On June 26, 2012, the IRS published proposed regulations that provide guidance on additional requirements for charitable hospital organizations for financial assistance and emergency medical care policies, charges for certain care provided to individuals eligible for financial assistance, and billing and collections.

Highlights of the Proposed Regulations

Not yet effective, but still important. The proposed regulations are not currently effective, are not currently binding on either the IRS or charitable organizations, and are proposed to apply only to taxable years beginning after the date final regulations are published by the IRS. Nonetheless, the proposed regulations provide insight into how the IRS is likely to interpret the additional requirements that currently apply to charitable hospital organizations under the Internal Revenue Code (Code), and merit careful consideration by hospital organizations when developing and revising their policies and procedures.

Detailed requirements would necessitate changes to the policies and practices of many hospitals. The proposed regulations would impose very detailed and specific requirements for content and implementation of financial assistance policies. It is notable that most of these rules are not framed as safe harbors, but as minimum requirements. The highly detailed nature of many of the proposed new rules would require many hospital organizations to significantly revise their financial assistance policies and practices.

Specific methods required for determining “amounts generally billed” (AGB) are new. The Code limits certain charges to AGB. The proposed regulations would require AGB to be determined by using one of two specified methods, 1) a “Look-Back Method” that is permitted to take into account claims paid in full for Medicare-fee-for-service and all private health insurers, and 2) a “Prospective Medicare Method” that takes into account only Medicare fee-for-service charges. These required methods are a significant departure from the permitted method referenced in the legislative history.

Specific procedures and time periods required for making “reasonable efforts” relating to billing and collection. The Code requires that a hospital organization make reasonable efforts to determine eligibility for financial assistance before taking extraordinary collection actions. The proposed regulations would impose detailed notification and other procedural requirements, including a notice period of 120 days or longer and an application period of 240 days or longer.

Emergency medical care policy requirements. The proposed regulations would provide that a hospital facility’s medical care policy must prohibit debt collection activities from occurring in the emergency department or in other hospital venues where such activities could interfere with the treatment of emergency medical conditions.

Community Health Needs Assessment (CHNA) requirement is not addressed. The proposed regulations do not provide further guidance on the requirement to conduct a CHNA. The IRS released interim guidance on those requirements in 2011 which can continue to be relied upon until the promulgation of regulations. Final regulations will likely address those requirements as well as the other requirements addressed in the proposed regulations.

Consequences for failure to comply are not addressed. The proposed regulations do not provide any guidance on the consequences of noncompliance, which will be the subject of future regulations. The need for such guidance is made greater by the very detailed nature of many of the proposed rules and the potentially harsh consequences of failure to comply with the new statutory requirements.

Public comments may be important. It is possible, but not certain, that final regulations will be more flexible in certain respects. Public comments from the nonprofit health care community will likely play an important role in the development of more workable final rules.

Summary of Key New Proposed Rules

Tables summarizing the new proposed rules are available here.

General Background

The Patient Protection and Affordable Care Act (PPACA), enacted in March 2010 established new requirements for section 501(c)(3) hospital organizations under the Code.

General Description of the Additional Requirements in the Code

The PPACA establishes additional requirements for any organization that operates at least one hospital facility to qualify as a section 501(c)(3) organization. In general, section 501(r) of the Code imposes the following new requirements.

CHNA. Each hospital facility is required to conduct a CHNA at least every three taxable years and adopt an implementation strategy to meet the community needs identified. A CHNA must take into account input from persons who represent the broad interests of the community served by the hospital facility, including those with special knowledge of or expertise in public health, and be made widely available to the public.

Financial assistance policy. Each hospital facility is required to adopt, implement, and widely publicize a written financial assistance policy. The financial assistance policy must indicate the eligibility criteria for financial assistance and whether such assistance includes free or discounted care, the basis for calculating amounts charged to patients, the method of applying for financial assistance, and, in the case of an organization that does not have a separate billing and collections policy, the actions that the organization may take in the event of non-payment, including collections action and reporting to credit agencies. Each hospital facility also is required to adopt a written policy requiring the organization to provide, without discrimination, care for emergency medical conditions to individuals regardless of their ability to pay.

