In 2006, the majority—59 percent—of the roughly 4,900 nonfederal, acute care general hospitals in the United States were nonprofit. The rest included government hospitals (25 percent) and for-profit hospitals (17 percent). States varied—generally by region of the country—in their percentages of nonprofit hospitals (see fig. 1). States in the Northeast and Midwest had relatively high concentrations of nonprofit hospitals, whereas the concentration was relatively low in the South. For example, 88 percent of Massachusetts’ hospitals were nonprofit, whereas only 32 percent of Texas’ hospitals were nonprofit. Among nonprofit hospitals we examined in California, Indiana, Massachusetts, and Texas, the average size of these hospitals, as measured by total operating expenses, varied (see table 1). For example, the average total operating expenses of nonprofit hospitals in Massachusetts were 98 percent higher than average total operating expenses of nonprofit hospitals in Indiana. Federal tax exemption for charitable organizations has been in existence since the beginning of federal income tax law. This exemption is based on the principle that the government’s loss of tax revenue is offset by its relief from financial burdens that it would otherwise have to meet with appropriations from public funds, and by the benefits resulting from the promotion of general welfare. Nonprofit hospitals have never been expressly categorized as tax-exempt organizations under section 501(c)(3) of the Internal Revenue Code. However, these hospitals are able to qualify for federal tax exemption under section 501(c)(3) of the Internal Revenue Code since IRS and courts have recognized the promotion of health for the benefit of the community—where medical assistance is afforded to the poor or where medical research is promoted—as a charitable purpose. Specifically, nonprofit hospitals must be organized and operated exclusively for the promotion of health, ensuring that no part of their net earnings inure to the benefit of any private individual, and may not participate in political campaigns on behalf of any candidate or conduct substantial lobbying activities. IRS has also issued revenue rulings specifying how nonprofit hospitals can meet the requirements of federal tax exemption. In a 1956 revenue ruling, IRS required tax-exempt hospitals to provide charity care to the extent of their financial abilities, which was known as the financial ability standard. However, through another revenue ruling in 1969, IRS established the community benefit standard, which modified the charity care-based financial ability standard as to how hospitals could qualify for tax-exempt status. The community benefit standard specified that nonprofit hospitals were not required to provide charity care to qualify for federal tax exemption, but they must provide a benefit to the community. Therefore, nonprofit hospitals could qualify for tax-exempt status so long as they benefited the community in a way that relieved a governmental burden and promoted general welfare, even if not every member of the community received a direct benefit. In the 1969 revenue ruling that established the community benefit standard, IRS recognized five factors that would support a nonprofit hospital’s tax-exempt status. These five factors were (1) the operation of an emergency room open to all members of the community without regard to ability to pay; (2) a governance board composed of community members; (3) the use of surplus revenue for facilities improvement, patient care, and medical training, education, and research; (4) the provision of inpatient hospital care for all persons in the community able to pay, including those covered by Medicare and Medicaid; and (5) an open medical staff with privileges available to all qualifying physicians. IRS further stated that tax-exempt status would be determined based on the facts and circumstances of each case, and that neither the absence of particular factors set forth in the 1969 revenue ruling nor the presence of other factors would be necessarily conclusive. Nonprofit hospitals that qualify for tax-exempt status are exempt from federal income taxation, have access to bond financing that generates tax- free interest earnings for the bondholder—allowing these hospitals to borrow funds at a lower cost than nonexempt entities—and are eligible to receive contributions that are tax deductible for the donors. In addition, these hospitals may also be exempt under state law from state and local income, property, and sales taxes, which in some cases are of a greater value than the federal income tax exemption. Once nonprofit hospitals have applied for and are granted tax-exempt status by IRS, they must file Form 990 with IRS on an annual basis. Form 990 collects information such as revenues and expenses, and program service accomplishments. In December 2007, IRS released a revised Form 990 to include a schedule specific to hospitals— Schedule H—that requires nonprofit hospitals to report their provision of activities that benefit the community in specified categories: charity care, bad debt, unreimbursed cost of government health care programs, and other activities that benefit the community. The new hospital schedule will be mandatory starting in filing year 2010 for tax year 2009, and IRS officials have stated that complete data from the schedule may not be available until 2011, at the earliest. In addition to meeting IRS’s community benefit reporting requirements, hospitals that participate in the Medicare program—including nonprofit hospitals—must file hospital cost reports with CMS. The