compliance with closing agreements and other irs examination and compliance initiatives

22nd Annual Health Sciences Tax Conference Compliance with closing agreements and other IRS examination and compliance initiatives December 5, 2012

Compliance with closing agreements and other IRS examination and compliance initiatives

Disclaimer

► Any US tax advice contained herein was not intended or written to be used, and cannot be used, for the purpose of avoiding penalties that may be imposed under the Internal Revenue Code or applicable state or local tax law provisions.


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Presenters

► Dennis Hesch Executive Vice President/Chief Financial Officer The Carle Foundation Urbana, IL

► Mike Rachael Ernst & Young LLP

Atlanta, GA + 1 404 817 5676 [email protected]

► Lucille White Ernst & Young LLP

Chicago, IL + 1 312 879 2670 [email protected]


Agenda

► Internal Revenue Service (IRS) 2012 work plan ► The Carle Foundation IRS audit experience ► Other recent IRS audit issues

IRS 2012 work plan


IRS 2012 work plan

► Lois Lerner’s January 19 remarks at the University of Texas School of Law Nonprofit Organizations Institute

► “… Unfortunately, our 2012 workplan is not quite ready for prime time so it’s not out yet and I am not going to be talking about it. You will find in your materials a copy of last year’s workplan and if you haven’t looked at it, you ought to take a look. If you’re working in this area, you really ought to pay attention to what the workplan says because we try to be extremely transparent with you and let you know what we’re thinking … .”


IRS 2012 work plan

► Lois Lerner’s January 19 remarks at the University of Texas School of Law Nonprofit Organizations Institute (cont.)

► “… Better understanding of who we are and what we do is really important I think in terms of compliance. I am very fortunate because the exempt sector as a whole is a very compliant sector. My philosophy is, if I can provide you with information on how to do your jobs correctly, then you will follow that path … .”

►


IRS 2012 work plan

► Lois Lerner’s January 19 remarks at the University of Texas School of Law Nonprofit Organizations Institute (cont.)

► “… For hospitals, the difference is the type of community benefit that they provide. They are not exempt because they provide health care. They are exempt because they provide community benefit. I am guessing if I ask each and every one of you to describe what community benefit is, we would get as many answers as we have people here because community benefit is this nebulous concept that was developed 30 years ago and we really haven’t looked at it … .”


IRS work plan — fiscal 2012 work plan

► In FY 2012, exempt organizations (EO) will continue to implement new legislation. ► Auto-revocation for non-filers ► Requirements for tax-exempt hospitals ► Section 501(c)(29) organizations ► Accountable care organizations ► Reporting requirements




► “… Interestingly enough, Congress, in the Affordable Health Care Act, has a requirement that all hospitals be reviewed once every three years for their community benefit activities. So we didn’t know they were going to do that but it works out nicely that we have this Schedule H because we can now do it and our Review of Operations is the office that is doing that because those are not audits. They are just reviews and we’re looking at 990s and other information, to gather information for a report that we owe Congress in the future … .”



► Compliance: using the Form 990: ► 501(c)(4), (5) and (6) self-declarers ► Political activity ► 990-T and unrelated business income tax (UBIT) ► Governance




► Compliance: using the Form 990: ► Lerner: “That’s a really good question. The question was, is there

a difference between the process we use when we look at an organization that filed an electronic return versus a paper return and the answer is absolutely not. We make our choices and decisions in terms of what cases we’re going to look at based on data. If you filed a paper return, I am looking at data because it gets transcribed. If you file an electronic return, I am looking at data. If I only have data on the electronic return and not on the paper return, I won’t use that criteria as a selection. So they are treated exactly the same.”



► Collaborative efforts: ► International ► Academic Institutions Initiative ► National Research Program ► EO examinations resource page on IRS.gov



► General work: ► Colleges and universities ► Disaster relief communications ► Group rulings ► Mortgage foreclosure assistance ► State-sponsored workers’ compensation organizations —

501(c)(27)s ► Private foundations ► EO services and assistance



► We’ve implemented several improvements that we hope will result in a more positive examination experience. ► Fast Track Settlement (FTS) process

► FTS is administered by Tax Exempt and Government Entities (TE/GE) and Appeals and provides an expedited process for the IRS and taxpayers to resolve disputes at an early stage using an Appeals official as a neutral party.

► EO Examinations unit located at the Ogden Service Center ► Resolving problems, like misapplied payments or incorrect imposition

of penalties, arising from examinations of exempt organizations. ► “Plain language” updates to some of our examination letters

► Adding contact information for the exam agent’s group manager in case organizations or their representatives wish to elevate their questions or concerns.