Limitation on charges. Each hospital facility is permitted to bill for emergency or other medically necessary care provided to individuals who qualify for financial assistance under the facility’s financial assistance policy in amounts that do not exceed what is "generally billed to individuals who have insurance covering such care." A hospital may not use gross charges.

Collection processes. A hospital facility (or its affiliates) may not undertake extraordinary collection actions (even if otherwise permitted by law) against an individual without first making reasonable efforts to determine whether the individual is eligible for assistance under the hospital’s financial assistance policy.

The additional requirements addressed by the proposed regulations (that is, other than the CHNA requirement) are generally effective for taxable years beginning after March 23, 2010.

Failure to complete a CHNA in any applicable three-year period can result in a penalty on the organization of up to $50,000, in addition to possible revocation of status as a section 501(c)(3) organization.

Additional disclosure requirements. The PPACA also imposes new reporting and disclosure requirements on hospital organizations. Each organization must include in its Form 990 information return a description of how the organization is addressing the needs identified in each CHNA and a description of any such needs that are not being addressed, together with the reasons why such needs are not being addressed.

Continuing review by IRS and Treasury. The IRS is required to review information about a hospital’s community benefit activities at least once every three years. The PPACA requires the U.S. Secretary of the Treasury, in consultation with the U.S. Secretary of Health and Human Services (HHS), to submit annually a report to Congress with information regarding the levels of charity care, bad debt expenses, unreimbursed costs of government programs, as well as costs incurred by tax-exempt hospitals for community benefit activities. The Secretary of the Treasury, in consultation with the Secretary of HHS, must conduct a study of the trends in these amounts, and submit a report on such study to Congress not later than March 2015.

The additional requirements are more modest than some legislative proposals. The additional requirements are more modest additions to the eligibility requirements than certain proposals that have been made in the legislative process. Perhaps most importantly, section 501(r) of the Code does not subject tax-exempt hospital organizations to a minimum charity care requirement. A minimum charity care requirement was included in a U.S. Senate Finance Committee paper outlining options for financing health care, but was not enacted.

Prior Guidance on CHNA

The IRS published certain guidance on the CHNA requirements of section 501(r) of the Code in Notice 2011-52. The proposed regulations do not address the additional CHNA requirements. The IRS can be expected to published final regulations, however, that address both the CHNA requirements and the additional requirements addressed by the proposed regulations. The proposed regulations respond in part to public comments received by the IRS pursuant to a request for comments in Notice 2010-39.

Description of the Proposed Regulations

  1. Definition of “Hospital Facility” Focuses on State Law Licensing

The requirements of section 501(r) of the Code apply to each hospital facility operated by a 501(c)(3) organization. The proposed regulations would clarify that a hospital facility means a facility required by a state to be licensed, registered, or similarly recognized as a hospital. An organization may treat multiple buildings operating under a single state license as a hospital facility. The proposed regulations would except governmental hospital organizations that are 501(c)(3) organizations, but indicate that the IRS is receptive to receiving public comments regarding whether governmental hospital organizations merit special treatment.

  1. Definition of “Hospital Organization” Includes Organizations Participating in Joint Ventures

The proposed regulations also would provide that a hospital organization subject to the additional requirements includes a 501(c)(3) organization that operates a hospital facility through a disregarded entity, joint venture, limited liability company, or other entity treated as a partnership for federal tax purposes. The proposed regulations indicate that the IRS is receptive to considering comments about whether certain exceptions to this treatment should apply.

  1. Emergency Medical Care Policy Requirements

The proposed regulations would provide significant interpretation of the requirement of section 501(r)(4)(B) of the Code that a hospital facility must have a written policy to provide, without discrimination, care for emergency medical conditions regardless of their eligibility under the financial policy.

