In our last post, we discussed the unsung hero of IRS Notice 2014-67 – the new, 5-year safe harbor from private business use that everyone – governmental users and 501(c)(3)s, and not just Accountable Care Organizations (ACOs) – can use immediately for management contracts covering a bond-financed facility. The much more publicized, limelight-hogging aspect of Notice 2014-67 relates to the treatment of ACOs for purposes of measuring private business use of a tax-advantaged bond-financed facility.

This post addresses thoughts, comments, and questions regarding these ACO safe harbor provisions of Notice 2014-67 that amplify Rev. Proc. 97-13. Those safe harbor provisions, if met, would allow governmental entities or 501(c)(3) organizations (each a Qualified User) to participate in the Shared Savings Program (SSP) (the Medicare program described in Sections 3022 and 10307 of the Affordable Care Act) through ACOs without resulting in private business use of a bond-financed facility that the ACO uses. (To greatly oversimplify, the SSP is a program through which an ACO can receive payments if it meets certain targets by decreasing the cost of care to patients.)

At the outset, we note that implicit in the Notice’s creation of this safe harbor is confirmation that a Qualified User’s participation in an ACO may result in private business use where the ACO includes private parties, such as a physician’s group, which will almost always be the case. 

The Notice provides that participation by a Qualified User in the SSP through an ACO will not result in private business use of a bond-financed facility if all of the following conditions are met:

  1. The terms of the Qualified User’s participation in the SSP through the ACO (including its share of the SSP payments or losses and expenses) are set forth in advance in a written agreement negotiated at arm’s length;
  2. The Centers for Medicare and Medicaid Services has accepted the ACO into, and has not terminated the ACO from, the SSP;
  3. The Qualified User’s share of economic benefits derived from the ACO (including its share of SSP payments) is proportional to the benefits or contributions the Qualified User provides to the ACO, any ownership interest in the ACO received is proportional and equal in value to the Qualified User’s capital contributions to the ACO, and all ACO returns of capital, allocations, and distributions are made in proportion to ownership interests;
  4. The Qualified User’s share of ACO losses does not exceed the share of ACO economic benefits to which the Qualified User is entitled;
  5. All contracts and transactions entered into by the Qualified User with the ACO and its participants, and by the ACO with the ACOs participants and any other parties, are at fair market value; and
  6. The Qualified User does not contribute or otherwise transfer the property financed with tax-exempt bond proceeds to the ACO unless the ACO is either a governmental entity or, in the case of qualified 501(c)(3) bonds, either a governmental entity or a 501(c)(3) organization.

We have several suggestions for these safe harbor requirements:

The Notice draws a distinction between ACOs that do participate in the SSP and those that don’t, even though either type could create private business use.

First, the Notice limits the safe harbor benefits to a specific subcategory of ACOs, namely those that participate in the SSP. The IRS could consider whether this limitation should be imposed or whether instead if ACOs that do not participate in the SSP but are essentially the same as ACOs that do participate in the SSP should be afforded the same safe harbor benefits.

Of necessity, one of the overriding requirements of the Notice is that “participation by a user of a health care facility financed with tax-exempt bonds in the [SSP] through an ACO that includes participants that are nongovernmental persons must be structured so as not to result in private business use of the facility.”  Some ACOs have chosen not to participate in the SSP, and some ACOs that have already been formed are unwinding because they have not realized the cost savings that they had envisioned. While the Notice’s requirement that no private use be created is obvious, its failure to cover non-SSP participants (which, by their presence, could create private business use of a bond-financed facility, which the Notice implicitly suggests) leaves those entities outside the benefits that the Notice provides.

Further, several comment projects that organizations from the tax-exempt bond community submitted to the IRS regarding the treatment of ACOs for tax-exempt-bond purposes, particularly those from the National Association of Bond Lawyers (which recommended requirements 1 and 2, above) requested as an overriding recommendation that any guidance be broad, noting that the benefits intended by the creation of ACOs did not establish any perceived violation of the private business use rules through their use of bond-financed facilities, provided that their agreements do not contain contractual provisions that transfer the benefits of tax-exempt financing or a net-profits interest to a private business.

Is the IRS attempting to draw a distinction between these two types of ACOs and to allow the benefits of the Notice to inhere only to those participating in the SSP?   We are aware of no policy or statutory reason for such a distinction and ask whether it makes sense for the Notice not to extend to non-SSP ACOs. While many of the suggestions made by NABL in its report were adopted by the IRS, the report’s overriding request that the guidance be as expansive as possible was either overlooked or deliberately rejected as it might apply to this point.

The Notice contains several technical difficulties – including unfamiliar and undefined terms.

Second, the Notice’s provisions contain several technical difficulties.  One involves the requirement that, to meet the safe harbor, “the terms of a qualified user’s participation in the SSP through the ACO (including its share of the SSP payments or losses and expenses) [must be] set forth in advance in a written agreement negotiated at arm’s length.” Participation in the SSP already requires a written agreement with the Department of Health and Human Services.  Is the Notice intending to require an additional written agreement?  If it is not, having this requirement seems superfluous because it will always be met.  We note again taking from our prior comment, that this requirement would make sense for those entities that are not in the SSP as a way to receive the benefits of the Notice were it to be expanded to cover such entities.

Another technical difficulty with the Notice is that many of the terms of the ACO safe harbor, while conceptually logical, are largely left undefined.  How does one quantify the “qualified user’s share of economic benefits” that obviously include items beyond “its share of [SSP] payments”? What does it mean for these amounts to be “proportional to the benefits or contributions that the qualified user provided to the ACO”?  Similarly, what is the necessary analysis to determine that the Qualified User’s share of losses does “not exceed its share of economic benefits”?  Additionally, and importantly, how broad is the concept “all contracts and transactions” that must be at fair market value? Providing a section of defined terms in the Notice and some examples would assist in overcoming these ambiguities, assist Qualified Users and ACOs in their planning, and save the IRS from receiving inquiries and ruling requests on these questions.