Tax-Exempt Section 501(c)(3) Hospitals: Community Benefit Standard and Schedule H
Tax-Exempt Section 501(c)(3) Hospitals:
Community Benefit Standard and Schedule H
July 31, 2008
Erika Lunder and Edward C. Liu
American Law Division
Tax-Exempt Section 501(c)(3) Hospitals: Community
Benefit Standard and Schedule H
Non-profit hospitals receive billions of dollars in governmental subsidies due
to their tax-exempt status as § 501(c)(3) charitable organizations. Among other
requirements, these hospitals must be organized and operated for a charitable purpose
in order to maintain their tax-exempt status. Under the “community benefit”
standard developed by the IRS, charitable hospitals are judged on whether they
provide sufficient health benefits to the community. Recently, questions have arisen
as to whether § 501(c)(3) hospitals are providing adequate public benefits to justify
their status as charitable organizations.
Both Congress and the IRS have examined the issue of hospitals’ tax-exempt
status over the past several years. One outcome has been that the IRS developed a
new annual reporting requirement (Schedule H of the Form 990) for hospitals to
report information regarding their activities. The new Schedule H has been
In the 110th Congress, the Charity Care for the Uninsured Act of 2007 (H.R.
973) would create a new tax credit for physicians who provide charity care. No
legislation has been introduced in the 110th Congress that would address the tax
treatment of hospitals. There was such a bill in the 109th Congress — the Tax
Exempt Hospitals Responsibility Act of 2006 (H.R. 6420). Among other things, this
bill would have imposed a tax on § 501(c)(3) hospitals that failed to treat low-income
This report examines the standards under which hospitals qualify for tax-exempt
charitable status under federal law, recent inquiries made by Congress and the IRS
into whether hospitals are conducting sufficient activities to justify their exemption,
and the new Schedule H. It ends with a brief discussion of H.R. 973 (110th Congress)
and H.R. 6420 (109th Congress).
Standard for § 501(c)(3) Status as a Charitable Organization................1
Charity Care Standard .........................................2
Community Benefit Standard.....................................2
Further Development of the Community Benefit Standard..........4
Recent Controversy ................................................5
Recent Congressional Activity....................................6
Recent IRS Activity and Schedule H of Form 990....................6
Part I: Quantifying the “Community Benefit” Standard............8
Part II: Community Building.................................8
Part III: Medicare Shortfalls..................................9
Part III (continued): Bad Debt...............................10
Part IV: Management Companies and Joint Ventures.............11
Part V: Facility Information.................................12
Part VI: Supplemental Information...........................12
Tax-Exempt Section 501(c)(3) Hospitals:
Community Benefit Standard and
Non-profit hospitals receive billions of dollars in governmental subsidies due1
to their status as charitable organizations. Benefits that arise from this status under
federal law include exemption from federal income taxes, eligibility to receive tax-2
deductible contributions, and authority to use tax-exempt bond financing. In recent
years, Congress, the Internal Revenue Service (IRS), and members of the public have
questioned whether hospitals are conducting sufficient charitable activities to justify
Standard for § 501(c)(3) Status
as a Charitable Organization
Non-profit hospitals typically qualify for federal tax-exempt status as charitable
organizations under § 501(c)(3) of the Internal Revenue Code.3 There is no
definition in the tax code for the term “charitable.” A regulation promulgated by the
Department of the Treasury provides some guidance, although it does not explicitly
1 See Congressional Budget Office, NONPROFIT HOSPITALS AND THE PROVISION OF
COMMUNITY BENEFITS, Dec. 2006, at 5 (reporting that the estimated value of the federal and
state tax exemptions received by charitable hospitals in 2002 was $12.6 billion). A
hospital’s eligibility for a state tax exemption is determined under state law, and states are
free to use any criteria they wish. They are not required to use the standard for determining
charitable status under federal law. Some states have adopted explicit charity care or
community benefit requirements as a condition imposed to receive a state tax exemption or
for purposes apart from the tax laws. See, e.g., Community Catalyst, Inc., HEALTH CARE
COMMUNITY BENEFITS: A COMPENDIUM OF STATE LAWS, available at
[ ht t p: / / www.communi t ycat al ys t .or g/ doc_st or e / publ i cat i ons/ c ommuni t y_benef i t s _compen
dium_2007.pdf] (summarizing state community benefit laws).