The Carle Foundation IRS audit experience


Carle organizational chart

___________________________ 1. d/b/a Carle Home Services, Carle Therapy Services, Carle Medical Supply, Carle Champaign Recovery Center, Danville SurgiCenter, Arabella Boutique, Carle Auditory Oral School,

Mills Breast Cancer Institute 2. d/b/a Carle Physician Group, Champaign Surgicenter LLC, Carle Foundation Physician Services LLC, Arrow Ambulance LLC, The Caring Place, and AirLife 3. d/b/a Windsor of Savoy, and Windsor Court 4. Joint Ventures include Advanced MRI, LLC and The Center for Orthopedic Medicine, LLC

The Carle Foundation

Carle Holding Company, Inc.

Health Systems Insurance, Limited

The Carle Foundation Hospital (1)

Carle Retirement Centers, Inc (3)

The Carle Development Foundation

Health Alliance Medical Plans, Inc.

Health Alliance-Midwest,

Inc.

Health Care Horizons

of Illinois, Inc.

HCH Administration Inc.

HCH Administration

Carle Risk Management

Company

eValidata, Inc.

Carle Community Health Corporation

Obligated Group members

Various Joint Venture Interests4

Carle Health Care Incorporated

(2)

Includes Carle

Physician Group

Stratum Med, Inc.

Hoopeston Regional Health Center/Hospital


The Carle Foundation — IDS

► Carle Hospital ► 345-bed Hospital is the primary teaching hospital for the School of Medicine at the

University of Illinois at Urbana-Champaign ► Service area — 29 counties in EC Illinois and six counties in WC Indiana ► Level I Trauma Center — only one in region, one of three downstate IL ► Level III Perinatal ► Magnet designation from ANCC ► Most Wired Award for 2012 ► Advanced certification as a Primary Stroke Center from The JC

► Carle physicians ► More than 365 physicians and 170 advance practice providers ► 50 specialties ► Located in nine communities across central Illinois (14 Clinic sites)

► Health Alliance Medical Plans ► Over 320,000 members ► Ranked in Top 10 Health Plans by U.S.News and World Report


Integrated system — service area


Carle history — Part I


Carle history — Part II


IRS examinations

► Audits of exempt organizations ► The goal of the Exempt Organizations Examinations program is to

promote voluntary compliance by analyzing operational and financial activities of exempt organizations. As in any IRS examination of taxpayer returns, exempt organizations undergoing examinations have certain rights, as explained in Publication 1.

► Issues in an audit may include an organization’s tax-exempt status and private foundation classification, whether it paid employment taxes and tax on unrelated business income when required, and whether it filed required returns and reports. Procedures for examinations are explained in greater detail in Publication 892.


Carle IRS examinations

► 2006 — IRS 990 audit of The Carle Foundation (TCF) and various affiliates returns for 2002, 2003, 2004 and 2005. Examine lasted nearly two and one-half years and ended up with a Closing Agreement.

► 2006 — IRS audit of Carle Clinic Association’s (CCA) consolidated federal tax returns for 2003, 2004 and 2005. Examination lasted nearly two years and ended up in appeals court.

► 2011 — IRS audit of Carle’s offshore captive insurance company focused on excise tax.


Carle IRS examinations

► 2012 — IRS Form 13837 — Compliance Check Information request

► 2012 — IRS audit of Carle Holding Company (formerly CCA) for-profit 2010 federal return

► 2012 — IRS audit of Carle Risk Management Company return for 2010

► 2012 — IRS 990 audit of TCF and Carle Foundation Hospital (CFH) returns for the 12 months ended June 30, 2010 and 6 months ended December 31, 2010


2006 — IRS 990 audit

► The IRS audited TCF and various affiliates’ returns for 2002, 2003, 2004 and 2005. Areas of focus were as follows: ► Unrelated business income (UBI) ► Carle Retirement Center charity care policy ► Historical practice of for-profit Carle Clinic renting space from tax

exempt Carle Foundation ► Open Medical Staff Policy and the fact that most staff physicians

were Carle Clinic physicians ► Foundation Board make-up ► Medical leadership positions ► Physician coverage of hospital services (e.g., ED, Radiology,

Pathology)


