August 15, 2023
IRS denies tax-exempt status to organization providing pharmacy benefits
In PLR 202331004, the IRS determined that an organization that claimed it was an alternative to a traditional pharmacy benefit manager (PBM) did not qualify for tax-exempt status under IRC Section 501(c)(4) because it carried on a pharmacy administration business that competed with taxable PBMs, even though its purpose was, in part, to provide access to health benefits to uninsured and underinsured individuals. The IRS concluded that the organization did not operate exclusively for the promotion of social welfare and therefore did not qualify as tax-exempt under IRC Section 501(c)(4).
The organization applied for tax-exempt status based on its stated intention to (1) offer pharmacy and medical health benefit coverage to the general public, governmental entities, and employer groups; (2) address the pharmacy, medical and related health benefit needs of the uninsured and underinsured; and (3) engage in activities that relate to social welfare.
According to the organization, it will acquire the assets of an affiliated for-profit organization owned by the organization's founder at fair market value, including the for-profit organization's office, furniture, intellectual property, client contracts and third-party manufacturer contracts. The new organization will then continue servicing the predecessor organization's clients. The IRS said the new organization's "projected expenses indicate significant continued financial arrangements" with the predecessor organization, noting that the financial statements project that the organization "will incur significant future expenses payable to [the] predecessor, most significantly allocated personnel costs, but also over a million in administrative fees per year."
The organization said it would, among other things:
Law and analysis
In its denial letter, the IRS stated that an entity seeking to qualify for tax-exempt status as an IRC Section 501(c)(4) organization must operate exclusively for the promotion of social welfare. To be operated exclusively for the promotion of social welfare, the organization must be primarily engaged in promoting the common good and general welfare of its community. The IRS concluded that the organization did not establish that it operated exclusively for social welfare purposes within the meaning of IRC Section 501(c)(4).
The IRS said the organization appeared to carry on a business like a traditional PBM, but with the goal of offering services for less money and in a socially conscious manner, which does not constitute an organization that operates exclusively for the purpose of promoting social welfare.
In support of its conclusion, the IRS noted that the organization:
The IRS concluded that the organization's "non-exempt activities are more than insubstantial," and thus the organization is not exempt from federal income tax under IRC Section 501(c)(4).
Health care-related organizations seeking exemption under IRC Section 501(c)(4) must ensure they are established to operate exclusively for the promotion of social welfare, and that social welfare is not merely an incidental component of their activities. As highlighted in this PLR, an organization may aim to provide some type of public or community benefit, but will likely have its exemption denied or revoked after review if it operates like a for-profit organization and/or provides private inurement to an insider. This ruling also has implications for non-provider organizations such as ACOs, HMOs, and other health plans, which need to establish that they are primarily operated to serve medically underserved persons in their communities, rather than to compete with for-profit competitors for similar members/ subscribers, to qualify for 501(c)(4) status.
Please contact your Ernst & Young LLP Tax Professional with any questions.
Published by NTD’s Tax Technical Knowledge Services group; Andrea Ben-Yosef, legal editor