required cost report includes Worksheet S-10, which collects revenue and cost information on Medicaid, state and local indigent care programs, the State Children’s Health Insurance Program, and other uncompensated care— defined by CMS as charity care and bad debt—provided by the hospitals. CMS, in consultation with the Medicare Payment Advisory Commission (MedPAC), is revising Worksheet S-10 as part of broader efforts to update the Medicare hospital cost report. Beyond these two federal requirements, some states also require hospitals to report their provision of community benefits using state-specific reporting instruments. In addition, when requested, some hospitals also report their community benefits to the state hospital associations or other trade organizations to which they belong. IRS’s community benefit standard to qualify for tax-exempt status allows nonprofit hospitals broad latitude to determine the services and activities that constitute community benefit. Furthermore, state community benefit requirements that hospitals must meet in order to qualify for state tax- exempt or nonprofit status vary substantially in scope and detail. IRS’s community benefit standard that hospitals must meet to qualify for federal tax exemption provides broad latitude to the hospitals in determining the nature and amount of the community benefits they provide. Specifically, IRS, in a 1969 revenue ruling that established the current community benefit standard, modified the existing tax-exemption requirement that focused primarily on the level of charity care that a hospital provided. This 1969 revenue ruling also listed the five factors that demonstrated how a nonprofit hospital could benefit the community in a way that relieved governmental burden and promoted general welfare. While IRS recognized these five factors as supportive of a nonprofit hospital’s tax-exempt status, it also stated that a nonprofit hospital seeking exemption need not meet all five factors to qualify for tax-exempt status; instead, the determination is based on all the facts and circumstances, and the absence of a particular factor may not necessarily be conclusive. As stated by the Commissioner of Internal Revenue, some of the five factors are now common practice in the hospital community and are less relevant in distinguishing tax-exempt hospitals from their for-profit counterparts. For example, having an open medical staff, participating in Medicare and Medicaid, and treating all emergency patients without regard to ability to pay are common features of both tax-exempt and for-profit hospitals. Although the focus of IRS policy is no longer the level of charity care that hospitals provide, the 1956 revenue ruling remains relevant, and IRS and various courts have continued to take into account the extent to which a hospital provides charity care when determining an organization’s tax- exempt status. For example, among the factors that the Tax Court and several United States Courts of Appeals have considered in determining whether an organization met IRS’s tax exemption requirements were existence of a charity care policy, provision of free or below-cost services to individuals financially unable to make the required payments, and provision of additional community benefit—other than making hospital services available to all in the community—that either further the function of government-funded institutions or would not likely be provided within the community without a hospital subsidy. State community benefit requirements that hospitals must meet in order to qualify for state tax-exempt or nonprofit status vary substantially in scope and detail. Specifically, 15 of the states have community benefit requirements in statutes or regulations and 36 do not (see fig. 2). Of the 15 states with requirements, 5 states—Alabama, Mississippi, Pennsylvania, Texas, and West Virginia—specify a minimum amount of community benefits required in order for hospitals to be compliant with state requirements. Another 4 of the 15 states—Illinois, Indiana, Maryland, and Texas—have penalties for hospitals that fail to comply with their community benefit requirements. Appendixes III, IV, V, VI, and VII contain more information on state community benefit requirements and other related provisions. In addition to the variation in scope among state community benefit requirements, the level of detail among such requirements also varies substantially. Specifically, of the 15 states with community benefit requirements, 10 states have detailed requirements and 5 states have less- detailed requirements. The community benefit requirements of the 10 detailed states typically include some combination of the following factors: a definition of community benefit, requirements for a community benefit plan that sets forth how the hospital will provide community benefits, community benefit reporting requirements, and penalties for noncompliance. For example, California requires its nonprofit hospitals to adopt and annually update a community benefit plan, and annually submit a description of community benefit activities provided and their economic values, among other things. Similarly, Illinois requires its hospitals to develop an organizational mission statement and a community benefits plan for serving the community’s health care needs, and to submit an annual report of its community benefits plan, including a disclosure of the amount and types of community benefits actually provided. These states also typically define community benefit using examples of, and guidance on, the types of activities considered to be community benefit.