I.R.S. Ruling Is Obstacle to ACO’s

A ruling by the Internal Revenue Service creates a significant obstacle to a new type of health care network that the Obama administration has promoted as a way to provide better care at lower cost, industry lawyers and providers say.

Health care markets are rapidly changing as independent doctors and hospitals race to form networks, known as accountable care organizations, in which they coordinate care for patients. The doctors and hospitals have financial incentives to keep patients healthy and to control costs, and they can share in the savings if they meet performance goals.

The new entities, which now cover more than 28 million people, according to Leavitt Partners, a health care consulting firm, help manage care forMedicare beneficiaries, for people with employer-sponsored insurance and for consumers who buy coverage through online marketplaces under the Affordable Care Act.

In its recent ruling, the I.R.S. denied a tax exemption sought by an accountable care organization that coordinates care for people with commercial insurance. The tax agency said the organization did not meet the test for tax-exempt status because it was not operated exclusively for charitable purposes and it provided private benefits to some doctors in its network.

The name and location of the organization, formed by a nonprofit health care system, were not disclosed. The ruling does not affect accountable care organizations formed solely to participate in Medicare, but it could affect similar entities serving privately insured patients. Many accountable care organizations coordinate care for both Medicare beneficiaries and privately insured patients.

Melinda R. Hatton, senior vice president and general counsel of the American Hospital Association, said the I.R.S. ruling “appears to be a serious obstacle for nonprofit hospitals striving to coordinate care for their communities.”

In a letter asking the tax agency to reconsider its position, Ms. Hatton said, “The I.R.S. ruling is in conflict with the direction that the Department of Health and Human Services has given to the hospital field.” It is, she said, imperative for the government to make clear that hospitals can participate in accountable care organizations without “incurring the catastrophic loss of their tax-exempt status.”

T. J. Sullivan, an expert on the tax treatment of health care providers, said the I.R.S. ruling meant that accountable care organizations “will face an uphill battle” in trying to qualify for federal income tax exemptions if they do not participate in Medicare.

The I.R.S. acknowledged that the organization in question was trying to increase the quality of care, lower costs and improve the health of the community — the “triple aim” championed by President Obama.

But, it said, the organization has also negotiated agreements with insurers on behalf of doctors — and that is not a charitable activity, or one that directly benefits the community as a whole.

“The presence of a single substantial nonexempt purpose destroys the exemption, regardless of the number or importance of the exempt purposes,” the agency said.

Catherine E. Livingston, a tax lawyer at the firm Jones Day who was the health care counsel at the I.R.S. from 2010 to 2013, said the ruling was out of step with trends sweeping the health care industry.

“In the past,” she said, “insurers paid for every service and procedure one patient at a time. But now the fundamental thrust of all American health policy, led by the Department of Health and Human Services, is to think about health care on a population-wide, communitywide basis. The I.R.S. has not yet accepted this new paradigm.”

The tax agency said that an accountable care organization participating in Medicare could be tax-exempt because it advances “the charitable purpose of lessening the burdens of government.”

By contrast, the I.R.S. told the group seeking tax-exempt status, “You are not established pursuant to a statute, managed by government officials or funded by government grants,” and “there is no government oversight of your activities similar to that of an A.C.O.” in Medicare. Under the 2010health care law, the government has recognized more than 400 accountable care organizations for Medicare beneficiaries.

The accountable care organization is a relatively new way of managing and financing health care, based on the premise that insurers should not just pay for more and more services provided to people who are sick or injured.

“Many health plans see accountable care models as the wave of the future,” said Clare Krusing, a spokeswoman for America’s Health Insurance Plans, a trade group. But, she said, insurers also see a risk that doctors and hospitals, working together in an accountable care organization, will “operate as a provider monopoly and charge far higher rates” than they could if they were doing business independently.

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