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September 28, 2009

Nonprofit Hospitals Need to Earn Their Exemptions

Naomi Freundlich

If nonprofit hospitals spend far less money on providing charity care for the poor and uninsured than the value of their federal, state and local tax exemptions, do they deserve those exemptions? What about if they turn away indigent patients or hound them with aggressive collection practices?

In May, the Senate Finance Committee chairman Max Baucus, and ranking Republican Charles Grassley seemed to agree that nonprofit hospitals have to start acting more like nonprofits or they could risk losing their benefits. The committee introduced a bipartisan proposal that would have required nonprofit hospitals to provide a minimum amount of charity care, limit how much they charge the uninsured, and to scale back aggressive collection processes or face an excise tax or even an end to their tax-exempt status.

But when the Senate committee released its watered-down version of health care reform earlier this month, these stringent new standards emerged equally weakened. Gone was the requirement that hospitals provide a minimum of uncompensated care. Gone was the threat of an excise tax, and gone was the threat that hospitals could lose their tax-exempt status if they didn’t comply.

It isn’t clear what happened to the bill on its way out of committee; but the negative response to the proposal from the American Hospital Association and its allies suggests that pressure from lobbyists was a key influence. In May, the AHA sent a bulletin to hospital leaders around the country urging them to “ask your senators to oppose charity care proposals.” It seems that they did--and were heard.

What remains in the Senate Bill  are the following new requirements: Nonprofit hospitals must conduct a “community health needs assessment” every three years or face a fine of up to $50,000. They have to “adopt, implement and widely publicize a written financial assistance policy” and must not deny service to patients that cannot pay. Patients who qualify for this financial assistance cannot be charged rates higher than those charged insured patients. Finally, hospitals have to make a good faith effort to identify poor patients before resorting to aggressive collection practices like liens and lawsuits.

These new requirements are very good ones, but they don’t address the fundamental concern that many nonprofit hospitals—especially those that operate in wealthy neighborhoods and suburbs—are becoming indistinguishable from their for-profit brethren. Instead of providing more care to the poor and underserved, they are investing revenues into “community benefits” that increasingly include shiny new facilities aimed at attracting insured patients, research that leads to profitable new treatments and staff salaries. The legislation also doesn’t change the fact that no federal law actually defines what a hospital must do to obtain and retain tax-exempt status.

First some background. Federal law used to require nonprofit hospitals to provide charity care for the working poor and indigent. But since 1969 when Medicare and Medicaid began covering many of these patients, the hospitals convinced Congress that few people would need this charity care any more.  Now, the IRS only requires that nonprofit hospitals show that they provide “community benefit,” a loose term that hospitals interpret to include a wide range of activities like health fairs, free screening efforts, medical research and in some cases, expansion of facilities and staff salaries.

Nonprofit hospitals account for about 60% of the more than 4,900 hospitals in the U.S. The rest are either for-profit or government-owned. Nonprofit hospitals are exempt from paying federal and state income taxes, state and local sales tax and most importantly, they are not required to pay local property taxes. In Boston, for example, property owned by nonprofit hospital companies is worth $2.4 billion. One study found that in 2007, the eight largest hospitals in Boston would have had to pay the city nearly $65 million in property taxes if they had not been exempt.

In a report issued in December 2006, the Congressional Budget Office estimated that nonprofit hospitals received $12.6 billion in annual tax exemptions--on top of the $32 billion in federal, state and local subsidies the hospital industry as a whole receives each year.

This same CBO report also found that there wasn’t a large difference between how much uncompensated care nonprofit hospitals provided vs. those of the for-profit ilk: the cost of uncompensated care as a share of hospitals’ operating expenses was 4.7% for nonprofits and 4.2% at for-profit facilities. Government hospitals, it turned out, were providing the lion’s share at 13% of operating expenses.

Meanwhile, nonprofit hospitals were starting to resemble for-profit facilities in other ways. In 2008, the Wall Street Journal reported that the “combined net income of the 50 largest nonprofit hospitals jumped nearly eight-fold to $4.27 billion between 2001 and 2006.”

The article also noted that nonprofits, were “faring even better than their for-profit counterparts: 77% of the 2,033 U.S. nonprofit hospitals are in the black, while just 61% of for-profit hospitals are profitable, according to the AHD [American Hospital Directory] data.”

The Journal goes on to report that despite claims by hospitals that they are spending these considerable revenues on “community benefits,” they seem to be using a very loose definition of the term:

“At some nonprofits, the good times are reflected in new facilities and rich executive pay. Flush with cash, Northwestern Memorial Hospital in Chicago has rebuilt its entire campus since 1999 at a cost of more than $1 billion. In October, it opened a new women's hospital that features marble in the lobby, birthing rooms with flat-screen televisions, 1,000 works of art and a roof topped with 10,000 square feet of gardens. In 2006, Northwestern Memorial's former chief executive officer, Gary Mecklenburg, received a $16.4 million payout.”

Meanwhile, the Journal reported;

“Northwestern Memorial has been frugal in its spending on charity care, the free treatment for poor patients that nonprofit hospitals are expected to provide in return for the federal and state tax breaks they receive. In 2006, Northwestern Memorial spent $20.8 million on charity care -- less than 2% of its revenues and a fraction of what it received in tax breaks. By comparison, the hospitals run by Cook County, where Northwestern Memorial is located, spent 14% of revenues on charity care.”

