Did you overreact to Hermann decision?
Legal experts: Don't derail your recruiting efforts
Since the Internal Revenue Service (IRS) levied a $1 million fine in 1994 against Hermann Hospital in Houston for improper recruiting activities, many nonprofit hospital recruiters have severely curtailed their physician recruiting efforts.
They've squirmed as they tried to figure out what they can and cannot do, fretting that a misstep along the recruiting path could land their hospital in a legal and financial morass. Unfortunately, many hospitals have overreacted, legal experts say.
But engaging in recruiting activities that violate IRS guidelines for nonprofit hospitals could subject unwitting hospitals to IRS scrutiny and costly fines. Risk managers should understand the implications of the Hermann Hospital agreement with the IRS and forthcoming IRS rules on recruiting to make sure hospital recruiters are operating in the correct legal framework.
"The Hermann Hospital headlines provoked a big response among hospitals, largely because, to my knowledge, the $1 million fine was the largest penalty to an exempt health care organization," says Thomas Hyatt, JD, a partner in the law firm Powers, Pyles, Sutter & Verville in Washington, DC, which provides consultation on tax issues to health care organizations across the country.
"Many hospitals' local counsel viewed the resolution as gospel, believing that they had to conform to the agreement's parameters. However, the intent of the Hermann Hospital resolution was to take specific corrective action against a particular hospital. As a result, some of its conclusions are overly restrictive and not applicable to other hospital situations. Health care organizations that subscribe only to the Hermann Hospital guidelines may be somewhat misguided and unduly cautious in their recruitment decisions," he says.
Nonprofit hospitals are basing their opinion on how to recruit appropriately in the eyes of the IRS based on two documents. One is the late 1994 ruling itself, which applied specifically to the situation at Hermann Hospital. (See related story on the IRS' settlement with Hermann Hospital, p. 77.) Then, last year, the IRS issued Announcement 95-25 to provide guidance to the health care community on the tax consequences of physician recruitment incentives of tax-exempt hospitals. Announcement 95-25 outlines five physician recruitment scenarios and establishes the IRS' position on which activities are consistent with a charitable operation. A final version of that document was expected to be issued in late 1995, but the IRS still has not issued the ruling, Hyatt says.
Although the proposed ruling is not a statement of law, it is intended to provide insight into how the IRS views tax-related situations and is binding on IRS officials.
Hospital administrators should pay close attention to the final version of the IRS ruling. Hyatt advises against totally ignoring Announcement 95-25 because it delineates six ways a hospital can organize data to demonstrate community need through objective evidence. These methods include:
* population-to-physician ratios;
* measurement of long waiting periods or service demands;
* limited access to care in underserved populations.
The IRS Announcement 95-25 takes a much broader safe-harbor approach in its guidelines than the Hermann Hospital agreement, Hyatt says.
"Some health care organizations appear to have adopted a wait-and-see attitude toward the proposed (final IRS) ruling, and the message doesn't seem to be getting delivered," he says. "Many health care managers have criticized the guidelines because they do not think they are specific enough. However, the IRS proposal allows for greater flexibility based on an individual hospital's situation. The IRS has done the health care community a great service in developing guidelines which have a binding effect and provide certainty about what recruitment practices will stand up to an audit."
That view is not shared by Roger Bonds, MBA, president of the National Institute of Physician Recruitment and Retention in Norcross, GA. The net outcome of the Hermann Hospital agreement is more negative than positive, he says.
"Many hospitals have overreacted to the Hermann Hospital headlines, and as a result, they have severely curtailed their recruitment efforts. Lack of information regarding the IRS guidelines has been detrimental to many hospitals' physician recruitment efforts, and consequently has negatively impacted the health of their communities."
Two difficulties that risk managers should be aware of as a result of this lack of information are:
* Legal misinformation.
"In many cases, the hospitals' attorneys are either uninformed or are not qualified to provide legal counsel regarding the impact of the IRS proposed ruling. In such cases, a hospital needs to obtain outside counsel or find an attorney with greater expertise regarding recruitment issues and tax-exempt status in order to examine their individual hospital situation and better assess their recruiting options," Bond says.
* Physician self-interest.
Another result of the Hermann Hospital settlement is that some physicians have tried to use it as leverage to discourage recruitment activities in their own hospitals, to lessen competition from outside physicians.
Risk managers should be educated about the IRS guidelines to make sure physicians are not puffing. "A positive spinoff is that this situation has encouraged hospital boards to become more active in reviewing hospital recruitment practices. Many boards have assumed a more extensive role in determining what recruitment practices are taking place and who is influencing those decisions."
The IRS may maintain that the intent of the rulings is not to instigate broad social changes, but high-profile cases such as the Hermann Hospital agreement clearly have a significant impact on hospital practices across the country. "The IRS is not looking to hurt communities or endanger their health status," Bonds observes. "The agency is looking for abuse among high-profile institutions where it can make significant headlines that will impact the behavior of other institutions. It has skillfully used these opportunities to establish practice precedents throughout the industry."
IRS provides 'higher comfort level'
"IRS Announcement 95-25 should provide health care managers with a much higher comfort level in offering recruitment incentives such as income guarantees, signing bonuses, and recruitment of physicians already practicing within a service area," Hyatt says. "When the ruling is finalized, it will provide the sole legal guidance to the health care community on recruitment practices and tax-exempt status."
But risk managers are cautioned that the recruitment practices are still under close scrutiny, say Hyatt and Bonds.
"The Hermann Hospital agreement served notice to aggressive high-risk recruiters who were considering pushing the envelope on recruitment incentives," Bonds says. Before the ruling, there was a feeling among some hospital administrators that the IRS would not come down on nonprofit health care organizations, he says.
Now, "Many hospitals are being investigated with new vigor in light of the Hermann Hospital settlement," Bonds adds.
There are plenty of examples of increased IRS scrutiny of tax-exempt organizations, Hyatt says.
"'Reach out and touch someone' could be the IRS' current slogan regarding tax-exempt health care organizations," he says. "They are clearly pursuing health care organizations by conducting large-scale comprehensive audits, particularly among large metropolitan institutions in statistically high-risk situations. They also are conducting more traditional audits of small hospitals in non-urban settings. However, the outcome of most of these audits has resulted in IRS agreements with individual hospitals to change their recruiting practices rather than in revocation of tax-exempt status."
The Hermann Hospital situation also is considered to be somewhat unique because the hospital's board initiated the IRS' financial audit that led to the questions about its recruiting practices. "Occasionally, a hospital may request an audit because it is involved with bond issues and may want to establish a clean slate," says Jack Reilly, project leader in the IRS' Exempt Organization Division in Washington, DC. "But for the most part, the cases the IRS deals with focus on large hospital audits."
As the health care marketplace has evolved, so too has the IRS' approach to auditing health care institutions. In the past, audits were conducted by field examiners who only dealt with tax-exempt institutions. But because many nonprofit health systems have spun off taxable subsidiaries, IRS field examiners now work in teams that include auditors for both exempt and nonexempt institutions.
Since the IRS' proposal on recruiting for tax-exempt institutions was unveiled, Reilly has not seen a large increase in misbehavior among health care organizations regarding recruitment tactics.
"Most hospitals are scrupulous enough to ensure that they do not run afoul of the tax laws in their physician recruitment practices," he observes. "Loss of tax-exempt status is too dire an outcome. In most cases hospital legal counsel will recommend that in the process of recruiting physicians, they should look for the gray lines and then take a step back." *
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