The Internal Revenue Service has approved a joint venture between a not-for-profit university and an investor-owned hospital chain to operate the university's former teaching hospital.
The favorable ruling from the IRS is particularly timely given the growing number of such affiliations.
The new ruling, which legal experts say will help structure future deals, stems from a hospital sale that dates back more than a decade.
Although the ruling didn't identify the parties, the participants have been confirmed by sources as Creighton University, Omaha, Neb.; and American Medical International, now merged into Tenet Healthcare Corp., which is based in Santa Monica, Calif.
The pair have been battling over the operations of two Omaha hospitals that the university sold to AMI in 1984 for $100 million. They are 273-bed Saint Joseph Hospital, which serves as the university's teaching hospital, and Saint Joseph Center for Mental Health, a 171-bed inpatient psychiatric facility.
After the sale, the university kept its affiliation with the hospitals, but alleged breaches of the affiliation contract resulted in litigation.
In 1990, Creighton sued AMI, claiming the chain failed to make promised capital improvements to the hospitals. Two years later, AMI countersued Creighton, claiming damage to its business reputation (Sept. 14, 1992, p. 72).
A court-ordered mediator subsequently hammered out a joint venture arrangement between the two parties that, according to the IRS ruling, maintains AMI's financial interest in the hospitals but gives Creighton greater control over how the hospitals are run.
Creighton and AMI requested the IRS ruling last December. The IRS approved the deal on Jan. 27, and Creighton and AMI unveiled their new partnership agreement on Feb. 7, completing it later that month. However, the IRS didn't release its ruling publicly until earlier this month.
Under the plan reviewed by the IRS, subsidiaries of Creighton and AMI would create a joint venture in the form of a new limited liability company. AMI would own 74% of the company, and Creighton would own 26%.
Creighton would buy the psychiatric hospital back from AMI and contribute it and cash to the joint venture. Creighton would buy the hospital with money borrowed from a charitable foundation that it had set up after AMI originally bought the two hospitals. AMI, in turn, would contribute the acute-care hospital to the joint venture.
AMI would continue to manage the hospitals under a service agreement with the joint venture, and profits and losses of the two hospitals would be apportioned to Creighton and AMI based on their ownership interests.
The tax questions posed to the IRS were whether any profits from the joint venture earned by Creighton would be considered taxable unrelated business income and whether Creighton's interest in the joint venture would be considered taxable debt-financed property.
The IRS said no to both questions.
In its nine-page ruling, the IRS said the money generated from the venture supports the educational and research mission of the university, and Creighton's interest in the joint venture wasn't taxable property because it will be used in support of the school's mission.
The IRS also noted with favor that the hospitals would have 24-hour emergency departments open to all patients regardless of ability to pay; have open medical staffs; accept Medicare and Medicaid patients; and do their best to provide "a significant" amount of charity care.
After Creighton and AMI closed their deal, they dropped their lawsuits.