APPEAL FROM THE DECISION OF THE UNITED STATES TAX COURT (No. 90-20793).
Before: Scirica, Alito and Lewis, Circuit Judges.
The Commissioner of the Internal Revenue Service ("Commissioner" or "IRS") appeals from a Tax Court decision granting appellee Geisinger Health Plan ("GHP") tax-exempt status under 26 U.S.C. § 501(c)(3). This case requires us to decide whether a health maintenance organization (an "HMO") which serves a predominantly rural population, enrolls some Medicare subscribers, and which intends to subsidize some needy subscribers but, at present, serves only its paying subscribers, qualifies for exemption from federal income taxation under 26 U.S.C. § 501(c)(3). We hold that it does not.
We will remand this case to the Tax Court on a subsidiary issue, however. On remand, the Tax Court is to determine whether GHP should be considered an integral part of the health care system to which it belongs so as to qualify for tax-exempt status based upon the status of entities related to it.
This court's review of the Tax Court's decision, involving as it does a determination of the purpose of an entity applying for tax-exempt status based upon stipulated facts, is plenary. Presbyterian and Reformed Publishing Co. v. Commissioner, 743 F.2d 148, 158 n.9 (3d Cir. 1984). The Tax Court had jurisdiction over this case based upon 26 U.S.C. §§ 7428(a)(1)(A) and 7442, and this court's jurisdiction is based upon 26 U.S.C. § 7482(a)(1).
GHP, which qualifies as an HMO under both Pennsylvania and federal law, operates as part of a system of health care organizations in northeastern and northcentral Pennsylvania (the "Geisinger System"). Under Pennsylvania law, an HMO is "an organized system which combines the delivery and financing of health care and which provides basic health services to voluntarily enrolled subscribers for a fixed prepaid fee." Pa. Stat. Ann. tit. 40, § 1552 (Supp. 1991). See also 42 U.S.C. § 300e (1991). GHP was formed as a nonprofit corporation in 1984 and, by March 31, 1988, had enrolled 4,396 individuals and 448 groups (accounting for another 66,441 individual subscribers*fn1 ).
The Geisinger System consists of GHP and eight other nonprofit entities. All are involved in some way in promoting health care in 27 counties in northeastern and northcentral Pennsylvania. They include: the Geisinger Foundation (the "Foundation"); Geisinger Medical Center ("GMC"); the Geisinger Clinic (the "Clinic"); Geisinger Wyoming Valley Medical Center ("GWV"); Marworth; Geisinger System Services ("GSS") and two professional liability trusts. Each of these entities is exempt from federal income taxation under one or more sections of the Internal Revenue Code (the "Code").
In order to provide cost-effective delivery of health care to areas it had identified as medically underserved, GMC experimented with a pilot prepaid health plan between 1972 and 1985. The results were sufficiently favorable that the Geisinger System formed GHP to provide its own prepaid health plan. GHP's service area encompasses 17 predominantly rural counties within the area served by the Geisinger System. As of November 30, 1987, according to a finding of a bureau of the federal Department of Health and Human Services, 23 percent of GHP's subscribers resided in medically underserved areas while 65 percent resided in counties containing medically underserved areas.
GHP's articles of incorporation provide that it was incorporated "for the purpose of conducting exclusively charitable, scientific and educational activities within the meaning of Section 501(c)(3) of the Internal Revenue Code," and list a number of specific purposes relating to the provision of health care through a prepaid fee arrangement. Its articles also prohibit GHP from lobbying, participating in political campaigns and engaging in activity that would invalidate its tax-exempt status. No earnings or profit may inure to the benefit of its members, directors, officers or other private persons; upon its dissolution, GHP's board of directors must pay any assets that remain to a tax-exempt charitable organization.
Any person, whether or not a resident of Pennsylvania, may serve on GHP's board of directors. GHP's president and the senior officers of the Geisinger Foundation, the Geisinger System's umbrella organization, automatically serve as directors. The remaining directors are elected by GHP's members, who can be directors themselves. Pennsylvania law requires that at least one-third of GHP's directors be GHP subscribers.
