CSG Law Alert: Tax Court Ruling Cancels Property Tax Exemption for Non-Profit Hospital

On Thursday, June 23, 2015, the New Jersey Tax Court issued its opinion in AHS Hospital Corp d/b/a Morristown Memorial Hospital v Morristown, (AHS case). In an eighty-eight-page decision, the court eviscerated a long-standing real property taxation exemption for a non-profit hospital. If the decision stands, the hospital’s formerly non-existent annual tax bill would now be based on its current assessment of approximately $63,000,000, resulting in an annual tax bill (based on the current tax rate) of almost $1,700,000. The AHS case represents the first time the core organizational structure of a modern non-profit hospital has been thoroughly examined and found to have “for-profit” elements and characteristics so deeply embedded and interwoven with its “non-profit’ components that it rendered the hospital ineligible for being deemed “non-profit” and therefore disqualified from receiving a real property tax exemption.

For a hospital to be eligible for a property tax exemption in New Jersey, it must satisfy a three-part test: 1) the owner of the hospital must be organized exclusively for hospital purposes; 2) the hospital’s property must be actually used for hospital purposes and 3) the operation and use of the hospital must not be conducted for profit. Over the past few decades, New Jersey courts and the Legislature have periodically revised and molded this bedrock three-prong test. The base exemption statute was amended to provide for a so-called “partial” exemption for those portions of a hospital which qualified for an exemption while at the same time providing for conventional assessment and taxation of those portions of the building(s) not qualifying. The vast majority of cases construing the exemption statute have focused on the “use” prong of the test and whether a hospital, or portion of a hospital, was being used for “hospital purposes”. Those cases that had dealt with the “profit” prong of the test focused on certain ancillary sections of a hospital such as coffee shop or a day care center.

The AHS case focused on the heart of the hospital’s corporate structure and organization. Prior to doing so, the court traced the historic evolution of hospital operations in New Jersey. The court focused on hospitals having evolved from their origins as primarily charitable organizations providing medical care for indigent patients to their modern day model of being “peculiar economic hybrids” who carry on their affairs much like a business. The court noted that Atlantic Health System (Atlantic) was the parent holding company of many entities, one of which was the AHS Hospital Corp. (Hospital). The court identified both the for-profit and non-profit entities held by Atlantic. Atlantic and the Hospital had a “mirror” board of trustees. The Hospital owned 100% of the stock of a number of the for-profit entities, including certain for-profit physician practice groups. There were several other for-profit organizations that, while not owned by the Hospital, were held by Atlantic. Based on that record (and criticizing the Hospital for not having provided the court with any evidence of any clear segregation of the for-profit and non-profit operations) the court concluded that because it was unable to distinguish between the non-profit and for-profit activities carried out by and at the Hospital that the Hospital’s exemption had to be denied.

The AHS case will likely be appealed and may ultimately be resolved by the New Jersey Supreme Court. A legislative response to the litigation is also a distinct possibility. However, the consequences of the decision will be immediate. The annual property tax assessment “calendar” is such that October 1, 2015, is the status and valuation date for the 2016 tax year. Every municipality hosting a hospital or a remote medical facility that is affiliated with a hospital will now be examining this decision and could very well change the tax assessment treatment of such properties for the 2016 tax year. Even if the assessors in those municipalities were to maintain the current assessment on such facilities, the governing body of the municipality may authorize the filing of an affirmative municipal appeal to the Tax Court to challenge both the exemption and the valuation of such properties. Further, the question of what the proper appraisal methodology is to be applied to hospitals and related facilities will now become a major area of concern for the owners of those properties.

It is fairly certain that real property taxation of hospitals and related facilities in New Jersey has been fundamentally altered by the AHS case and all such property owners must begin now to seek counsel on how to proceed in these uncharted waters.