2 See IRC §§ 501(a), 170(c)(2), 145.
3 IRC § 501(c)(3) describes entities “organized and operated exclusively for religious,
charitable, scientific, testing for public safety, literary, or educational purposes, or to foster
national or international amateur sports competition ... or for the prevention of cruelty to
children or animals, no part of the net earnings of which inures to the benefit of any private
shareholder or individual, no substantial part of the activities of which is carrying on
propaganda, or otherwise attempting, to influence legislation ... and which does not
participate in, or intervene in ... any political campaign on behalf of (or in opposition to) any
candidate for public office.” Some hospitals may qualify to be § 501(c)(3) educational or
scientific organizations. See Rev. Rul. 56-185; 1956-1 C.B. 202. Non-profit hospitals may
also be able to qualify for exemption as § 501(c)(4) social welfare organizations.
address the activities of hospitals. It states that “[t]he term charitable is used in
section 501(c)(3) in its generally accepted legal sense,” and provides examples of
charitable purposes, including the relief of the poor or unprivileged; the promotion
of social welfare; and the advancement of education, religion, and science.4
In the absence of explicit statutory or regulatory requirements applying the term
“charitable” to hospitals, it has been left to the IRS to determine the criteria hospitals
must meet to qualify as § 501(c)(3) charitable organizations. Over the years, the IRS
has developed two distinct standards: the “charity care standard” and the “community
Charity Care Standard
In 1956, the IRS issued Revenue Ruling 56-185, which addressed the
requirements hospitals needed to meet in order to qualify for § 501(c)(3) status.5 One
of these requirements is known as the “charity care standard.” Under the standard,
a hospital had to provide, to the extent of its financial ability, free or reduced-cost
care to patients unable to pay for it. A hospital that expected full payment did not,
according to the ruling, provide charity care based on the fact that some patients
ultimately failed to pay. The ruling emphasized that a low level of charity care did
not necessarily mean that a hospital had failed to meet the requirement since that
level could reflect its financial ability to provide such care. The ruling also noted
that publicly supported community hospitals would normally qualify as charitable
organizations because they serve the entire community, and a low level of charity
care would not affect a hospital’s exempt status if it was due to the surrounding
community’s lack of charitable demands.
Community Benefit Standard
In 1969, the IRS issued Revenue Ruling 69-545, which “remove[d]” from
Revenue Ruling 56-185 “the requirements relating to caring for patients without6
charge or at rates below cost.” Under the standard developed in Revenue Ruling 69-
545, which is known as the “community benefit standard,” hospitals are judged on
whether they promote the health of a broad class of individuals in the community.
The ruling involved a hospital that only admitted individuals who could pay for
the services (by themselves, private insurance, or public programs such as Medicare),
but operated a full-time emergency room that was open to everyone. The IRS ruled
that the hospital qualified as a charitable organization because it promoted the health
of people in its community. The IRS reasoned that because the promotion of health
was a charitable purpose according to the general law of charity, it fell within the
4 Treas. Reg. § 1.501(c)(3)-1(d)(2).
5 Rev. Rul. 56-185, 1956-1 C.B. 202.
6 Rev. Rul. 69-545, 1969-2 C.B. 117.
“generally accepted legal sense” of the term “charitable,” as required by Treas. Reg.
§ 1.501(c)(3)-1(d)(2).7 Expanding on this point, the ruling stated that
The promotion of health, like the relief of poverty and the advancement of
education and religion, is one of the purposes in the general law of charity that
is deemed beneficial to the community as a whole even though the class of
beneficiaries eligible to receive a direct benefit from its activities does not
include all members of the community, such as indigent members of the
community, provided that the class is not so small that its relief is not of benefit8
to the community.
The IRS concluded that the hospital was “promoting the health of a class of persons
that is broad enough to benefit the community” because its emergency room was
open to all and it provided care to everyone who could pay, whether directly or
through third-party reimbursement.9 Other characteristics of the hospital that the IRS
highlighted included the following: its surplus funds were used to improve patient
care, expand hospital facilities, and advance medical training, education, and
research; it was controlled by a board of trustees that consisted of independent civic
leaders; and hospital privileges were available to all qualified physicians.
It appears that the community benefit standard was adopted partly in response
to the enactment in 1965 of Medicare and Medicaid, which some thought would
reduce the need for hospitals to provide charity care.10 Its adoption by the IRS may
also have been a response to concerns about the charity care standard. These
concerns were evidenced in a legislative proposal, introduced in the same year
Revenue Ruling 69-545 was issued, that would have created an explicit category in
IRC § 501(c)(3) for hospitals.11 The House Report accompanying the bill expressed
concern with how the charity care standard was applied in practice:
In a number of cases internal revenue agents have challenged the exempt status
of hospitals on the sole ground that the hospitals are accepting insufficient
numbers of patients at no charge or at rates substantially below cost. This has
resulted in significant uncertainty as to the extent to which a hospital must accept12
patients who are unable to pay, in order to retain its exempt status.
Shortly after the House Report was released, the IRS issued Revenue Ruling 69-545.
The Senate Finance Committee then removed the hospital provision from the bill,
noting the existence of the new ruling and stating it would look at the issue when it
7 Id. (citing to Restatement (Second), Trusts, sec. 368 and sec. 372; IV Scott on Trusts (3rd
ed. 1967), sec. 368 and sec. 372).
