IRS scrutinizes nonprofit hospital joint ventures

May 6, 1992

The IRS is targeting nonprofit, tax-exempt hospitals with for-profitjoint-ventured entities for comprehensive audits. New guidelinesissued by the agency say such hospitals violate federal law whenprofits are distributed to joint-ventured physicians.

The IRS is targeting nonprofit, tax-exempt hospitals with for-profitjoint-ventured entities for comprehensive audits. New guidelinesissued by the agency say such hospitals violate federal law whenprofits are distributed to joint-ventured physicians.

Until recently, the IRS held that such arrangements were legal.But a routine administrative review of three hospitals that splitprofits with physicians who owned the joint ventures promptedthe new policy, according to T.J. Sullivan, an IRS special assistantfor health care.

It is estimated that the tax-exempt status of nonprofit hospitalsplaces nearly $4.5 billion beyond the IRS' reach. Nonprofit hospitalshave been criticized in recent years for participating in profit-makingventures while decreasing their role in indigent care. The IRSbegan extensive audits of such hospitals in October to guard againstpotential abuses.

"We're taking a closer look at some of the more sophisticatedtransactions that hospitals have engaged in over the past eightto 10 years," Sullivan said.

But the average tax-exempt hospital that has taken care withits physician transactions should have little reason for concern,he said.

Close scrutiny of nonprofit hospitals is not new. An examinationprogram that analyzes all aspects of tax-exempt hospitals hasbeen in place for some time, Sullivan added.

The new policy could affect any joint venture where physicianshave an incentive to sign up in order to refer patients to thehospital, according to Thomas Greeson, legal counsel for the AmericanCollege of Radiology. It is not, however, expected to impact jointventures between radiologists and hospitals, he said.

But in light of the increased scrutiny of joint ventures, radiologistsshould give their contractual agreements with hospitals a thoroughreview. The IRS will be analyzing such contracts to determineif employer-employee relationships exist, Greeson said. If so,physicians could lose their independent contractor status, renderingtheir income ripe for employer withholding taxes.

"The opinion is a further indication of how importantit is for radiologists to maintain independent billing,"Greeson said. "Physicians should also be cautious about theirfinancial arrangements with hospitals and other health-care entities."

There are a number of alternatives for hospitals whose jointventures fail the IRS legality test. Hospitals will either incorporatethe joint venture back into the institution or renegotiate termswith physicians. Or physicians might take on operation of thejoint venture as a freestanding entity, said Richard Wade, anAmerican Hospital Association staffer.

"We don't expect many changes," he said. "Itis a narrow ruling, and few tax-exempt hospitals remain that fitthe IRS' description of violators."