Michigan's attorney general filed a lawsuit last week to thwart the first for-profit hospital deal in the state.
The lawsuit is among the strongest actions taken to date by a handful of states trying to restrict the advance of for-profit healthcare across their borders. Michigan last week joined Texas in taking legal action to block a joint venture with Columbia/HCA Healthcare Corp..
The defendants, the parent of Lansing-based Michigan Capital Medical Center and Columbia, agreed to delay their 50-50 joint venture until the case is heard in early July.
Michigan Attorney General Frank J. Kelley said the case "will serve as a key indicator of whether a for-profit corporation can take over a nonprofit hospital in Michigan."
The lawsuit, filed in a state circuit court, challenged the deal on 10 counts-none of which have merit, according to the defendants.
"The attorney general's actions have no basis in fact or in law," Michigan Capital Chief Executive Officer Dennis M. Litos said.
Robert W. Stocker II, a Lansing attorney representing the hospital, took issue with the lawsuit's allegation that Michigan Capital's parent, Michigan Affiliated Healthcare System, failed to provide the attorney general's office with financial details of the transaction, including proof of a fair valuation of assets that would be transferred to the joint venture.
The parties currently are subject to a confidentiality agreement, but Stocker said the financial terms will be disclosed once a final agreement is signed. The suit asks the court to order public hearings, which would be conducted by the attorney general, and require disclosure of documents pertaining to the transaction.
Stocker also disagreed with the suit's assertion that the attorney general has the right under Michigan law to approve transactions involving not-for-profit charities, including hospitals.
The parties have not disclosed publicly how much Columbia will pay for its 50% stake in the 369-bed medical center. Michigan Affiliated will use the cash it receives from Columbia to retire outstanding debt, meet other financial obligations and supplement the endowment of its charitable foundation. The joint venture will be a for-profit, tax-paying organization, while Michigan Affiliated will remain not-for-profit.
The suit alleges that Michigan Affiliated violated its fiduciary duty by failing to request a "private-letter" ruling from the Internal Revenue Service on whether it can remain tax-exempt.
Stocker said Michigan Affiliated looked at previous IRS decisions and decided its not-for-profit status would be preserved. He said private-letter rulings now take eight to 10 months to obtain, which isn't practical.
Stocker said Michigan Affiliated will retain its not-for-profit mission by operating a day-care center, a guest house for patients' families and other programs. Also, Michigan Affiliated will devote some profits from the joint venture to the Michigan Capital Healthcare Foundation, a separate charity.
"(Michigan Affiliated) is not going to be a shell corporation," Stocker said. He said when financial details are disclosed "it will become clear this transaction is extremely favorable for the community."
Previously, the IRS has allowed not-for-profit organizations to retain their tax-exempt status under joint venture arrangements with for-profit companies. However, private-letter rulings are fact-specific and cannot always be extended to other cases.
Currently, the IRS is considering whether a charitable organization should be able to give up control of its assets and remain a tax-exempt organization. If it decides the answer is no, any proceeds the organization receives from selling its assets or operating profits from a joint venture could be taxed.
"I think what the attorney general is trying to do here is make sure that the organization is doing everything it can and should do to protect charitable assets," said T.J. Sullivan, a former IRS official who is with the law firm of Gardner, Carton & Douglas in Washington.
He said the approach of filing suit and requiring compliance with legal and fiduciary obligations could become a model for other states. Michigan Capital is the product of a 1992 merger of Ingham Medical Center and Lansing General Hospital.
The hospital said it has cooperated fully with the attorney general's office and has made "extraordinary efforts" to inform the community. Under the agreement, for which a letter of intent was signed June 6, Columbia would be the general partner, exercising overall management of Michigan Capital Medical Center.
Michigan Affiliated would have an advisory board with the authority to approve such things as changes to the mission statement, dividend payments to the partners, a CEO, annual capital budgets, and agreements between the partners and the limited partnership.
Attorneys general in at least three states have reviewed the transfer of not-for-profit assets to Columbia this year. In North Carolina and Massachusetts, Columbia signed written agreements setting conditions on its acquisitions.
In April, Nebraska became the first state to require full public disclosure and state approval of not-for-profit hospital sales to for-profit companies.
A Columbia spokesman said the company was surprised by the "strong reaction" of the Michigan attorney general.
A hearing is scheduled for July 2 before Ingham County Circuit Court Judge James Giddings. The defendants have until June 24 to file a response.