2006 — CCA IRS audits for 2003, 2004 and 2005

► The IRS audited CCA’s consolidated federal tax returns for 2003, 2004 and 2005. Concerns were raised on the following: ► Deferred Compensation Plan and Deferred Fee Plan ► Deductibility of premium payments for general and professional

liability coverage ► Incurred but not reported (IBNR) tax deduction amount


2012 — IRS Form 13837 — compliance check information request

► The IRS requests confirmation of compliance with the terms of the 2008 Closing Agreement entered into as a result of the 2006 audit of TCF and affiliates. ► Response sent to IRS in Dallas ► Facts have changed with TCF acquiring CCA in 2010 ► Compliance with the Closing Agreement is also being reviewed as

part of current audit being run out of Chicago


2012 — IRS audit of Carle Holding Company (formerly CCA) for-profit 2010 federal return

► This particular year had a lot of activity that is of interest to the IRS: ► CCA sold assets and stock to TCF as of April 1, 2010 ► CCA was on a cash basis and had to convert to accrual after the

sale; retroactive back to January 1, 2010 ► Sale generated a loss that was carried back to generate a refund ► Refund triggered the audit ► Determination of fair market value and the purchase price

allocation is being reviewed by IRS transaction specialists ► Carle used multiple third parties to help determine fair market

value (FMV) for the sale, so FMV should ultimately not be an issue


2012 — IRS 990 audit of TCF and CFH fiscal year ended June 30, 2010 and six months ended December 31, 2010

► In September 2012, the IRS notified Carle that they were selected for audit. After receiving a host of Information Document Requests (IDRs), an opening conference was conducted in October 2012.

► The IRS indicated that this audit was not random. It was the result of an independent referral (not a whistle–blower) regarding the use of community assets in acquiring Carle Clinic Association. Therefore, they would be focusing on the process for determining FMV.

► The IRS indicated that the second primary driver of the audit was to follow-up on the compliance with the 2008 IRS Closing Agreement.


2006 — IRS 990 audit, additional detail

► The 2006 audit summary: ► Ended up taking over two and one-half years ► Consumed over 1,000 man hours ► Cost over US$1,000,000 in legal services ► Revocation of tax-exempt status was referenced frequently ► Final result was a Closing Agreement ► Closing Agreement dictated operational and bylaw changes



► UBI: ► UBI had been reported correctly ► UBI would continue to be reported ► A lot of time spent on this



► Carle Retirement Center, an assisted living center: ► Was it affordable to a substantial portion of the elderly community? ► An affordability study every two years ► Results of study could drive a rate reduction regardless of

cost of care ► Charity care ► Parent charges related debt financing



► Historical practice of CCA renting space from tax-exempt Carle Foundation: ► CCA had historically leased space from TCF ► FMV was not an issue ► No change to the current rental arrangement ► Divestiture of ownership of TCF facilities:

► Five facilities ► Actively marketed ► Sold at public auction after five years

► 15% limit on rentable space in new buildings to CCA



► Open medical staff policy and medical leadership positions: ► Open staff policy continues ► Required to actively market the open staff policy ► Medical leadership could not be provided by a contract with an

independent physician employer ► Medical leaders needed to be employed/W-2 by TCF



► TCF board composition: ► Was limited by the bylaws due to the fact that physicians had to be

a minority of the Board ► 5 of 11 were physicians at this time ► Bylaws changed so that no more than 20% could be related

to CCA ► Physicians were limited to 30% maximum



► Physician coverage of hospital services: ► Payor differences for physicians covering hospital services (e.g.,

ED, Radiology, Pathology) had to be reviewed by TCF ► TCF required to try and ensure no payor differentials ► TCF to request physicians to accept out-of-network payment as

payment in full


Lessons learned summary

► Lessons learned: ► Documentation of all relationships is critical ► FMV consideration is a must ► What may be a good business relationship, even if documented

and within FMV, may not matter ► Document all replies ► If an audit appears to be getting off track, pull in outside legal and

tax professionals ► Be patient, reviews can go on for a long time ► The possibility of revocation of tax-exempt status is powerful

Other recent IRS audit issues



► UBTI (Unrelated Business Taxable Income) cost allocations: ► Transfer pricing (“best method” rule) ► Tax methods (e.g., depreciation, recurring items, unicap, intangible

property and repairs regulations) ► Substantiation (substantial causal relationship)

► Continuous loss activities: ► Profit motive ► Netting

► Foreign filings: ► Accuracy and completeness ► 2012 Offshore Voluntary Disclosure Program Initiative (OVDPI)



► Fixed, determinable, annual, periodical (FDAP) payments to non-US persons ► Withholding at the source

► Worker classification ► 1099 vs W-2

Questions?

compliance with closing agreements and other irs examination and compliance initiatives

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