Not-for-profit hospital’s tax exemption case could signal trouble for others

Article is by Lisa Schencker, as seen in Modern Healthcare.com

Many not-for-profit hospitals across the country could potentially lose their tax exemption if they became subject to the same type of reasoning that recently led a New Jersey court to erase one hospital’s property-tax exemption in that state, experts say.

A New Jersey tax court decided in June that because Morristown (N.J.) Medical Center operates, in many ways, like a for-profit business, it should not be exempt from property taxes. Atlantic Health System and its facility brought the lawsuit against the municipality of Morristown after it denied, for several years, the medical center’s claims for property-tax exemptions.

The ruling comes at a time when not-for-profit hospitals’ tax-exempt statuses are under increased scrutiny amid concerns that some are acting more like for-profit entities, especially when it comes to overly aggressive debt collection from poor patients. Though the decision only immediately affected Morristown, experts say it could have broader implications for other hospitals in New Jersey and elsewhere.

“The facts they have here are not unique at all to Morristown,” said Michael Meissner, a tax partner at Squire Patton Boggs. “If this standard were applied across the board or across the country, you would have a lot of hospitals that would have some serious concerns.”

It’s something even the judge in the Morristown case alluded to in his opinion.

“If it is true that all non-profit hospitals operate like the Hospital in this case, as was the testimony here, then for purposes of the property-tax exemption, modern non-profit hospitals are essentially legal fictions,” wrote Judge Vito Bianco.

In the decision, the judge noted that the medical center has relationships with for-profit subsidiaries and owns a number of for-profit physician practices, among other entities. The court was “unable to discern between non-profit activities carried out by the Hospital on the Subject Property, and the for-profit activities carried out by private physicians,” according to the opinion.

“By entangling and co-mingling its activities with for-profit entities, the Hospital allowed its property to be used for forbidden for-profit activities,” according to the opinion.

Morristown Medical Center also paid its executives unreasonably high salaries, including $5 million to its CEO in 2005, according to the judge.

Attempts to get comment from Atlantic Health were not immediately successful Wednesday. An attempt to reach the mayor of Morristown for comment on the decision also was not immediately successful Wednesday.

Jim Flynn, who heads the healthcare practice group at Bricker & Eckler, said more challenges to hospitals’ property tax-exempt statuses are likely on the way.

“It’s not the first one of these, and it’s not going to be the last,” Flynn said of the Morristown case. Hospitals in Illinois, Ohio and Pennsylvania have also faced challenges.

Hospitals should be on guard when it comes to their tax-exempt statuses, Flynn said. Such cases may be on the rise, he said, as local and state governments look for ways to increase their property-tax revenue to deal with tight budgets.

Not-for-profit hospitals across the country saved about $3 billion in 2002 because of exemptions for local property taxes, according to an estimate from the Joint Committee on Taxation, a nonpartisan committee that helps Congress with tax legislation.

“This decision is obviously a bad sign for the way that trend is flowing,” Flynn said.

Many of the medical center’s practices condemned by the judge, such as transactions between Morristown and for-profit physicians, are actually fairly common to not-for-profit hospitals, he said.

The hospital’s executive compensation also is not particularly unique, Meissner said.

“Certainly, they are not the only hospital system in the country where the CEO is making multiple millions of dollars to run the hospital system,” Meissner said.

It can be difficult for hospitals to meet the goals of the Affordable Care Act—including improving care while lowering costs—without entering into many of the types of business arrangements criticized by the judge in the Morristown case, said Don Stuart, a partner at Waller Lansden Dortch & Davis, who also leads the American Health Lawyers Association’s tax and finance practice group.

“Hospitals are being pushed out there to become creative and collaborate and do more with what they have,” Stuart said. “They’re getting entangled … primarily because that’s been the mandate that’s sort of been put on them.”

Stuart said the Morristown case was somewhat unique in that the court focused on the hospital’s operations and structure, rather than the benefit it provides to the community in reaching its decision.

It’s the type of case that might inspire hospitals to work with their state legislatures to more clearly define what they must do to preserve their tax exemption, Stuart and Meissner said.

Illinois has already passed a law that essentially states that not-for-profit hospitals must provide an amount of no-cost charity care equal to what they are otherwise saving through property-tax exemptions, Stuart said.

“In New Jersey, it may end up being similar to Illinois, where hospital associations will get heavily involved, and perhaps legislation will come out that both sides may be agreeable to,” Stuart said.

In the ruling, Bianco said that because of the way hospitals have evolved since property-tax exemption laws were first passed, the issue of how to handle modern hospitals’ exemptions is more appropriate for the legislature than the courts.

“If the property-tax exemption for modern non-profit hospitals is to exist at all in New Jersey going forward, then it is a function of the Legislature and not the courts to promulgate what the terms and conditions will be,” he wrote.

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