Notably, the proposed regulations specifically require that a hospital facility’s emergency medical care policy must prohibit the hospital facility from engaging in actions that discourage individuals from seeking emergency medical care, such as by demanding that emergency department patients pay before receiving treatment for emergency medical conditions or by permitting debt collection activities in the emergency department or in other areas of the hospital facility, where such activities could interfere with the provision, without discrimination, of emergency medical care. The proposed regulations also provide that an emergency medical care policy will generally meet the requirement of the Code if it requires the hospital facility to provide the care for any emergency medical condition that the hospital facility is required to provide under the federal regulations under the Emergency Medical Treatment and Labor Act.

  1. Financial Assistance Policy (FAP) Requirements

The proposed regulations set forth in detail the requirements for a written FAP. As is required by section 501(r)(4) of the Code, a FAP must apply to emergency and medically necessary care provided by the hospital facility and include:

  • Eligibility criteria for financial assistance and whether such assistance includes free or discounted care
  • The basis for calculating amounts charged to patients
  • The method for applying for financial assistance
  • In the case of a separate hospital facility that does not have a separate collections policy, the actions that may be taken in the event of nonpayment
  • Measures to widely publicize the FAP within the community served by the hospital facility

The proposed regulations would set forth detailed procedures required to meet each of these requirements.

Eligibility criteria and basis for calculating amounts charged to patients. The proposed regulations would require a FAP to:

  • Specify all financial assistance available under the FAP, including all discounts and free care and, if applicable, the amounts (e.g., gross charges) to which any discount percentages may be applied
  • Specify all of the eligibility criteria that an individual must satisfy to receive each such discount
  • State that, following a determination of FAP-eligibility, a FAP-eligible individual will not be charged more for emergency or other medically necessary care than the AGB to individuals who have insurance covering such care
  • Describe the method used to determine the AGB standard
  • If the hospital facility uses the Look-Back Method, either state the AGB percentages and how they were determined, or explain where this information can be obtained

Method for applying for assistance. The proposed regulations would require a FAP to describe how an individual applies for financial assistance and either the FAP or the FAP application form must specifically describe the information and documentation that an individual is required to submit. The proposed regulations would provide that a hospital facility may not deny financial assistance under the FAP based on an applicant’s failure to provide information or documentation that the application form does not require.

Actions that may be taken in the event of nonpayment. The proposed regulations would provide that either the FAP or a separate written billings and collections policy of the hospital facility must describe:

  • Any actions that the hospital facility (or other authorized party) may take relating to obtaining payment of a bill for medical care, including, but not limited to, any Extraordinary Collection Actions (ECA)
  • The process and specific time frames the hospital facility (or other authorized party) uses in taking actions to obtain payments, including, but not limited to, the reasonable efforts that it will take to determine whether an individual is FAP-eligible
  • The office, department, committee, or other body with the final authority or responsibility for determining that the hospital facility has made reasonable efforts to determine whether an individual is FAP-eligible

Widely publicizing the FAP. The proposed regulations would require detailed procedures to widely publicize a FAP, which include Web site posting, making available paper copies, and physical postings. The proposed regulations would require the hospital organization to, at no cost to the public:

  • Make the FAP, FAP application form, and plain language summary widely available on the organization’s Web site
  • Make paper copies of the FAP, FAP application form, and plain language summary of the FAP available upon request and without charge, both in public locations in the hospital and by mail
  • Inform and notify visitors to the hospital facility through conspicuous public displays or other measures reasonably calculated to attract visitor’s attention
  • Inform and notify residents of the community served by the hospital facility about the FAP in a manner reasonably calculated to reach those members of the community who are most likely to require financial assistance

Notably, the proposed regulations would require the materials covered (including the FAP, application form, and plain language summary) to be in English and the primary language of any populations with limited proficiency in English that constitute more than 10 percent of the residents of the community served by the hospital community.