8 Id. (citing to Restatement (Second), Trusts, sec. 368, comment (b) and sec. 372, comments
(b) and (c); IV Scott on Trusts (3rd ed. 1967), sec. 368 and sec. 372.2).
10 See STAFF OF S. COMM. ON FINANCE, 91ST CONG., MEDICARE AND MEDICAID: PROBLEMS,
ISSUES, AND ALTERNATIVES, at 56 (Comm. Print 1970) [hereinafter Staff Report].
11 Tax Reform Act of 1969, H.R. 13270, 91st Cong. (1969) (enacted into law , P.L. 91-172,
without the hospital provision).
12 H.Rept. 91-413, pt. 1, at 43 (1969).
addressed pending Medicare and Medicaid legislation.13 A subsequent Finance
Committee staff document on Medicare and Medicaid issues advocated that the
ruling be revoked and the charity care standard be reimposed until Congress could
address the situation.14
Legal Challenge to the Community Benefit Standard. After the IRS
released Revenue Ruling 69-545, several indigents and organizations with indigent
members filed a class action suit challenging the authority of the IRS to implement
the community benefit standard, which they argued was inconsistent with the term
“charitable” in IRC § 501(c)(3) because it did not require treatment of the poor. In15
a 1976 decision, Simon v. Eastern Kentucky Welfare Rights Organization, the
Supreme Court held that the plaintiffs lacked the constitutionally required standing
to bring the suit. To have standing, “[a] plaintiff must allege personal injury fairly
traceable to the defendant’s allegedly unlawful conduct and likely to be redressed by16
the requested relief.” The plaintiffs’ alleged injury was that the adoption by the IRS
of the community benefit standard had encouraged hospitals to not provide necessary
medical care to the indigents. The Court, in holding that they failed to meet the
constitutional requirements for standing, reasoned that it was “purely speculative” as
to whether (1) the hospitals had denied the treatment because of the new ruling and
not because of other, non-tax reasons and (2) the plaintiff’s success would result in
the care being provided since some hospitals could choose to give up their tax-
exempt status if the cost of the care was too high.17
Further Development of the Community Benefit Standard. The IRS
continues to use and develop the community benefit standard. For example, in 1983,
the IRS issued Revenue Ruling 83-157, which clarifies the standard’s requirement
13 S.Rept. 91-552, at 61 (1969).
14 See Staff Report, supra note 10, at 56 (“The staff strongly recommends revocation of
Revenue Ruling 69-545 in light of the recent legislative history and continuation of the prior
position of the Service until such time as Congress can devise an alternative approach
establishing reasonable yardsticks of charitable service related to the financial capacity of
a hospital. Such action by the Service would assist in protecting the availability of necessary
hospital care to Medicare, Medicaid, and other poor patients”).
15 426 U.S. 26 (1976). The plaintiffs had prevailed before the district court, which had
voided Revenue Ruling 69-545 as being “improperly promulgated” because there was
insufficient justification for the “clear change of previously administered policy.” E. Ky.
Welfare Rights Org. v. Shultz, 370 F. Supp. 325, 336-38 (D.D.C. 1973). The D.C. Circuit
Court of Appeals reversed the district court’s decision, finding that the IRS interpretation
of “charitable” was permissible because the term’s definition “has never been static and has
been broadened in recent years” and “is thus capable of a definition far broader than merely
the relief of the poor.” E. Ky. Welfare Rights Org. v. Simon, 506 F.2d 1278, 1286-90 (D.C.
Cir. 1974). The court reasoned that limiting the term to relief of the poor “fails to recognize
the changing economic, social and technological precepts and values of contemporary
society.” Id. at. 1288.
16 Allen v. Wright, 468 U.S. 737, 751 (1984).
17 426 U.S. at 42, 43.
that a hospital operate an emergency room that is open to the public.18 While an
important factor in Revenue Ruling 69-545 was that the hospital operated an
emergency room open to everyone, Revenue Ruling 83-157 states that a hospital
without an emergency room may still qualify for exempt status if other conditions are
met. The ruling recognized that there are circumstances in which hospitals may not
need to operate emergency rooms, such as when a state agency has determined that
its operation of an emergency room would be duplicative or when a hospital operates
in a specialized field in which it is unlikely that emergency care would be required.
In these situations, a hospital may still qualify as a charitable organization if it shows
other evidence that it provides benefits to the community by promoting the health of
a broad class of persons. The ruling listed examples of other factors that may be used
as evidence: a board of directors chosen from members of the community; an open
medical staff policy; treatment of patients using public programs (e.g., Medicare and
Medicaid); and using surplus funds for improving patient care, facilities, equipment,
and medical training, education, and research.
