Section 501(c) (3) of the US Internal Revenue Code allows for federal tax exemption of nonprofit organizations.[1] Exempt organizations include:

“Corporations, and any community chest, fund, or foundation, organized and operated exclusively for religious, charitable, scientific, testing for public safety, literary, or educational purposes, or to foster national or international amateur sports competition (but only if no part of its activities involve the provision of athletic facilities or equipment), or for the prevention of cruelty to children or animals…” [2]

Non-profit hospitals are eligible for tax-exempt status under 501 (c)(3). The Affordable Care Act added a new section, 501 (r) to the code which imposes a series of specific statutory requirements that hospitals must satisfy in order to qualify for exemption under code section 501(c) (3).[3]  These new standards involve community health needs assessment; financial assistance policies; hospital charges; and collection practices. Tax-exempt hospitals must be in compliance with the final regulations for tax years beginning after Dec. 29, 2015 in order to preserve their tax-exempt status.

  1. Community Health Needs Assessment

Under this requirement tax-exempt hospitals must conduct a community health needs assessment at least once during every three years, and the assessment must be available to the public.[4] The hospital must then adopt a strategy to meet the needs identified in the assessment, and if any hospital violates this standard, it is subject to an excise tax of $50,000.[5]

  1. Financial Assistance Policy

The Act requires tax-exempt hospitals to have written policies that address financial assistance and emergency medical care.[6] The policy has to show eligibility and the type of assistance.

  1. Limitation on Charges

Section 501 (r) (5) limits the amount charged to those qualified under financial assistance policy to not more than the amount that is generally billed to individuals covered by insurance for the same services.[7] Hospitals use two methods to determine the amount generally billed to individuals covered by insurance:  (1) the “look back” method, and (2) the “prospective” method. Under the “look back” method, hospitals look at the past claims that were paid only by Medicare or Medicare and a private insurance.[8] Under the “prospective” method, hospitals estimate an amount that would have been paid by Medicare for that service if the eligible individual under the financial assistance policy, was a Medicare beneficiary.[9] Moreover, hospitals are prohibited from the use of “gross charges” which is the full price for medical care before applying any deduction or discounts.

  1. Billing and Collections

Section 501 (r) (6) requires hospitals to make reasonable effort to determine whether individuals are eligible for financial assistance before taking extraordinary collection actions. The reasonable effort includes notifying the individual about the financial assistantance program; giving the individual sufficient information for completing the application; and documenting the process for determining whether the individual is eligible for assistance.[10]  After the steps are taken for the “reasonable effort” requirement, hospitals must wait for 120 days before they can conduct extraordinary collection actions against the individual.


Failure to meet these requirements will result in $50,000 excise tax for failure to demonstrate compliance with community health need assessment for that year and each succeeding year of noncompliance.[11] The more severe penalty is loss of tax-exempt status for noncompliance with any section of 501 (r) requirements.[12]


Farnoosh Faryabi has an LLM from the University of Washington School of Law in Health Law.

[1] 77 Fed. Reg. 38147, 38151 (June 26, 2012).

[2] IRC § 501(c)(3).

[3] 77 Fed. Reg. 38147, 38151 (June 26, 2012).

[4] IRC § 501(r)(3)(A)

[5] IRC § 4959

[6] IRC § 501(r)(4).

[7] IRC § 501(r)(5)(A).

[8] 77 Fed. Reg. 38147, 38154 (June 26, 2012).

[9] Id.

[10] 77 Fed. Reg. 38156

[11] IRC § 4959

[12] IRC § 501(r)(1)

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