Publications: Income Generated by Professional Corporations Affiliated with Non Profit Hospital Taxable, IRS Determines

Income from six physician professional corporations (“PCs”) is taxable unrelated business income for its affiliated tax-exempt hospital and parent, the IRS determined in a January 26, 2007, IRS private letter ruling (“PLR”) released April 20.

The PLR reviewed the relationship between the for-profit PCs and the exempt hospital and its parent which provided loans and advances to the PCs. In its ruling, the IRS affirmatively found that:

• the hospital is a “controlling organization” with respect to the PCs;
• the income (or loss) generated by the PCs is “net unrelated income” because the PCs are engaged in an unrelated trade or business; and
• interest on the loans received or accrued by the hospital and its parent from the PC is gross income derived from an “unrelated trade or business,” and is therefore taxable.

The IRS deemed the hospital to be the controlling organization of the PCs based on the hospital’s retention of all significant rights associated with ownership of the PCs, despite the fact that physicians hold legal title to all of the stock of each of the PCs, and that state law prohibits non-physicians from holding stock in professional medical corporations.

The IRS also noted that the PCs serve patient populations distinct from the hospital, and conducted their activities on a larger scale than is reasonably necessary for the performance of the hospital’s exempt functions. Accordingly, the IRS determined that the PC’s services did not substantially help to achieve the hospital’s tax-exempt purposes.

Read the entire IRS PLR here.