, bad debt expense, unreimbursed costs for services provided for government programs, and information on community benefit for tax-exempt hospitals.
Finally, the Treasury Department and HHS must conduct a study and submit a report within five years after the date of enactment of the Act on trends in the information in the annual reports to Congress.
The new requirements for tax-exempt hospitals may not go significantly (if at all) beyond the policies that many tax-exempt hospitals currently follow. Nevertheless, all exempt hospitals should review the new rules in detail as soon as possible to ensure that they have systems in place to meet every element of the statutory requirements, and to satisfy expanded Schedule H reporting requirements.
Perhaps more importantly, hospitals should brace for the possibility of more significant changes in the future. The Act’s requirements may be simply the latest stage in the continuing evolution of the standards for hospital tax exemption.