The proposed regulations also would set forth detailed requirements for how materials are posted on the organization’s Web site, which requirements are generally focused on providing assurances that the postings are conspicuous and readily available.

  1. Limitations on Charges

The proposed regulations would provide a detailed interpretation of the requirement in section 501(r)(5) of the Code that generally requires a hospital facility to limit the amount charged for care it provides to any individual who is eligible for assistance under its FAP to (i) in the case of emergency or other medically necessary care, not more than the AGB to individuals who have insurance covering such care and (ii) in the case of all other medical care, less than gross charges for such care.

The proposed regulations would require a hospital facility to use one of two permitted methods to determine AGB: (i) a Look-Back Method and (ii) a Prospective Medicare Method. The regulations provide that a hospital may use either method but, once a choice is made, continue to use that particular method. Notably, the proposed regulations would not adopt the method for determining AGB indicated by the legislative history, which contemplated AGB may be based on either the best, or an average of the three best, negotiated commercial rates, or Medicare rates.

The Look-Back Method is based on the actual past claims paid to the hospital facility by either Medicare fee-for-service only or Medicare fee-for-service together with all private health insurers paying claims to the hospital facility (including, in each case, associated portions of these claims paid by Medicare beneficiaries or insured individuals). This method avoids the need to determine which private health insurers have the lowest rates, but also requires the hospital facility to take into account the rates paid by Medicare.

Under the Look-Back Method, a hospital facility would be required to calculate its AGB no less frequently than annually by dividing the sum of certain claims paid to the hospital facility by the sum of the associated gross charges for those claims. More specifically, the AGB percentages must be based on all claims that have been paid in full to the hospital facility for emergency and other medically necessary care by either Medicare fee-for-service alone or by medical fee-for-service and all private health insurers together as the primary payors of these claims during the prior 12-month period. A hospital facility must begin applying its AGB percentages by the 45th day after the end of the 12-month period the hospital facility used in calculating the AGB percentages.

The IRS specifically asks for public comments on whether the Look-Back Method can be based on a sampling of claims, whether the 45-day period is too short, and whether hospital facilities might significantly increase gross charges after calculating AGB.

The second permitted method to determine AGB is the Prospective Medicare Method. Under this method, a hospital facility may determine AGB for any emergency and medically necessary care by using the same billing and coding process that the hospital facility would use if the individual were a Medicare fee-for-service beneficiary.

The proposed regulations would define “gross charges” as the hospital’s full, established rate for medical care that the hospital facility consistently and uniformly charges all patients before applying any contractual allowances, discounts, or deductions. The proposed regulations would provide that the prohibition on gross charges applies to any medical care, not just emergency and medically necessary care, that is provided to a FAP-eligible individual. The proposed regulations would permit gross charges to be stated on hospital bills as a starting point.

  1. Billing and Collection Actions

The proposed regulations would provide detailed interpretation of the requirement in section 501(r)(6) of the Code that a hospital facility must not engage in ECAs against an individual before the hospital facility has made reasonable efforts to determine whether the individual is eligible for assistance under its FAP.

The proposed regulations provide that a hospital facility will have made reasonable efforts to determine whether an individual is FAP-eligible only if the hospital follows certain specified procedures for notification and processing FAP applications. The proposed regulations set forth separate requirements for individuals who submit incomplete applications and individuals who submit complete applications.

General notification requirement. The proposed regulations would require the following detailed notification process. The proposed regulations set forth a required notification period that generally begins on the first date care is provided to the individual and ends on the 120th day after the hospital facility provides the individual with the first billing statement for care. Under this process, the hospital facility must:

  • Distribute a plain language summary of the FAP and offer a FAP application form to the individual before discharge
  • Include a plain language summary with all (and at least three) billing statements for the care and all other written communications regarding the bill provided during the notification period
  • Inform the individual about the FAP in all oral communications with the individual regarding the amount due for the care that occur during the notification period
  • Provide the individual with at least one written notice that (i) informs the individual about the ECAs the hospital facility or other authorized party may take if the individual does not submit the application or pay the amount due by a deadline specified in the notice that is no earlier than the last day of the notification period; and (ii) is provided to the individual at least 30 days before the deadline specified in the written notice

If an individual submits a FAP application (whether complete or incomplete) during the application period, the hospital facility will be treated as having meet the notification requirement as of the day the application is submitted.

