Revenue generated from hospital pharmacy sales to non-patients and laboratory testing of non-patient specimens is considered unrelated business income.
However, if the services are provided for the convenience of patients and employees of the hospital then the income is not taxable. (IRC Section 513(a)(2)).
Hospital pharmacy sales to the public directly compete with commercial pharmacies and are considered an unrelated trade or business unless the activity exists primarily for the convenience of patients and hospital staff. Additionally, the proceeds from sales made by a tax-exempt hospital pharmacy to private patients have been determined to be unrelated business income where sales are far from casual, and the profits are "substantial". (IRC Section 513(a)(2)).
As with pharmacy sales, laboratory testing of specimens from outside patients is potentially in competition with commercial enterprises performing the same function. This activity will be considered an unrelated trade or business unless the testing exists primarily for the benefit of the exempt hospital's patients and employees. (IRC Section 513(a)(2)).
Community Need Exception
An exempt hospital's testing of non-patient specimens may fulfill an important community medical need and thus serve the hospital's exempt purpose. (IRS Revenue Ruling 85-110, 1985-2 CB 166). For example, if testing facilities are otherwise unavailable in the community for a particular type of test, and the diagnosis or treatment of the non-patient would be hindered or jeopardized by referral of the specimen to another location, then the hospital's testing would serve as an important community need.
The following persons will be considered "patients" of a hospital for purposes of IRC Section 513(a)(2) and (Revenue Ruling 68-376, 1968-2 CB 246): Inpatients; outpatients (receiving general or emergency diagnostic, therapeutic, or preventative health services); a former patient refilling a prescription; and a person receiving medical services as part of a hospital administered home care program, or receiving medical care and services in a hospital affiliated extended care facility. (IRC Section 501(e)(1)(A)).
The IRS has ruled that private patients of doctors who are affiliated with the hospital but engaged in private practice in a nearby building are to be regarded as the general public.
Services Provided to Another Tax-Exempt Hospital
Hospitals often perform services (i.e. data processing, purchasing, warehousing, billing and collection, food, laundry, laboratory, personnel, printing, clinical, communications) for other hospitals. Under certain circumstances, these services may not result in unrelated trade or business income for the hospital providing the services. Such services performed by an exempt hospital for another exempt hospital do not constitute unrelated business income if the:
- services are provided as a fee that does not exceed actual costs including straight line depreciation and a reasonable rate of return on capital goods used to provide the service;
- services are furnished solely to hospitals serving not more than 100 inpatients; or
- services are consistent with the recipient hospital's exempt function.
Services Provided to a Hospital not Tax-Exempt
As with services provided to non-patients, the income received from services provided to a hospital which is not tax exempt will be considered unrelated.