A few years ago, I wrote two blog posts (#1 and #2) regarding the likely penalties that a hospital qualifying for Section 501(c)(3) status (a “501(c)(3) hospital”) would incur if it failed to comply with the Patient Protection and Affordable Care Act (“ACA”) provisions set forth in Section 501(r) of the Internal Revenue Code of 1986, as amended. In sum, there are three levels of penalties for three levels of violations. Minor violations of the ACA made inadvertently or due to reasonable cause may be corrected by the 501(c)(3) hospital without any need to disclose them. Mid-level violations of the ACA require corrective action, restitution, and a public disclosure of the violation by the 501(c)(3) hospital. Willful or egregious violations may result in revocation of a 501(c)(3) hospital’s status as such.
Letter Ruling 201731014, which is dated February 14, 2017 but was not published until late summer, sheds some light on what the IRS considers a “willful or egregious” violation of the ACA. In this letter ruling, the IRS found willful and egregious violations of the ACA, and therefore revoked the hospital’s 501(c)(3) status. One of the requirements set forth in 501(r) is that the 501(c)(3) hospital must conduct a community health needs assessment (a “CHNA”) every three years and adopt an implementation strategy to meet the community needs set forth in the CHNA. The 501(c)(3) hospital in PLR 201731014 apparently completed a CHNA at some point in order to continue to receive Medicare funding. However, the report was never made widely available to the public via the 501(c)(3) hospital’s website, nor was an implementation strategy ever developed. In addition, the administrators of the 501(c)(3) hospital told the IRS that the hospital had neither the financial wherewithal nor the employees to conduct a CHNA every three years.
If you are admiring the honesty of the 501(c)(3) hospital administrators, your admiration may not be warranted. The 501(c)(3) hospital was also a governmental hospital, and thus exempt from federal taxation (and eligible to be the beneficiary of tax-exempt bonds) on that basis. Apparently, when the 501(c)(3) hospital had financial difficulties and was planning to shutter its doors, a governmental agency agreed to take over. Thus, when the IRS was auditing the 501(c)(3) hospital, the administrators thereof stated that the hospital did not need its 501(c)(3) status. In fact, the administrators went so far as to gratuitously tell the IRS that they found the hospital’s 501(c)(3) status to be bothersome at times, as it prevented the hospital from participating in certain Medicare reimbursement arrangements.
Accordingly, we can assume that the 501(c)(3) administrators did not offer up relevant evidence as to how they tried to comply with the CHNA requirement set forth in 501(r) but were not able to do so, despite their good intentions, due to a lack of resources. That plausible scenario would have provided a lot more insight for 501(c)(3) hospitals and their advisors. However, we do now know that if you are an entity with 501(c)(3) status, and would like to get rid of that status, just gratuitously tell the IRS that you find the 501(c)(3) status a nuisance, and the IRS might just take it away.
My last blog entry discussed how the final regulations issued last December under the Patient Protection and Affordable Care Act (“ACA”) were mostly good news for charitable hospitals that benefit from the issuance of 501(c)(3) bonds. For example, under these regulations, only egregious violations by a charitable hospital of the requirements imposed under the ACA should negatively affect the hospital’s 501(c)(3) status and, consequently, the tax-exempt status of the qualified 501(c)(3) bonds from which the hospital benefits.
Since that last post, the IRS has published Revenue Procedure 2015-21 (“2015-21”), which supplements the final regulations and is effective as of March 10, 2015. In general, 2015-21 provides procedures that charitable hospitals can follow so that certain mid-level failures under the ACA are excused. In order to be excused, however, the charitable hospital will be required to take corrective actions, make restitution and to wear a scarlet letter of sorts announcing to the public that it committed an ACA violation. (A scarlet “A” for “ACA violator.”) Although this may be somewhat painful, a charitable hospital should avail itself of these procedures so that one or more mid-level violations of the ACA do not collectively rise to the level of an egregious violation (which could result in the loss of a charitable hospital’s 501(c)(3) status and adversely affect the tax-exempt status of the qualified 501(c)(3) bonds that were issued for the hospital’s benefit).
As you may remember, the final regulations place ACA violations into three categories. The first category includes minor violations that were made inadvertently or due to reasonable cause. Under the final regulations, the charitable hospital may correct these failures without having to disclose them. The third category involves willful or egregious violations of the ACA. For this purpose, “willful” includes a violation resulting from gross negligence, reckless disregard, or willful neglect. An “egregious” violation results from a very serious failure after taking into account both the severity of the violation and the number of people affected by it. 2015-21 does not provide any relief for willful or egregious violations.
The second category of ACA violations under the final regulations are those that fall between the minor violations described above and the willful or egregious violations. 2015-21 applies to this mid-level category of ACA violations.
For a charitable hospital that has committed a mid-level ACA violation, 2015-21 provides procedures that will enable the charitable hospital to be excused – for a price. These procedures involve corrective action, restitution and a scarlet letter. In order to be valid, corrective action taken by the charitable hospital must be prompt, reasonable and appropriate. In addition, the charitable hospital must identify and correct any weaknesses in its practices and procedures. Finally, the charitable hospital must issue a refund to any individual that was negatively affected by a billing or collection violation (even if it was in a tax year that is now closed from an IRS audit standpoint).
In addition to correcting the problem, the charitable hospital must adequately disclose the ACA violation. Adequate disclosure of the ACA violation must be made on the charitable hospital’s Form 990 covering the tax year in which the violation was discovered. If the charitable hospital is not required to file a Form 990, it must disclose the violation on its website by the date that its Form 990 would have been required to have been filed if it had to file one. The disclosure must include an explanation of what caused the violation, the name of the specific hospital facility where the violation occurred, an estimate of the number of individuals who were negatively affected by the violation, and an estimate of the total number of dollars involved. In addition, the charitable hospital must disclose how it corrected the violation and any changes it made to its practices and procedures to ensure that such a violation will not happen again.
Finally, it should be noted that if a charitable hospital commits a mid-level violation of the Community Health Needs Assessment requirement, the $50,000 excise tax imposed by Section 4959 of the Internal Revenue Code will apply even if the charitable hospital follows the procedures set forth in 2015-21.
In sum, notwithstanding the public shaming of the scarlet letter, a charitable hospital with 501(c)(3) status should follow the procedures set forth in 2015-21 for all mid-level ACA violations in order to preserve both its 501(c)(3) status and the tax-exempt status of the qualified 501(c)(3) bonds from which the hospital benefits.