Reasonable efforts to review FAP applications to determine eligibility. The proposed regulations would establish specific procedures and timeframes to establish that a hospital organization has made reasonable efforts to determine whether an individual is FAP eligible. In general, a hospital facility must determine whether an individual is FAP eligible or provide required notices within a notification period ending 120 days after the first billing statement. Although a hospital facility may undertake extraordinary collection actions after this 120-day notification period, a hospital facility that has not determined whether an individual is FAP-eligible must still accept and process FAP applications for an additional 120 days. Accordingly, the hospital must accept and process applications for 240 days or longer after the first billing statement. If a hospital facility receives applications during the application period, it must suspend any extraordinary collection actions until it has processed the application and, if it determines the individual is FAP-eligible, must seek to reverse the extraordinary collection actions, and promptly refund any overpaid amounts.

If a hospital facility refers or sells an individual's debt to another party during the application period, the hospital facility would be required to obtain (and, to the extent legally applicable, enforce) a written agreement from that party that it will meet the general requirements relating to reasonable efforts that apply to the hospital facility.

Definition of ECA not limited to actions requiring legal or judicial process. The proposed regulations would generally provide that ECAs include any actions taken by a hospital facility against an individual related to obtaining payment of a bill for care covered under the hospital facility’s FAP that require a legal or judicial process, but also include certain actions that do not require legal or judicial process. The proposed regulations would provide that ECAs include, but are not limited to, actions to:

  • Place a lien on an individual’s property
  • Foreclose on an individual’s property
  • Commence a civil action against an individual
  • Cause an individual’s arrest
  • Cause an individual to be subject to a writ or body of attachment
  • Garnish an individual's wages
  • Selling an individual’s debt to another party
  • Reporting adverse information about the individual to consumer credit reporting agencies or credit bureaus

It is notable that the proposed regulations indicate that other actions requiring legal or judicial action could also be treated as ECAs.

  1. Little Guidance on the Standard for Compliance or the Consequences of Noncompliance

The proposed regulations provide that, for purposes of the requirement that a hospital organization has established a financial assistance policy, a billings and collections policy, or an emergency care policy, the organization must adopt and implement the policy. A hospital facility will be treated as having implemented a policy only if it has “consistently carried out the policy.” Accordingly, the proposed regulations appear to indicate that compliance based only on good-faith efforts to comply will not be sufficient. The proposed requirement that a policy be “consistently carried out” possibly could be read to imply that some level of inadvertent or other minor noncompliance is permitted, although that is not clear. The high level of detail of the requirements set forth in the proposed regulations increases the need for guidance relating to the consequences of noncompliance.

The preamble to the proposed regulations indicates that the IRS will address the consequences of failing to meet the requirements of section 501(r) of the Code in separate guidance.

By comparison, the IRS published final regulations in 2008 that provided general guidance on when an excess benefit transaction with a “disqualified person” will result in revocation of tax-exempt status in addition to imposition of excess benefit transaction excise taxes under section 4958 of the Code, Section 1.501(c)(3)-1(f) of the Income Tax Regulations. These final regulations indicate that the relevant facts and circumstances include, but are not limited to (1) the size and scope of the organizations regular and ongoing exempt purpose activities; (2) whether the organization has been involved in multiple excess benefit transactions; (3) whether the organization has implemented safeguards that are reasonably related to prevent excess benefit transactions; (4) whether the organization has implemented safeguards reasonably calculated to prevent excess benefit transactions; and (5) whether the excess benefit transaction has been corrected. These final regulations are one possible model that the IRS could consider, at least as a starting point, in developing guidance on the consequences of failure to comply with the requirements of section 501(r) of the Code.

