WASHINGTON -- Long-standing 501(c)(3) health-care organizations do not have to reaffirm their tax-exempts status with the Internal Revenue Service whenever they issue tax-exempt bonds, an IRS official said last week in an attempt to clarify a controversial new policy.
"These organizations can have total reliance on their exemption letters as long as they engage exclusively in exempt activities," the official said. These would be activities that are in line with their nonprofit, charitable status and that do not benefit private parties, he said.
Bond lawyers became concerned last week after an IRS official said in an interview that existing 501(c)(3) health-care organizations might need new rulings if they planned to issue bonds. The official had said that existing tax-exempt determination letter typically call for a new ruling when any activity would change the organization or operations of a 501(c)(3) entity. Bond issues, he had said, could change a 501(c)(3) organization's setup or operations.
The remarks prompted some lawyers to worry that the IRS was saying all 501(c)(3) health-care organizations would have to reaffirm their status whenever they issued bonds.
The IRS official this week, however, stressed that "there is no requirement" for a long-standing 501(c)(3) health-care organization to seek a new IRS ruling when it issues bonds. It might want to do so if it is concerned the issue would affect its operations, he said, but there is no requirement.
The IRS official was trying to clarify a policy that is evolving with regard to charitable health-care organizations seeking 501(c)(3) status for the first time.
Under the new policy, which was designed to address a recurrence of abusive health-care bond deals that have marked recent years, a charitable organization's ability to obtain and retain tax-exempt status may be affected by its bond-financing plans.
The IRS official outlined the new policy. For any charitable health-care organization seeking 501(c)(3) status and planning to issue bonds, he said, the IRS will include that bond issue in its review of whether to grant 501(c)(3) status. If the organization has not finalized its proposal to issue bonds, the IRS will grant such status but will require the organization to reaffirm it before issuance, he said.
The official said this policy applies to any proposed bond issue, not just those that would be used to acquire facilities -- the kinds of bond issues that appeared in most of the abusive deals. In one such deal, a developer would create a 501(c)(3) organization to issue bonds to finance the purchase of his troubled nursing homes at an inflated price.
The IRS, the official said, is applying the policy broadly and is not targeting specific kinds of bond issues. "We're really trying to get a handle on how big the abuse is," he said.
If a charitable health-care organization seeking 501(c)(3) status says it has no current plans to issue bonds but may do so in the future, the IRS will grant the status but include a sentence in the organization "may" want to reaffirm its status before it issues bonds.
Some bond lawyers complain that the language effectively means a new ruling will be needed for these new 501(c)3 organizations. And Marcus Owens, IRS director of the exempt organizations technical division, agreed. "Practically speaking, counsel is going to have to come back and get a ruling if the organization decides to issue bonds."
For charitable health-care organizations seeking 501(c)(3) status that tell the IRS they do not plan to issue bonds, the IRS may say in writing that 501(c)(3) status is granted with the understanding that the organization will not issue bonds, the other IRS official said. He said that this would apply to some organizations but not others, based on whether the agency thinks the organization will ever issue bonds. He added that there is no criteria and that "it's subjective."
Bond lawyers are particularly concerned about this kind of qualification because it effectively means that any 50(c)(3) organization that changes its mind and decides to issue bonds will have to get a new ruling on its status.
Several bond lawyers complained about the new policy this week, saying that it will put unnecessary additional burdens on any 501(c)(3) organization that may want to do a legitimate tax-exempt bond deal. They said that the 501(c)(3) section of the IRS should limit itself to issues regarding the organization and operation of charitable organizations, and that it should not be involved in reviewing bond financings.
But IRS officials say that bond issues can affect the operations of these organizations.
Some of the lawyers said the new policy is misdirected and will not achieve the IRS's goal of prohibiting 501(c)(3) status to be used in a way that benefits private parties. "The source of funding is irrelevant in determining whether or not there is private benefit," said R. Todd Greenwalt, a lawuer with Vinson & Elkins in Texas who is also chairman of the American Bar Association's tax-exempt financing committee's task group on qualified 501(c)(3) bonds. A 501(c)(3) can finance its operations with taxable bonds or a conventional bank loan and still be guilty of private benefit, he said.
