Just weeks after one of the most divisive presidential elections in memory, an increasingly aggressive Internal Revenue Service has reminded not-for-profit health systems and their executives that politics and tax-exempt healthcare don't mix.
Healthcare lawyers and hospital association executives disagree whether a recent IRS technical advice memorandum assessing taxes on employee political action committee payroll contributions at a hospital system signals a broader investigation. But they concurred that executives at not-for-profit hospitals should re-examine any individual or organizational political activity to protect their institutions' tax-exempt status.
In the five-page memorandum released Nov. 16, the IRS determined that an unnamed health system whose president and chief executive officer also served as chairman of the state hospital association intervened in a political campaign in violation of federal law governing tax-exempt organizations. The IRS said both the CEO and the system would be required to pay excise tax on PAC contributions solicited from health system employees.
Hospital association leaders said the situation described by the IRS is rare and unlikely to be replicated in other health systems.
Mark Seklecki, executive director of political affairs at the American Hospital Association, called the case cited by the IRS "a pretty unique response to a pretty unique situation. We don't think it has very broad application."
Seklecki said, however, that state hospital associations are calling the AHA seeking guidance. "We're answering questions and explaining the rules, giving the same advice we've been giving for a long time as it relates to political activity. Hospitals as institutions cannot endorse candidates or use their resources on behalf of candidates, and the tax-exempt community realizes that."
While charities like hospitals are not allowed to have PACs, other types of tax-exempt organizations, such as social welfare organizations and trade associations, are permitted to do so, said Thomas Hyatt, a healthcare tax lawyer with Ober Kaler. Seklecki said the IRS memorandum applied to a state PAC, not a federal one. While all state hospital associations fund state PACs, far fewer support federal ones, he said.
The AHA PAC gave $1.35 million to candidates in 2004 through Oct. 22, according to the Center for Responsive Politics.
Hyatt said the system in the memorandum was fortunate, because the IRS could have revoked its tax-exempt status altogether.
"That it didn't suggests that the IRS didn't think the violation was that significant," Hyatt said. The memorandum, which serves as guidance to IRS agents, tax lawyers and accountants, does not identify the system or CEO but gives insight into IRS thinking; however, it may not be used or cited as a precedent for future cases.
Hyatt said coming on the heels of a recent IRS announcement that it would investigate the National Association for the Advancement of Colored People for its leader's alleged involvement in political campaigns, the memorandum demonstrates the IRS' new forcefulness in imposing sanctions for politicking.
"Hospitals and other charitable tax-exempt organizations must remain vigilant not to allow any cross-pollination between the charitable tax-exempt organization and organizations with PACs," Hyatt said. "The message is you can't do indirectly what you're not allowed to do directly."
In the memorandum, the IRS said a payroll deduction program that allowed the hospital system's employees to deduct contributions to a state hospital association PAC "constitutes participation or intervention in a political campaign prohibited by section 501(c)(3)," the section of the tax law governing tax-exempt organizations.
Official urged participation
The IRS said the system's president-CEO publicly urged participation in the association's PAC by association members, created a payroll deduction mechanism to allow the system's employees to contribute to that PAC and used video presentations to spread the word. He even encouraged managers to get signed donations from employees, regardless of whether the workers decided to participate.
The IRS said tax-exempt organizations "may not provide or solicit financial or other forms of support to political organizations (which it did by endorsing the state hospital association PAC) or establish political action committees." And since a tax-exempt organization acts through its individual leaders, "Sometimes the political activity of the individual may be attributed to the organization." The IRS also chided the hospital CEO for not separating himself from his CEO role when making the video, which was produced on the hospital system's time and with its money.
"The sum of all those activities caused (the IRS) to see that as a problem," Hyatt said, while noting that the CEO did not endorse a particular candidate. "It seems a little tenuous to me. The taxpayer can challenge the ruling and I'm sure it will."
He said the broader implication of the memorandum is that hospitals must be wary of even inadvertently subsidizing a PAC, and executives must be careful when acting as individuals, as opposed to as the heads of healthcare systems. "If the man on the street thinks it's intervening in political activity, the IRS may believe that crosses the line," Hyatt said.
Hospital association executives dismissed the memo's scenario as unique but conceded that their members are concerned.
Steve Brenton, president of the Wisconsin Hospital Association, who has served with three state hospital associations, said it's not unusual to find state association board members who work hard at soliciting PAC participation and fund-raising.
"But this is troublesome," Brenton said. "I would hope this would be appealed and the IRS would provide more specific guidelines before it begins whacking away with excise taxes. (State associations) all rely on leaders to be pacesetters for our campaigns. This determination will clearly cause many of us to take a look at what we're doing regarding solicitations and how we're doing it. And we'll probably develop some guidelines to take to our members."
Steven Summers, president of the West Virginia Hospital Association, called the CEO's behavior described in the IRS memorandum "an aberration." He said most states separate the people involved in PAC activities from the state associations. Summers said the "overly enthusiastic hospital CEO must have gotten some bad advice. I would be very surprised if many hospital or association executives would go to the extremes that this individual did."
The California Healthcare Association's state PAC spent a total of $300,000 on the March primaries and the November election this year, said Art Sponseller, the association's senior vice president and chief operating officer.
Sponseller, who oversees the association's PAC activity, said he hasn't received a flurry of calls from members, but he said he's taking the memorandum seriously. "We sat down with outside consultants and asked them to review our guidelines and educational materials to see if we will need to make any revisions," he said. "But I don't expect any major changes."
Kenneth Robbins, president of the Illinois Hospital Association, said hospitals should never jeopardize the tax-exempt status of their institutions through inappropriate political activity. "It's an issue we've been concerned with as long as I can remember," he said. "And it doesn't just relate to PAC activity." He said he wasn't sure how this latest memorandum fits into other IRS scrutiny of hospitals' tax-exempt status. "It doesn't seem to be related to the latest IRS initiatives looking into executive compensation."
A national tax consultant said he would advise any tax-exempt organization to seek an IRS ruling before setting up a payroll deduction program to fund a PAC. "The downside risk of something like this is losing your tax exemption," said Phil Royalty, a certified public accountant and partner in Ernst & Young's national tax practice. Royalty said that because it's an election year the IRS is under pressure and has issued numerous warnings about engaging in political activity. Still, he said, the scenario struck him as unusual.
"I've only seen something like this once or twice in 25 years," he said.
He said the IRS assessed the system an excise tax of 10% of the amount contributed to the PAC; executives who approved it were assessed 2.5% of the donation amount. Royalty said if the system fails to pay the tax, the IRS can impose a second-tier tax that would be double the amount of contributions and raise the amount due from managers to 50% of contributions, up to $5,000. Tax experts said it was unclear on whom they would assess the excise tax: the CEO alone or other executives who approved the deductions.
Healthcare tax lawyer T.J. Sullivan of Gardner, Carton & Douglas said the IRS memo and its initiative examining executive compensation at tax-exempt organizations are unrelated but warned that one could affect the other. "If the IRS is conducting a compensation audit, it will look at the organization's 990 forms and committee meetings and if it comes across evidence of political activity, it will pursue it," said Sullivan, a former IRS official. It's "another potential avenue for inquiry."
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