Charitable Hospitals - General Requirements for Tax-Exemption Under Section 501(c)(3)


Charitable hospitals must meet the general requirements for tax exemption under Internal Revenue Code (IRC) Section 501(c)(3) and Revenue Ruling 69-545 PDF. These general requirements are in addition to the four additional requirements imposed under IRC Section 501(r)(1).

Organizational and Operational Tests

Section 501(c)(3) organizations must be organized and operated exclusively for specific tax-exempt purposes to be exempt from federal income tax. In addition to being a type of organization that is specifically described within Section 501(c)(3), these organizations must also have the following characteristics:

  • No part of their net earnings is allowed to inure to the benefit of any private shareholder or individual.
  • No substantial part of their activities can consist of carrying on propaganda or otherwise attempting to influence legislation, and
  • The organization should not participate in, or intervene in any political campaign on behalf of (or in opposition to) any candidate for public office.

Charitable hospital organizations typically apply for and receive recognition from the IRS as being exempt from taxation as organizations described in Section 501(c)(3). The regulations under 501(c)(3) outline the various exemption requirements and state that an organization must meet both an organizational test and an operational test to qualify for exemption under Section 501(c)(3). 

Organizational Test

An organization must be organized exclusively for one or more exempt purposes. Generally, an organization is organized exclusively for one or more exempt purposes only if its organizational documents:

  • Limit the purposes of such organization to one or more exempt purposes,
  • Do not expressly empower the organization to engage, other than as an insubstantial part of its activities, in activities which in themselves are not in furtherance of one or more exempt purposes,
  • Do not expressly empower it to:
  • o devote more than an insubstantial amount of its activities to attempting to influence legislation;
  • o participate or intervene in any political campaign on behalf of or in opposition to any candidate for public office; and
  • o engage in activities which characterize it as an “action” organization,
  • The organizational documents must also permanently dedicate the organization’s assets to charitable purposes upon dissolution.

Operational Test

The operational test for exemption under Section 501(c)(3) consists of four broad categories: 

  1. Requirement to operate exclusively for exempt purposes
  2. Prohibition against inurement
  3. Prohibition against becoming an action organization; and
  4. Prohibition against substantial private benefit

An organization is considered to operate exclusively for one or more exempt purposes if it engages primarily in activities that accomplish one or more exempt purposes as specified in Section 501(c)(3).

In the context of operating a tax-exempt hospital, it’s not enough for a hospital to state that it operates exclusively to promote health. A hospital must also demonstrate that it operates to promote the health of a class of persons that is broad enough to benefit the community. This is known as the community benefit standard.

In addition, Section 501(c)(3) prohibits an organization from distributing its net earnings to any private shareholder or individual. Treasury Regulation 1.501(a)-1(c) defines a private shareholder or individual as a person or persons having a personal and private interest in the activities of the organization.

Hospitals must also comply with the statutory requirements that prohibit an organization from qualifying for Section 501(c)(3) if a substantial part of the organization's activities consists of carrying on propaganda or otherwise attempting to influence legislation or if the organization engages in any political campaign intervention.

Finally, the regulations state that an organization is not organized or operated exclusively for exempt purposes unless it serves a public rather than a private interest.

Community Benefit Standard

The community benefit standard, as outlined in Rev. Rul. 69-545, is a test the IRS uses to determine whether a hospital is organized and operated for the charitable purpose of promoting health. Rev. Rul. 69-545 provides examples illustrating whether a hospital is described under Section 501(c)(3).

Section 501(c)(3) provides exempt status for organizations that are, in general, religious, charitable, scientific, literary or educational. The promotion of health is not a specifically enumerated purpose within Section 501(c)(3). However, it is one of the purposes in the general law of charity that is deemed to be beneficial to the community as a whole, even though the class of beneficiaries eligible to receive a direct benefit from its activities does not necessarily include all members of the community. 

Therefore, to qualify as an organization described in Section 501(c)(3), a hospital must:

  • Demonstrate that it provides benefits to a class of persons that is broad enough to benefit the community, and
  • Operate to serve a public rather than a private interest.

Rev. Rul. 69-545 provides the following factors that demonstrate community benefit:

  • Operating an emergency room open to all, regardless of ability to pay
  • Maintaining a board of directors drawn from the community
  • Maintaining an open medical staff policy
  • Providing hospital care for all patients able to pay, including those who pay their bills through public programs such as Medicaid and Medicare
  • Using surplus funds to improve facilities, equipment, and patient care; and
  • Using surplus funds to advance medical training, education, and research.

