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Which Entity in Hospital Governance Is Legally Responsible for the Hospitals Operations

Another factor that creates an important organizational distinction between investor-owned hospitals and not-for-profit hospitals is restrictions on the purposes for which not-for-profit businesses can be organized and operated. First, almost all laws of not-for-profit corporations require that the corporation be for a limited number of purposes, usually charitable, scientific, educational, charitable, religious, etc.22 Second, and this is probably the most fundamental difference between not-for-profit corporations and not-for-profit corporations, the income and assets of the not-for-profit corporation must not benefit an individual.23 In summary, There are a number of significant differences in how the law treats investor-owned hospitals and not-for-profit hospitals versus their organization. While there also appear to be statistical differences in the efficiency with which the two types of hospitals conduct their operations that prefer the investor-owned form, it is not clear that these differences can be causally related to the legal differences between the two forms, unless entrepreneurial decision-making can be more “objective” when physically and organizationally removed from the local scene. It is common for hospitals to retain lawyers with designations such as Deputy General Counsel, Chief Legal Officer, Chief Compliance Officer and Chief Risk Officer. The General Counsel oversees the activities of the entire legal team. These different roles are important because hospital lawyers interact with many different stakeholders, including universities, health care providers, researchers and the public. Due to the many legal requirements of hospitals, legal teams must be flexible, multidisciplinary and innovative. The majority of hospitals (which make up the majority of hospital beds) are organized and operated as not-for-profit corporations. They are subject to the non-profit corporation laws of the states in which they are registered. Compared to corporation laws, not-for-profit corporations laws are much more diverse across the country. Nevertheless, some general remarks can be made. There are two basic types of non-profits: membership and non-membership.7 As in many other industries, the role of the corporate secretary becomes paramount.

Indeed, some governance experts are advocating a change of title from secretary to chief governance officer. Many hospitals are lagging behind, marginalizing the secretary and seeing her as little more than a note-taker and file writer. Given the major changes in governance, Corporate Secretaries are the most important individuals who champion the governance expertise of their Board of Directors. Investor-owned hospitals, on the other hand, are in most cases not required to provide charitable services and are more likely to accept only patients for whom they are fully reimbursed. In addition, investor-owned hospitals are eligible for third-party payments that not-for-profit organizations do not have. The most important of these is the reimbursement of an appropriate “return on equity” in addition to costs under the Medicare program.41 This return on equity has recently been paid out at rates of more than 22% of equity.42 Investor-owned hospitals are therefore guaranteed a “profit” that is denied to not-for-profit hospitals. In addition, many federal and state taxes are allowed under the Medicare program,43 further reducing the tax benefit of the tax-exempt nonprofit hospital. However, non-profit organizations are technically not owned by anyone, so the idea of holding companies is somewhat alien to them.

It is only recently that non-profit hospitals have ventured into the restructuring arena, and even then, with great reluctance. A fairly popular method of nonprofit restructuring — the creation of a nonprofit holding company and appointment as a sole member of the hospital society — will not work in the previously discussed states, which prohibit the transfer of income from nonprofit corporations to corporate members. Therefore, other, more unfamiliar methods must be used. Nonprofits have also been much slower than investor-owned companies to start hospital chains for the same reason. It is impossible to generalize whether the non-profit or investor-owned form is the most advantageous for hospitals in terms of financial transactions. While it is true that many of the benefits that not-for-profit organizations have had in the past have eroded over the years, the tax exemptions generally available to not-for-profit organizations still provide a strong incentive for them to retain this status. Only a careful institution-specific analysis can determine which form is most financially appropriate for a hospital in light of current or anticipated legal or regulatory circumstances. Ultimately, in adequately reimbursing care for the elderly and poor, the biggest financial disadvantage of the nonprofit hospital may be the expectations of the community, state, and federal government about the role of these hospitals.

Even if the actual amount of tax were not high (as is increasingly the case with declining revenues and tax rates), a 501(c)(3) exemption is important for other reasons. On the one hand, it is a prerequisite for exemption from federal Social Security taxes,34 which can result in huge savings for hospitals, as these are typically labor-intensive operations.