Private Inurement
In order for any healthcare organization or nonprofit hospital to become income tax exempt under Section 501(c)(3) they must ensure that no portion of the hospital or organizations net earnings benefits any individual or private shareholder associated with the organization. When an organization qualifies as a 501(c)(3), the IRS presumes it is a private foundation unless the organization can show it is a public charity. This excludes statutory public charities such as schools and churches. A charity organization can lose tax exempt benefits if found to violate the private inurement proscription. Inurement violations can occur when a financial benefit occurs from the allocation of an organization’s financial resources to an individual without regard to exempt status in mind and based solely on the individual’s relationship with the organization. Individuals or private shareholders are known as “insiders” who have a personal interest in the organization’s activities or the individual is in a position to influence the organization (Zarzar, 2001).
According to Karl Emerson, excessive compensation is the most common type of private inurement paid to insiders within an organization. There are other forms of private inurement that can cause an organization to lose their tax exempt status or impose intermediate sanctions such as: organizations purchase of an asset from an insider; sale of organization’s asset to an insider; the organization’s rental of property to or from an insider; organization lends money to an insider; and the use of facilities and/or other assets of the organization by an insider. This is not an all-inclusive list. Determining whether the transaction is fair and reasonable is the deciding factor of whether the transaction violates the private inurement prohibition (Emerson, 2009).
The IRS and the courts have ruled consistently