Rev. Rul. 56-185 PDF, modified by Rev. Rul. 69-545, set forth more restrictive requirements for exemption of hospitals under Section 501(c)(3). Those more restrictive requirements included patient care without charge or at rates below cost. Though a hospital is no longer required to operate under those requirements, doing so continues to be a significant factor indicating that the hospital is operated for the benefit of the community.

Although no one factor is determinative in considering whether a nonprofit hospital meets the community benefit standard, the IRS weighs all the relevant facts and circumstances in evaluating these factors. Additional factors, such as whether a hospital provides financial assistance to those not able to pay, are relevant in determining whether the hospital is providing a benefit to the community. 

Open Emergency Room

Generally, operating a full-time emergency room open to everyone, regardless of ability to pay, is a factor weighing heavily in favor of a finding that the hospital satisfies the community benefit standard.

A hospital that does not operate a full-time emergency room is not fulfilling the community’s need for emergency health care and therefore may not be operating for the benefit of the community. Operating an emergency room that’s not open to everyone, regardless of ability to pay, indicates the hospital is not operating for the benefit of the community since a significant segment of the community is not being served. However, as described in Rev. Rul. 83-157, if a state health planning agency determined that additional emergency facilities would be unnecessary and duplicative or if the hospital offers medical care limited to special conditions unlikely to necessitate emergency care such as eye or cancer hospitals, then the fact that a hospital organization does not operate an emergency room will not, by itself, disqualify it as a Section 501(c)(3) organization.

Community Board

Members of the hospital medical or administrative staff or their representatives may serve on a governing body of the hospital also composed of members of the community. However, control of the governing body by the members of the hospital medical or administrative staff or their representatives indicates that the hospital may be serving private interests rather than public interests and therefore not providing a community benefit.

In addition, members of the governing body who are also members or representatives of the medical or administrative staff should not participate in the decision-making process where questions of inurement or private benefit to members of the medical or administrative staff might arise, such as compensation. However, other areas that are within the particular expertise of the members of the medical staff, such as appropriate medical treatment and medical research or education, may be subject to their unrestricted control.

Open Medical Staff Policy

The requirement of an open medical staff was originally intended to take care of the problem of doctor-owned hospitals seeking exemption while limiting admissions to their own patients. Today, this is less likely to be a problem since hospitals want as many physicians as possible associated with them to increase paying admissions. However, it remains a factor because of the unique relationship that physicians have with hospitals.

A hospital that restricts its medical staff privileges to a limited group of physicians is likely to be operating for the private benefit of the staff physicians rather than for the public interest. By the same token, the hospital does not need to grant medical staff privileges to every physician that requests them to be considered operating for the benefit of the community,

Care for All/Ability to Pay

In general, a hospital is required to admit patients with the ability to pay for non-emergency services, either by themselves or through health insurance, to the extent qualified facilities are available. A hospital that restricts admissions to patients of staff members is operating for the benefit of its staff members and not for the benefit of the community as a whole.

Once a determination is made that a particular patient is covered by health insurance, governmental program or otherwise has sufficient resources to pay for health care, and the hospital has the available space and can provide the appropriate medical services, the patient should be admitted to the hospital in a nondiscriminatory manner. A patient not admitted under these circumstances is strong evidence that the hospital is not operating for the benefit of the community.

Surplus Funds

The fact that a hospital operates at an annual surplus of receipts over disbursements does not preclude its exemption. Rather, by using its surplus funds to improve the quality of patient care, facilities and equipment, the hospital is operating in furtherance of its exempt purposes.

Additionally, by using surplus funds to advance its medical training, education, and research programs, a hospital is promoting the health of the community.

Financial Assistance

The provision of free or subsidized care to the indigent is a significant indicator to the courts and the IRS that a hospital promotes health for the benefit of the community.

In Rev. Rul. 69-545, the IRS ruled a hospital that operated a full-time emergency room, did not deny emergency care to those who could not afford to pay, and met certain other requirements qualified for exemption. These charitable factors outweighed the fact that the hospital ordinarily limited admissions to individuals who could afford to pay for their hospitalization and referred indigent patients requiring hospitalization to another hospital in the community that served indigent patients.

By contrast, Rev. Rul. 69-545 denied exemption to a hospital that maintained an emergency room on a “relatively inactive basis” primarily for the convenience of its paying patients, and instructed ambulance services to take emergency cases to other area hospitals.


For more information about the new requirements for tax-exempt hospitals and other provisions of the Affordable Care Act: