WASHINGTON - Bond lawyers should not view a recent ruling by the Internal Revenue Service as setting more liberal standards for the use of tax-exempt hospital bonds, according to an IRS official.
The IRS concluded in the private letter ruling that a hospital, which it did not identify, could use the proceeds of 501(c)(3) tax-exempts bonds to refund taxable bonds that had been used to finance an outpatient facility.
Some bond lawyers interpreted the ruling to signify that hospitals could, for the first time, use tax-exempt bonds even if a significant portion of its revenues were from outpatient services.
Under the tax law and its legislative history, tax-exempt bonds can be used by a hospital only if certain conditions are met. One such condition is that the facility is "primarily used to provide" certain services to inpatients.
The hospital had told the IRS that while its current revenues were primarily derived from inpatient services, most of its future revenues would come from outpatient services.
The lawyers had been relying on a letter ruling issued by the IRS in 1988 that said a hospital's bonds would be tax-exempt if at least 80% of its revenues were from inpatient services.
They thought the recent ruling meant a hospital could use tax-exempt hospital bonds even if its inpatient revenues were much less than 80% of its total revenues.
But the IRS official and other bond lawyers said the IRS ruling specifically does not address the issue of whether the hospital's bonds would be tax-exempt if its mix of revenues changed so that most of them were from outpatient services.
"What the ruling is telling you is, you are a hospital now, but we're not telling you if you're going to be a hospital 10 years from now," said one IRS official.
In other words, he said, the hospital was given no guarantee that if it issued tax-exempt refunding bonds, those bonds would remain tax-exempt if its revenue picture changed.
The official explained that the agency generally avoids issuing rulings that give long-term classifications to organizations, because the facts may change and the classifications may not hold up.
Neil Arkuss, a partner with Palmer & Dodge in Boston, said, "The one helpful aspect of this ruling is that is says you can tack onto a hospital a facility that is not in and of itself a hospital, and that facility will be treated under the overall umbrella" of the hospital as long as it meets the conditions for being a hospital.
The IRS official agreed with that assessment.
Although the ruling did not indicate it, the hospital had requested the ruling because it was concerned the outpatient facility would jeopardize its status as a hospital qualified to use tax-exempt bonds.
The hospital needed assurances from the IRS that the refunding bonds would be tax-free hospital bonds because such bonds are exempt from a $150 million limit volume limit.
Under the tax law, 501 (c)(3) organizations cannot benefit from more than $150 million of outstanding 501(c)(3) bonds, except qualified hospital bonds, at any time.
The 501(c)(3) organization affiliated with the hospital that was supposed to borrow the bond proceeds for the refunding had already exceeded its $150 million limit.
The IRS concluded in the ruling that the hospital could use tax-exempt bonds in part because "at the present time" it "is primarily used to provide services to inpatients."
The IRS said it reached this conclusion after determining that the hospital "has a principal, rather than an incidental, purpose to serve inpatients"; "has a substantial portion" or revenues derived from, and space devoted to, inpatients; and "has well-established facilities to accommodate onsite scheduled inpatients" as well as individuals who become inpatients after recieving outpatient services.
However, the IRS said the ruling "express[es] no opinion" about whether the hospital and project "will continue to meet the definition of a hospital if there are changes in any of [these] four specific characteristics."
The ruling contained the IRS's standard statement that the ruling is directed only at the hospital that requested it and is not to be used or cited as precedent. But bond lawyers said, and IRS officials conceded, that in areas of the tax law where there is no other guidance, the bond community will look to private letter rulings for help in interpreting the tax law.