GHP has two types of subscribers. First, it is open to all adult individuals who reside in its service area and satisfactorily complete a routine questionnaire regarding their medical history. From its inception through June 30, 1987, GHP accepted all but 11 percent of its individual applicants. Second, it enrolls group subscribers. Any individual who resides in GHP's service area and belongs to a group of at least 100 eligible enrollees may enroll as a group subscriber without completing a health questionnaire. Individual applicants belonging to groups of less than 100 eligible enrollees must usually complete the questionnaire required of individual subscribers, however.
GHP describes itself as "providing health services." In reality, it contracts with other entities in the Geisinger System (at least one of which will contract with physicians from outside the Geisinger System) to provide services to GHP's subscribers. It also contracts with entities such as pharmacies to provide medical and hospital services to its subscribers in exchange for compensation. Under the terms of these contracts, GHP reimburses the hospitals and clinics by paying a negotiated per diem charge for inpatient services and a discounted percentage of billed charges for outpatient services. For the fiscal year ended June 30, 1987, the Clinic and GWV provided 80 percent of all hospital services to GHP subscribers. The remaining 20 percent were provided by other hospitals.
All physician services are provided to GHP subscribers pursuant to a contract between GHP and the Clinic. The contract requires the Clinic to open its emergency rooms to all GHP subscribers, regardless of ability to pay, just as the Clinic's emergency rooms are open to all members of the public, regardless of ability to pay. The Clinic will contract with unaffiliated physicians to provide required services, but for the year ended June 30, 1987, more than 84 percent of the physician services which the Clinic provided to GHP's subscribers were performed by physicians who were employees of the Clinic. GHP compensates the Clinic for the physicians' services by paying a fixed amount per subscriber.
Generally, both GHP's group and individual subscribers are required to pay for hospital services on the basis of a community rating system. This system balances high-risk subscribers against low-risk subscribers. The subscribers must also make copayments for certain goods and services. Individual subscribers pay an additional amount which group subscribers do not pay. This amount covers the additional costs associated with handling individual subscriberships. If a subscriber fails to pay an amount due to GHP or fails to make a required copayment, the subscriber's coverage is terminated upon 30 days written notice, unless payment is made within the 30 days.
GHP has adopted a subsidized dues program which has not yet been implemented. The program would establish a fund comprised of charitable donations and operating funds to subsidize GHP subscribers who are unable to pay their premiums. The fund would, in GHP's view, "add to the security of [subscribers], any of whom may at some time suffer financial misfortune due to loss of employment, physical or mental disability or other causes beyond their control and which impute no dishonor to the [subscriber]." Appendix at 165. Although the program makes reference to subsidizing people who are already subscribers, GHP's submissions indicate that it also intends to admit people who require subsidization at the time they apply.
Despite GHP's initial projection that it would fund the program by raising $125,000 in contributions over its first three years of operation, it has been unable to do so, it claims, because potential donors cannot be assured that contributions will be deductible on their federal income tax returns until GHP receives recognition of tax-exempt status under section 501(c)(3). GHP has likewise been unable to support the program with operating funds because it operated at a loss from its inception through the time the record in this case closed.
GHP enrolls some subscribers who are covered by Medicare and Medicaid. As of March 31, 1988, it had enrolled 1,064 Medicare recipients at a reduced rate on a wraparound basis, meaning that it will cover what Medicare does not. It also has enrolled a small number of Medicaid recipients in a few exceptional situations. Generally, however, GHP cannot offer coverage to Medicaid recipients until and unless it contracts with the Pennsylvania Department of Welfare, which administers Pennsylvania's Medicaid program. GHP has negotiated with the department to obtain such a contract, but efforts to reach agreement have thus far been unsuccessful.
Shortly after its incorporation, GHP applied to the IRS for recognition of exemption. The Commissioner ruled that GHP was not exempt because (1) it was not operated exclusively for exempt purposes under section 501(c)(3); and (2) it could not vicariously qualify for exemption as an "integral part" of the Geisinger System.
GHP filed suit in Tax Court, requesting a declaratory judgment that it was exempt. The parties submitted the case to the Tax Court on a stipulated administrative record. The Tax Court reversed the Commissioner's ruling in an opinion dated December 30, 1991, which was made final by an order dated February 20, 1992. On May 15, 1992, the Commissioner appealed.
The first issue is whether GHP, standing alone, is entitled to tax-exempt status under section ...