In the past several years, questions have arisen as to whether non-profit hospitals
deserve the benefits they receive as § 501(c)(3) charitable organizations.19 Areas of
controversy include the prices charged to low-income uninsured patients for medical
care in comparison to those charged patients paying through insurance; the methods
used by hospitals to collect payment from low-income patients (e.g., the use of debt
collectors) and the classification of bad debt as a community benefit; an increasing
number of partnerships between tax-exempt hospitals and for-profit entities; and the
amount of compensation paid to high-level employees. Additionally, some have
questioned whether the community benefit standard is correct, or whether tax-exempt
hospitals should categorically be required to provide a certain level of charity care.
In 2004 and 2005, more than 45 class action lawsuits were filed in at least 25
states that challenged the treatment and billing practices of § 501(c)(3) hospitals with
respect to low-income uninsured individuals.20 One claim in these suits was that IRC
§ 501(c)(3) created a contract between the federal government and hospitals or a
charitable trust for the public’s benefit. According to the plaintiffs, the establishment
of the contract or trust required tax-exempt hospitals to provide emergency treatment
to patients regardless of their ability to pay, charge affordable and fair prices for
18 Rev. Rul. 83-157, 1983-2 C.B. 94.
19 See, e.g., John Carreyrou and Barbara Martinez, Nonprofit Hospitals, Once For the Poor,
Strike It Rich; With Tax Breaks, They Outperform For-Profit Rivals, Wall St. J., Apr 4,
20 See, e.g., McCoy v. E. Tex. Med. Ctr. Reg’l Healthcare Sys., 388 F. Supp. 2d 760 (E.D.
Tex. 2005); Valencia v. Miss. Baptist Med. Ctr., Inc., 363 F. Supp. 2d 867 (S.D. Miss.
2005); Amato v. UPMC, 371 F. Supp. 2d 752 (W.D. Penn. 2004); Ferguson v. Centura
Health Corp., 358 F. Supp. 2d 1014 (D. Colo. 2004); Quinn v. BJC Health Sys., 364 F.
Supp. 2d 1046 (E.D. Mo. 2005). The Judicial Panel for Multidistrict Litigation denied a
motion to consolidate the cases. See In re Not-for-Profit Hospitals/Uninsured Patients
Litigation, 341 F. Supp. 2d 1354 (J.P.M.L. Oct. 19, 2004).
medical care, and not engage in abusive collection practices. Courts have rejected
these claims, finding that IRC § 501(c)(3) clearly neither creates a contract or a
charitable trust, nor provides third-party beneficiaries with a private cause of action.
As one court stated, “Plaintiffs here have lost their way; they need to consult a map
or a compass or a Constitution because Plaintiffs have come to the judicial branch
for relief that may only be granted by the legislative branch.”21 While these suits
were dismissed, they did bring additional attention to the issue of whether § 501(c)(3)
hospitals are providing sufficient social benefits to justify their tax-exempt status.
Recent Congressional Activity
In 2005 and 2006, both the Senate Finance and House Ways and Means
Committees held hearings on tax-exempt hospitals.22 Additionally, in 2007, the
minority staff on the Senate Finance Committee released a discussion draft of
possible tax-exempt hospital reforms and invited public comment on them.23 Among
the proposals put forth in the discussion draft were a requirement that each hospital
maintain and publicize a charity care program and provide minimum amounts of
charity care measured as a percentage of that hospital’s total operating expenses.24
Recent IRS Activity and Schedule H of Form 990
In 2006, the IRS sent questionnaires to approximately 600 large hospitals
throughout the country to collect information on how hospitals operated (e.g., billing
practices, emergency room availability, and compensation) and what types of
community benefits they provided.25 Amid concerns about “whether there [were]26
differences between for-profit and tax-exempt hospitals,” the IRS announced that
hospitals would be required to provide additional information specific to their
industry on a new Schedule H of the redesigned Form 990 (the annual information
21 Kolari v. New York-Presbyterian Hosp., 382 F. Supp. 2d 562, 565-56 (S.D.N.Y. Mar. 29,
22 Taking the Pulse of Charitable Care and Community Benefits at Nonprofit Hospitals:
Hearing before the Senate Committee on Finance, 109th Cong. (2006), available at
[http://finance.senate.gov/sitepages/hearing091306.htm]; Hearing on the Tax-Exemptth
Hospital Sector before the House Committee on Ways and Means, 109 Cong. (2005),
available at [http://waysandmeans.house.gov/hearings.asp?formmode=detail&hearing=415].
23 Senate Finance Committee Minority Staff, Tax-Exempt Hospitals: Discussion Draft
(2007), available at [http://finance.senate.gov/press/Gpress/2007/prg071907a.pdf].
24 Id. at 6-10.
25 The questionnaire, Form 13970, is available on the IRS website at
[http://www.irs.gov/charities/charitable/article/0,,id=157660,00.html]. An initial report
discussing the number and types of responses to the survey is available at
[ ht t p: / / www.i r s.gov/ pub/ i r s-t e ge / e o_i nt er i m_hospi t a l _r e por t _072007.pdf ] .
