Whole-hospital joint ventures.

• Author: Bliha, Richard
• Position: Taxation

In Rev. Rul. 98-15, the IRS provides guidance on structuring health care joint ventures between an exempt hospital and a taxable organization, without endangering the hospital's tax-exempt status. While Rev. Rul. 98-15 reinforces prior rulings and case law analysis, it also states that a charity can enter into a partnership and not lose its exempt status. In addition, the ruling is a clear statement that a relationship with a limited liability company (LLC) is acceptable. In Rev. Rul. 98-15, the Service presents two situations in which a hospital forms a joint venture with a taxable organization and analyzes whether the ownership structure, along with a management agreement with the joint venture, allow the hospital to continue to qualify for exemption under Sec. 501(c)(3).

In previous cases (e.g., Plumstead Theatre Society, Inc., 74TC 1324 (1980), and Housing Pioneers, TC Memo 1993120), the Tax Court held that an organization may form and participate in a partnership and meet the operational tests if participation in the partnership furthers a charitable purpose. The partnership arrangement must permit the exempt organization to act exclusively to further its exempt purpose and only incidentally for the benefit of its for-profit partners.

The courts have also ruled that a Sec. 501(c) (3) organization may enter into a management contract with a private party that gives that party authority to conduct activities on the exempt organization's behalf and direct the use of its assets, provided the organization retains ultimate authority over the assets and activities being managed and the contract's terms and conditions are reasonable (including reasonable compensation and a reasonable term). However, if a party controls or uses the nonprofit organization's activities or assets for its benefit and the benefit is not incidental to the accomplishment of the exempt purposes, the organization fails to be organized and operated exclusively for exempt purposes.

Although Rev. Rul. 98-15 does not provide safe harbors for these types of joint ventures, it does imply that the following conditions must be met for a hospital to comply with the operational test. The governing documents of the joint venture should provide for the entity to be managed by a governing board consisting of a majority of individuals chosen by the tax-exempt hospital. These individuals must not be on the hospital staff and should not engage in any transactions with the hospital. The governing documents should provide that they can be amended only with the approval of both owners of the joint venture, and that a majority of board members has to...