What’s at Stake: Tax-Exempt Status for Both a Hospital Organization and Its Tax-Exempt Bonds

It merits particular emphasis that the new provisions for section 501(c)(3) hospital organizations that are set forth in 501(r) of the Code, like other section 501(c)(3) requirements, generally are all-or-nothing requirements. That is, if an organization fails to meet all of the requirements, even to a small degree, the Code technically states that an organization forfeits all of the federal tax benefits from its tax-exempt status, at least with respect to the hospital facility. The legislation provides that, if an organization fails to meet the requirements for a facility, it will not be treated as a section 501(c)(3) organization “with respect to any such facility.” Thus, it is possible that in some cases, certain of the adverse tax effects resulting from failure to comply could be limited to a hospital facility owned by an organization, rather than the entire organization, depending upon the facts and circumstances and how the IRS interprets this provision.

The Code does provide that failure to complete a CHNA in any applicable three-year period results in a penalty on the organization of up to $50,000. Although it is possible that the IRS could choose to impose this penalty on a noncompliant organization rather than revoke the tax-exempt status of the organization, the penalty is literally framed as a penalty in addition to loss of tax-exempt status. In addition, an organization failing to meet the new disclosure requirements could be subject to existing incomplete return penalties.

As is set forth above, the proposed regulations do not provide any guidance on the important question of the consequences of noncompliance. The Code provides that an organization must establish a FAP, but does not specifically detail the consequence if the policy is not actually followed to some degree. The legislative history states that the requirement is that an organization must adopt, implement, and widely publicize such a policy.

Change of Law Risk

One of the most important lessons to be taken from the additional requirements for charitable hospitals is that hospital organizations now appear to be subjected to heightened change of law risk in the future. By enacting the specific additional statutory requirements, Congress has plainly indicated a willingness to consider special statutory requirements for tax-exempt hospital organizations. In addition, the statutorily mandated periodic review and submission of reports relating to community benefit provided by section 501(c)(3) hospital organizations may increase the likelihood that Congress will consider additional requirements for section 501(c)(3) hospital organizations in the future and may increase IRS scrutiny of particular 501(c)(3) hospital organizations with the applicable requirements. Change of law risk may be particularly heightened in 2015, when the Treasury Department and HHS are required to submit a report on community benefit to Congress.

How the Additional Requirements Apply in the Framework of the Tax-Exempt Bond Requirements

In the case of any bond issue that is subject to the requirements of the Tax Reform Act of 1986, all of the bond-financed property must be owned by a section 501(c)(3) organization or a governmental unit. Accordingly, the failure of an organization benefiting from tax-exempt bond financing to continue to qualify as a 501(c)(3) organization ordinarily results in loss of the tax-exempt status of the bonds, possibly from the date of issuance of the bonds. In general, the requirements for tax-exempt bonds are subject to the same type of all-or-nothing rule as the requirements for tax-exempt hospital organizations — failure to comply with the requirements applicable to a bond issue, even to a small degree, results in the entire bond issue failing to comply.

The very detailed and specific manner in which the additional requirements are framed in the proposed regulations raises particular questions in this context.

The applicable federal income tax regulations provide a framework for how the tax-exempt bond use-of-proceeds rules apply to this type of bond issue. In general, a borrower must both (1) reasonably expect on the date of issuance that the bond issue will meet the use-of-proceeds requirements throughout the term of the bond issue and (2) not take any deliberate action during the term of the bond issue that results in noncompliant use.

If a borrower does take a deliberate action that results in noncompliant use during the term of the bond issue, the borrower is generally permitted to take certain remedial actions to preserve the tax-exempt status of the bond issue, provided those actions are taken promptly after the deliberate action. The permitted remedial actions include early redemption or defeasance of the portion of the bond issue that fails to comply (the nonqualified bonds) and, in some cases, use of the proceeds received from a cash sale or other disposition for other qualifying purposes.