26 IRS, Draft Form 990 Redesign Project - Schedule H: Instructions, at 1, June 14, 2007,
available at [http://www.irs.gov/pub/irs-tege/draftform990redesign_schh_instr.pdf]
[hereinafter June 14 Draft Comments].
return filed by tax-exempt organizations).27 The IRS released a draft Schedule H in
June 2007 and, after seeking public comment on the draft, issued the final version in
December 2007. Drawn heavily from, but not identical to, the community benefit
reporting model used by the Catholic Health Association of the United States (CHA),
Schedule H was drafted to “combat the lack of transparency surrounding the
activities of tax-exempt organizations that provide hospital or medical care.”28
Comments on the draft expressed immediate concerns about the technical and
procedural implications of the addition. For example, comments on draft versions
of Schedule H reflected uncertainty over what constituted a hospital and whether
multiple iterations of the Schedule were required for entities that operated more than
one hospital facility. The comments by the IRS released simultaneously with the
final revision indicated that the IRS intended to defer to definitions of hospitals found
in the various states’ laws and that only one Schedule H would be required for an
entity with a single employer identification number, regardless of the number of
hospitals run by it.29
The IRS specifically solicited comments on the possibility that the proposed
rollout of Schedule H could impose a heavy burden if entities would need to retool
their internal accounting or reporting mechanisms in order to gather the necessary
information.30 In response to received comments, the new Schedule H will be rolled
out gradually. Beginning with tax year 2008 (returns filed in 2009), the only portion
of Schedule H required will be the disclosure and description of the hospital facilities
operated by the filing entity. The portions of the Schedule used to report details of
a hospital’s charity care program and community benefit expenditures will be
optional. However, the entire Schedule will be mandatory beginning with tax year
Schedule H contains six parts, each of which will be discussed in detail below.
Part I requests details about a hospital’s charity care program and attempts to quantify
charity care expenditures. Part II quantifies the hospital’s community building
activities. Part III quantifies the costs due to Medicare shortfalls and bad debts owed
to the organization. Part IV requires disclosure of any joint ventures in which a
hospital participates. Part V requests information about the entity’s health care
27 IRS, Press release: IRS Releases Final 2008 Form 990 for Tax-Exempt Organizations,
Adjusts Filing Threshold to Provide Transition Relief, Dec. 20, 2007, available at
[http://www.irs.gov/newsroom/article/0,,id=176722,00.html]. The new Schedule H is part
of a significant redesign of the entire Form 990.
28 June 14 Draft Comments, supra note 26, at 1.
29 IRS, Form 990 Redesign for Tax Year 2008 Schedule H, Hospitals — Highlights, at 2,
Dec. 20, 2007, available at [http://www.irs.gov/pub/irs-tege/highlights_schedule_h.pdf]
[hereinafter Dec. 20 Draft Highlights]. See, also, IRS, 2008 Schedule H (Form 990)
Instructions - Draft, at 4-5, Apr. 7, 2008, available at [http://www.irs.gov/pub/irs-tege/
30 IRS, Background Paper: Redesigned Draft Form 990, at 5, June 14, 2007, available at
[ ht t p: / / www.i r s.gov/ pub/ i r s-t e ge / f or m_990_cover _sheet .pdf ] .
31 Dec. 20 Draft Highlights, supra note 29, at 5-6.
facilities. Part VI provides an area in which to discuss, in a narrative fashion, other
charitable activities that may be difficult to quantify.
Part I: Quantifying the “Community Benefit” Standard. Part I attempts
to quantify the amount of community benefit provided by hospitals on an annual
basis. The metric the IRS has chosen to quantify community benefit is dollars spent.
Qualifying expenses include free care, unreimbursed Medicaid, community health
improvement services, health professions education, subsidized health services,32
research, and contributions to other community groups.
Aside from concerns about the technical aspects of the new Schedule H, several
substantive criticisms also emerged from the public comments. For the most part,
these criticisms stemmed from the perception that the categories of charity care and
community benefit envisioned by the IRS were underinclusive.33 The agency had
explicitly stated in its comments accompanying the initial draft of Schedule H that
the Schedule was an attempt to “quantify, in an objective manner, the community34
benefit standard applicable to tax-exempt hospitals.” While the IRS did not suggest
a minimum level of expenditures that would be required in order to justify tax-
exemption, it is probable that some hospitals were concerned that the exclusion of
certain expenditures would make themselves appear, on paper, undeserving of tax-
exempt status. By and large, these criticisms focused on three specific omissions:
community building expenditures, Medicare shortfalls, and bad debt.