Hospitals like Northwestern Memorial argue that they are meeting their “community benefit” requirement in ways other than providing charity care. They point to medical education, research and health fairs as examples. But the vagueness of “community benefit” also means that hospitals can count shortfalls in Medicaid and Medicare payments, bad debt and staff salaries as contributing to this “benefit.”

The vagueness problem is made worse by a lack of national, or even state, standards for what constitutes “benefit” and what should be excluded from consideration. At the request of Senator Grassley, in September 2008, the Government Accounting Office issued a report called “Nonprofit Hospitals: Variation in Standards and Guidance Limits Comparison of How Hospitals Meet Community Benefit Requirements.” This report found that only 15 states have any requirement for community benefit in their statutes or regulation; only 10 of these lay out specific levels of charity care or other good works that must be met.

There have been some attempts by advocates to impose standards for nonprofit hospitals at the state level, but so far efforts have focused mostly on just getting hospitals to inform patients that financial assistance programs are available—and that they might be eligible for reduced-cost or free care.  “This lack of notification is huge,” says Jessica Curtis, director of the Hospital Accountability Project at Community Catalyst, a Boston-based advocacy group. “It happens even in states that require hospitals to post their policies. They don’t tell patients what the eligibility requirements are or how they can apply. Forget about finding out about these programs if you don’t speak English.”

Meanwhile some cash-strapped states are beginning to question the huge tax exemptions granted to some of the more affluent nonprofit hospitals in their area. That’s the case in Massachusetts, where the state’s health reform plan has made insurance available to many more low-income people. Nonprofit hospitals “typically spend about 1 percent of expenses on free medical care, as measured by the attorney general, half of what they spent before reform,” according to a report this year in the Boston Globe.

Meanwhile, “The 10 leading hospital companies benefited from an estimated $638 million in federal, state, and local tax breaks as well as state discounts on borrowing in 2007, the latest year for which complete data are available. More than half of that goes to two large and growing companies, Partners and Children's Hospital. Overall, the 10 hospital companies' tax breaks and other benefits were worth $264 million more than the value of the "community benefits" - care for the poor and other charity work - they reported to the state attorney general that year.”

In Wisconsin, where some 92% of hospitals are non-profit, the Institute for Wisconsin’s Future found that the state’s 124 nonprofit hospitals own at least $6 billion worth of property—all of which is exempted from property taxes. If taxed, that property would generate at least $117 million for local governments each year. According to the report, while the hospitals do not pay property taxes, they benefit from services provided by local governments, including police and fire protection, sewers and snow removal.

In Illinois, the Supreme Court is now hearing the case of  Provena Covenant Medical Center, a Catholic hospital in Urbana, Illinois that had its state and local property tax exemption revoked because it was not providing enough free or reduced care for the poor. At issue is the charge that in 2002, the hospital, now part of Covenant Medical Center, provided less than 1% of its $113 million income for charity care. The hospital also employed an aggressive debt collection service that targeted poor people.  It could be months before a decision is made, but one possible outcome (being watched nationwide) is that the Court could decide to set minimum charity care standards that all Illinois hospitals have to meet to receive valuable property tax exemptions.

In the end, the definition of what distinguishes a nonprofit hospital is continuing to evolve. If health reform passes—and includes meaningful subsidies that will allow the uninsured to purchase coverage, a public plan, and disincentives for insurers to refuse coverage—hospitals will presumably be providing a lot less charity care. Hospitals will have to instead look at providing their “community benefit” in terms of improving public health, addressing health care disparities and focusing on specific needs identified by community representatives.

The new regulations proposed by the Senate’s health reform bill will help start the process by requiring community needs assessments and also by mandating that hospitals be more upfront about their financial assistance policies. And this year, the IRS finally began requiring nonprofit hospitals seeking federal tax exemptions to file new claim forms that provide itemized details of their community benefit activities.

But we need to go further—maybe on a state-by-state level if the federal government is wary of getting involved. The first step is to provide clear guidelines about which activities—besides charity care—can be included in a hospital’s accounting of “community benefit” and which cannot. For example, the Globe article says that the new IRS reporting system is  “a broad survey of hospitals' activities rather than a rigorous accounting of how hospitals justify their tax exemption.”  The article goes on to say;

“The IRS allows hospitals to count some big-ticket categories of ‘charity’ without taking into consideration the financial benefit they get in return.

Partners, [Mass General’s parent] for example, contends that it lost $135 million on scientific research in 2007 under the IRS reporting system. But that does not take into account a $207 million royalty payment the company received for research that led to the development of an arthritis drug, Enbrel.”

No one wants to suggest that all hospitals should be stripped of their nonprofit status—they perform a vital role in caring for the poor and providing community health benefits. But it is clear that some of them can do a lot more—and must be held accountable. The final health care bill should include all of the Finance Committee’s proposals to create new standards for nonprofit hospitals that want to remain tax-exempt. Even better—but not likely in this bill—these new requirements should be backed up with the real threat of an excise tax if hospitals fail to meet these basic standards. Further down the road, the government should better define “community benefits” and then set minimum levels for hospitals to meet--at the risk of losing tax-exempt status.


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your ignorance of the healthcare system is astounding


Very interesting article. I agree, 100% that a clear definition of the criteria for maintaining a non-profit status must be full defined by the government. Otherwise, this loosely defined criteria will continue to pose vague interpretations.

Eric M


Good article you wrote. The tax exemptions need to stop because they AREN'T a charity hospital. These are basically regular hospitals that have ginned the system for their need$.

We do need more real low,low cost charity hospitals.

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