In our previous article, we discussed what tax-exempt hospitals need to do in order to meet the Affordable Care Act requirements set forth in IRC 501(r). Failing to meet those requirements can result in the IRS contacting your organization for an examination. Today, we’ll touch on why a tax-exempt organization gets contacted by the IRS for an examination and what that means, as well as IRS correction procedures.
Why Are Organizations Selected for an IRS Examination?
The IRS contacts organizations for a variety of reasons, including:
- The information on a filed return (Forms 990, 990-T, 990-EZ or 990-PF) appears to be inconsistent or incomplete.
- The IRS receives a complaint from the public or a federal or state regulatory agency about potential noncompliance.
- Your Differential Index Function (DIF) score reaches a level that triggers the IRS to send a letter for review.
- There is an absence of your financial assistance policy (FAP), a plain-language summary of the FAP and the FAP application form with instructions on your website.
- Your organization must be reviewed once every three years, as required by the Affordable Care Act.
As you can see, in some circumstances, a tax-exempt organization may be selected for audit or review even though it has not filed a tax return.
What Are the Different Types of IRS Examinations?
The IRS uses two types of checks for IRC 501(r) compliance: audits and non-audits.
Audits: This is an examination of your books and records. The process may involve the questioning of third parties to determine your tax liabilities. Audits come in the form of a field audit, where the initial contact letter sets up an appointment for an IRS agent to visit your premises, and an office or correspondence audit, where the letter asks you to deliver documents to an IRS office by mail.
Non-Audits: If the letter you receive indicates the IRS is conducting a compliance check, your organization is not being audited. A compliance check is an IRS examination conducted to determine whether an organization is adhering to recordkeeping and information reporting requirements and if its activities are consistent with its stated tax-exempt purpose.
What Happens in an IRS Examination?
If your organization is selected for an IRS examination, telephone contact is made by an IRS agent to schedule the appointment date and time. The IRS then mails a confirmation letter that requests the records and documents necessary to conduct the examination.
At the on-site examination, the IRS agent gathers information to determine whether your organization is operating in accordance with your tax-exempt function. They will discuss their findings in a closing conference call. If there are no proposed changes, your case is closed and you are issued a closing letter. However, if there are proposed changes, you can either implement them or appeal within the IRS or to the courts.
How Serious Are IRC 501(r) Violations?
Revenue Procedure 2015-21 provides guidance on correction and disclosure procedures, which includes guidance that the IRS will excuse certain failures to meet IRC 501(r) requirements for purposes of revocation. These include the following:
Minor Omissions and Errors: This includes omissions or errors that are minor and either inadvertent or due to reasonable cause. The health facility must correct the omission or error promptly after discovery, and the correction must include establishment of practices or procedures to promote overall compliance with 501(r). In the event of multiple omissions or errors, these will only be excused if they are minor in the aggregate.
Failures That Are Neither Willful nor Egregious: These are excused if the health facility corrects and makes a disclosure in accordance with rules set by revenue procedure or IRS guidance. Facts and circumstances determine whether a failure is willful or egregious. The IRS has stated that correction will be a factor showing the failure was not willful.
Violations Resulting in Revocation of 501(c)(3) Status: Based on all of the facts and circumstances — including the size, scope, nature and significance of the failure — the IRS can revoke tax-exempt status. However, there is an intermediate sanction for hospitals operating multiple facilities. The IRS can tax the noncompliant hospital facilities while allowing the hospital organization to remain tax exempt.
To avoid IRS contact and an examination in the first place, it helps to ensure you are compliant with Affordable Care Act requirements, which you can learn more about here. If you have questions about IRC 501(r)’s requirements or IRS examinations, contact Wipfli today.