Part II: Community Building. The final draft of Schedule H includes an
area, Part II, in which to report community building expenditures. Although the
definition of “community building” may not be obvious at first glance, it is generally
understood to refer to programs that are intended to have a beneficial impact upon
the health of a community but that do not provide medical care.35 Examples of
community building taken from the final draft of Schedule H are housing
improvements, economic development, community support, environmental
improvements, leadership development, coalition building, community health
improvement advocacy, and workforce development.36
The initial draft of Schedule H did not include community building activities in
its calculation of community benefit. In comments on the initial draft, the CHA
32 IRS, Schedule H to Form 990, Final Draft, at Part I, December 20, 2007, available at
[http://www.irs.gov/pub/irs-tege/f990rschh.pdf] [hereinafter Schedule H, Final Draft].
33 See, e.g., American Hospital Association, Comments on Draft Schedule H, at 2-4, Aug.
Comments Related to Schedule H, at 4, Sept. 12, 2007, [hereinafter CHA Comments];
Health Law and Taxation Sections of the American Bar Association, Comments Concerning
Discussion Draft of Redesigned Form 990 for Tax-exempt Organizations, at 66-69, Oct. 4,
34 June 14 Draft Comments, supra note 26, at 1.
35 See, e.g., AHA Comments, supra note 33, at 7; CHA Comments, supra note 33, at 8; ABA
Comments, supra note 33, at 69.
36 Schedule H, Final Draft, supra note 32, at Part II.
strongly opposed their exclusion. The CHA argued that “there is clear consensus in
the public health community that social and environmental factors are strong
determinants of health for vulnerable populations,” citing publications from the
Centers for Disease Control and other scholarly articles.37 Additionally, the CHA
noted that “every community building activity would qualify for exemption on a
Despite the inclusion of community building metrics in the final draft of
Schedule H, these numbers are still separate from the reporting of charity care and
community benefit expenditures in Part I. The IRS commentary on the final draft
reflected the view that the link between community building and health was still
tenuous and that the reporting tools in Schedule H are intended to operate, in part, as
data collection methods for the IRS to discern what links exist.39
Part III: Medicare Shortfalls. Hospitals incur costs when treating all
patients, including patients who are covered by Medicare. Medicare, however, may
not reimburse a provider for the total cost of services received by a patient. The
difference between the Medicare reimbursement rates and the costs incurred by a
hospital are called shortfalls.
Some commentators expressed a belief that a hospital should be allowed to
include the aggregate amount of these shortfalls in any calculation of the total
community benefit provided by that hospital. For example, comments from the
Health Law and Taxation Sections of the American Bar Association (ABA) reasoned
that “the entire amount of any ‘Medicare shortfall’ should count as ‘charity care,’
because the elderly constitute a clearly-recognized charitable class.”40 Additionally,
the American Hospital Association (AHA) commented that “many Medicare
beneficiaries, like their Medicaid counterparts, are poor,” and would have qualified41
for a hospital’s charity care program or Medicaid in addition to Medicare. If these
patients had been treated as charity care, the entire cost of medical care would have
been considered community benefit under Part I. Additionally, any shortfall in
Medicaid reimbursement would similarly have been included in community benefit.
Others, however, argued that Medicare shortfalls are not a useful metric for
determining community benefit. The Catholic Health Association, opposing
inclusion, noted that “many for-profit hospitals compete aggressively for these42
[Medicare] patients.” In its view, measuring Medicare shortfalls would not usefully
distinguish for-profit hospitals from those seeking tax exemption, and creating
37 CHA comments, supra note 33, at 9.
38 Id. at 10.
39 Dec. 20 Draft Highlights, supra note 29, at 4.
40 ABA Comments, supra note 33, at 66 (citing Rev. Rul. 1972-124, 1972-1 C.B. 145).
41 AHA Comments, supra note 33, at 5.
42 CHA Comments, supra note 33, at 14. The discussion of Medicare shortfalls may also
raise the question whether shortfalls in reimbursement from for-profit insurers should also
be counted as uncompensated care.
distinctions between these two groups is necessary to ensure that tax exemption
retains its credibility with policy makers. Notwithstanding these arguments, the CHA
noted that “if, at some point, access problems emerge for Medicare patients, the
rationale for including Medicare services as community benefit increases.”43
In the final draft of Schedule H, the IRS provided a dedicated area in Schedule
H in which to report Medicare shortfalls. Despite the addition of Part III, the IRS
does not treat Medicare shortfalls as a direct measure of community benefit, in and
of themselves. Instead, hospitals are asked to “[d]escribe ... the extent to which any
shortfall reported in [this part] should be considered as community benefit.”44
Part III (continued): Bad Debt. Hospitals regularly engage in billing and
collection practices in order to recoup co-pays, deductibles, and other expenses from
patients. During the collection process, there may occur a point at which it becomes
apparent that a debt owed to the hospital has little or no potential of repayment. In
accordance with sound accounting practices, it is customary to “write off” these debts
as “bad debt.”