The exact application of this framework to the new requirements of section 501(r) is not entirely clear, but we believe the a probable analysis of the IRS is as follows:

First, on the date of issuance of any new tax-exempt bonds, the borrower must reasonably expect to meet all of the eligibility requirements for a section 501(c)(3) organization, including the new requirements of section 501(r) of the Code, throughout the term of the bond issue. That means that, on the date of each new bond issue, the borrower must now have a high degree of confidence that it will meet the new requirements for long periods of time. As a general matter, it would be appropriate for a borrower to specifically represent in bond documents that it intends to meet the requirements of section 501(r) for the entire term of the bond issue.

Second, any failure of a benefited organization to meet the new requirements will likely be treated as a deliberate action resulting in loss of tax-exempt status on the bonds, unless an appropriate remedial action is promptly taken. In most cases, the permitted remedial action would likely be only early redemption or defeasance of the nonqualified bonds.

Particular Challenges Posed by the Tax-Exempt Bond Requirements

The interplay between the new requirements of section 501(r) of the Code and the existing tax-exempt bond requirements may raise challenges for hospital organizations that are not immediately evident.

The long-time horizon for tax-exempt bond compliance. The tax-exempt bond use-of-proceeds requirements in general apply continuously through the entire term of a bond issue. Because tax-exempt bond issues commonly have maturities of 30 years or longer, the period of required compliance is typically very long. Largely for that reason, almost all tax-exempt bond issues are subject to express bond document covenants that require the benefited organizations to maintain its status as section 501(c)(3) organizations during the period bonds are outstanding. Failure to maintain section 501(c)(3) status typically would result in a bond document default. In most cases, a borrower of tax-exempt bonds could not choose to fail to meet the new requirements for section 501(c)(3) organizations unless it promptly took the remedial action of redeeming or defeasing tax-exempt bonds, which could be quite costly. This means that, in many cases, failing to meet the new requirements will not be a practicable option.

By contrast, a hospital organization that is not a user of tax-exempt bond proceeds often could choose to forfeit its corporate income tax exemption and ability to qualify as a recipient of deductible charitable donations without the same type of long-term contractual constraints.

Compliance “foot faults” may foreclose or significantly delay tax-exempt financing. The marketing of tax-exempt bonds typically requires an “unqualified” opinion of bond counsel to the effect that interest on the bonds is tax-exempt for federal income tax purposes. In the case of tax-exempt hospital bonds, the bond counsel almost always requires an unqualified opinion from the borrower’s counsel to the effect that each organization benefiting from the financing qualifies as a section 501(c)(3) organization. In addition, in the case of refunding bonds, bond counsel typically requires express representations or an opinion to the effect that each organization benefiting from the refinancing has qualified as a section 501(c)(3) organization for the period of time the prior bonds were outstanding.

The requirements in section 501(r) of the Code are in general much more specific and detailed than the more qualitative requirements set forth under the community benefit standard, and the proposed regulations would make these new requirements even more detailed and specific. Neither the Code nor the proposed regulations contains any provision to the effect that substantial compliance with the new requirements is sufficient. A failure to meet any of the new specific “bright line” requirements, even if more technical than substantive, could have the result of foreclosing or delaying a tax-exempt financing. In addition, a failure to meet any of these new specific requirements could result in a technical default under bond documents for outstanding bonds, with potentially costly and complicated consequence.

In such situations, it is possible that the IRS would entertain requests for voluntary closing agreements to conclusively protect the tax-exempt status of a hospital organization, in the same manner that the IRS currently entertains voluntary closing agreement requests for violations of the tax-exempt bond requirements. Obtaining such a voluntary closing agreement, however, could lead to significant delays.

Accordingly, the interplay between the additional requirements of section 501(r) of the Code and existing tax-exempt bond requirements as a practical matter greatly increases the need to rigorously comply with the additional requirements.