Because bad debts, by definition, represent services hospitals have provided
without compensation, some believe that the aggregate amount of bad debt should
be included in any calculation of community benefit. Community benefit in the
context of the provision of health care services normally refers to means-tested
eligibility programs, but the ABA noted that “hospitals continue to have difficulty
separating traditional uncompensated care from true bad debt” due to “issues45
associated with identifying individuals who qualify for uncompensated care.”
Some portion of bad debt, therefore, appears to include the provision of care to46
individuals who would have been eligible for charity care. Proponents argue that
it is unfair to penalize a hospital with a reduced community benefit calculation
simply because the charity care program did not accurately classify these
Support for inclusion of bad debt was not universal among the comments
submitted. The Catholic Health Association noted that bad debt is a “‘cost of doing
business’ that affects taxable and tax-exempt organizations.”48 In CHA’s opinion,
reporting bad debt does not create meaningful distinctions between for-profit and
44 Schedule H, Final Draft, supra note 32, at Part III (emphasis added).
45 ABA Comments, supra note 33, at 66.
46 Uninsured or under-insured patients that cannot afford to pay are nevertheless charged,
and that inevitably leads to bad debt precisely because they cannot afford to pay.
47 One alternative put forth by the ABA is to include some percentage of bad debt, in
proportion to the amount of bad debt universally in a given region, as community benefit.
ABA Comments, supra note 33, at 67.
48 CHA comments, supra note 33, at 15.
non-profit entities that would justify tax exemption.49 CHA did not necessarily
dispute the theory that bad debt includes some patient charges that should be
considered charity care. Rather, CHA argued that hospitals should improve their
charity care programs to identify these patients at the onset of treatment, rather than
using bad debt to approximate the impact of these patients after the fact.50 In support
of this argument, CHA also noted that “many Catholic hospitals have changed their
policies and improved their ability to identify patients eligible for financial
assistance.”51 Some patient advocates have also noted the perceived inequity in
allowing hospitals to benefit from bad debt after instituting potentially aggressive and
damaging collection practices against patients.52
The final version of Schedule H allows hospitals to report bad debt in Part III
alongside Medicare shortfalls.53 As with Medicare shortfalls, filing hospitals will
have to explain what portion of bad debt should be considered community benefit.54
The IRS comments accompanying the final draft indicated that it does not intend to
automatically consider any portion of bad debt a community benefit, citing a lack of
consensus regarding bad debt policies among hospitals.55
Part IV: Management Companies and Joint Ventures. Part IV of
Schedule H asks tax-exempt entities that operate hospitals to list the joint ventures
they participate in. Joint ventures can be problematic in the non-profit healthcare
context for a variety of reasons. If physicians with staff privileges at the hospital also
have a proprietary interest in the joint venture, referrals to that joint venture may
violate federal prohibitions against self-referrals or kickbacks.56 If directors or
trustees of the hospital have a proprietary interest in that joint venture, the non-profit
status of the hospital could be jeopardized by any benefit that they receive as a result57
of their interest in the venture. Similarly, in St. David’s Health Care System v.
United States, the Fifth Circuit held that a joint venture’s profit motive could58
undermine a non-profit partner’s status as a charitable organization.
50 Id. at 14-15.
51 Id. at 15.
52 See, e.g., Lucette Lagnado, Twenty Years and Still Paying: Jeanette White is Long Dead
But Her Hospital Bill Lives On, WALL ST. J., Mar. 13, 2003, at B1.
53 Schedule H, Final Draft, supra note 32, at Part III.
55 Dec. 20 Draft Highlights, supra note 29, at 3.
56 For a more detailed discussion of physician self-referral and federal law, see CRS Report
RL32494, Medicare: Physician Self-Referral (“Stark I and II”), by Jennifer O’Sullivan;
CRS Report RS22743, Health Care Fraud and Abuse Laws Covering Medicare and
Medicaid: An Overview, by Jennifer Staman.
57 Under IRC § 501(c)(3), the net earnings of a charitable organization may not flow to the
benefit of any private shareholder or individual.
58 St. David’s Health Care System v. United States, 349 F.3d 232, 237 (5th Cir. 2003).
For the most part, these issues are common to all tax-exempt organizations. The
majority of comments addressing this issue noted that the IRS already receives
information on joint ventures in the redesigned Form 990, and that only organizations
that operate hospitals are burdened with this extra reporting requirement in Schedule
H.59 In response, the IRS noted that the “unique relationship between hospitals and
physicians resulting from their special status of having medical staff privileges
without regard to employment appears to have no clear analogy in other exempt
organization contexts.”60 The IRS did limit this reporting requirement to those joint
ventures where directors, trustees, and physicians with staff privileges together
owned at least 10% of the joint venture.
Part V: Facility Information. Organizations are asked, in Part V of Schedule
H, to identify all hospital or medical care facilities and to indicate the types of
medical services provided by each. The definition of hospital or medical care does
not include assisted living services, vocational training for the disabled, or medical
education and research.61 In order to alleviate the burden of adapting to the new
Schedule H, this is the only part that will be required for tax year 2008.
Part VI: Supplemental Information. Part VI of Schedule H provides an
area in which to provide narrative information regarding the amount of community
benefit provided. The IRS stated that this area could be used to explain why some
portion of Medicare shortfall or bad debt reported in other areas of the Schedule
should be considered community benefit.62 In addition, hospitals may provide details
about other community benefits they provide that are not easily quantifiable.63
110th Congress. It does not appear that any bills have been introduced in the
the Charity Care for the Uninsured Act of 2007 (H.R. 973), that would create a new
tax credit for physicians who provide charity care. The credit would range from
$1,000 for physicians who had provided between 25 and 30 hours of medical care on
a volunteer or pro bono basis to $2,000 for those who had provided at least 50 hours
of such care. The care would have to be “for diagnosis, cure, mitigation, treatment,
or prevention of disease, or for the purpose of affecting any structure or function of
109th Congress. In the 109th Congress, then-Chairman William Thomas of
the House Ways and Means Committee introduced the Tax Exempt Hospitals
59 See, e.g., AHA Comments, supra note 33, at 8-9; CHA Comments, supra note 33, at 12-
60 Dec. 20 Draft Highlights, supra note 29 at 5.
61 June 14 Draft Comments, supra note 26, at 8.
62 Dec. 20 Draft Highlights, supra note 29, at 5.
63 Id.; See also, Schedule H, Final Draft, supra note 32, at Part III.
Responsibility Act of 2006 (H.R. 6420). This bill would have imposed requirements
on § 501(c)(3) medical care providers relating to their treatment of low-income
uninsured individuals. Medical care providers subject to the bill would be those (1)
with the principal purpose of providing medical or hospital care; (2) with the
principal purpose of providing medical education or research that are actively
engaged in providing medical or hospital care, or (3) required to be licensed as
hospitals under state law.
A medical care provider would have only been eligible for § 501(c)(3) status if
it (1) adopted policies and procedures, consistent with the requirements imposed by
the new excise taxes discussed below, for providing and charging for medically
necessary care to low-income uninsured individuals, and (2) normally operated in a
manner consistent with those policies and procedures. Not only would a provider
that failed to meet these requirements be ineligible for § 501(c)(3) status, but no
deduction would be allowed for making what would otherwise be a charitable
contribution to it. “Medically necessary care” would be defined as medical care
within the scope of care provided by the provider unless (1) the treating physician
determined the care to be unnecessary; (2) the patient signed a waiver acknowledging
it was unnecessary; or (3) the care involved an organ transplant, cosmetic or
experimental care, or treatment to improve the functioning of a malformed member.
The bill would have also created three new excise taxes to penalize medical care
providers that failed to meet certain requirements. First, a tax of $1,000 would be
imposed each time a provider failed to provide the necessary care to a low-income
uninsured individual who sought care in person. Second, a tax would be imposed if
a provider collected an amount for necessary care from a low-income uninsured
individual that exceeded the maximum allowed charge. The tax would equal 3 times
the excess. The maximum allowed charge would be (1) $25 per visit if the patient’s
household income was not more than 100% of the applicable poverty line or (2) the
average amount paid to the provider under contracts with private health insurers if
the patient’s household income was between 100% and 200% of the applicable
poverty line. Third, providers would be taxed if they failed to disclose their policies
on providing and charging for medical necessary care. The penalty would be (1)
$1,000 for each time the provider failed to provide the information in the patient
admission process or when attempting to charge the patient or (2) $1,000 for each
day, with a maximum of $50,000, the provider failed to make publicly available its
policies and average prices paid for medical care, grouped by private health
insurance, self-pay, and government health programs.
The bill, through its excise tax scheme, would have addressed some of the
concerns expressed about § 501(c)(3) hospitals relating to charity care, prices charged
to low-income uninsured patients, and transparency about policies and prices.
Without explicitly stating it, the bill would have essentially defined the term
“charitable” in IRC § 501(c)(3) as it relates to hospitals to require relief of the poor.
However, this implicit charity care requirement does not squarely match the historic
charity care standard. The bill would only require charity care if it is “medically
necessary” and would not make any exceptions for hospitals that did not have the
financial means to provide charity care. It would appear that hospitals could fail to
comply with the new excise tax requirements without jeopardizing their tax-exempt
status under this bill so long as such failures were not normal. This seems to leave
open the possibility that, for example, a hospital could choose to pay the $1,000 tax
rather than provide treatment to a particular patient. However, even where such
behavior was not normal, these incidents might undercut a hospital’s rationale for
enjoying tax-exempt status. It could also be unclear where the bill would leave the
community benefit standard since it would not expressly repeal it.