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Present:

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UNIVERSITY OF VIRGINIA HEALTH SERVICES FOUNDATION, ET AL. v. OPINION BY JUSTICE DONALD W. LEMONS February 29, 2008 HUNTER MORRIS, AN INFANT, BY HIS NEXT FRIENDS, ELIZABETH PIERCE MORRIS, HIS MOTHER, AND DAVID R. MORRIS, HIS FATHER, ET AL. FROM THE CIRCUIT COURT OF THE CITY OF CHARLOTTESVILLE Edward L. Hogshire, Judge STUART A. HOWARDS, M.D., ET AL. v. Record No. 070217 Record No. 070214

WILLARD A. SEARCY, AS ADMINISTRATOR OF THE ESTATE OF CARA LEIGH SEARCY, DECEASED, ET AL. FROM THE CIRCUIT COURT OF THE CITY OF CHARLOTTESVILLE Edward L. Hogshire, Judge CRYSTAL ANN MacARTHUR, A MINOR, BY HER MOTHER AND NEXT FRIEND, DEBORAH ANN YORK, ET AL. v. Record No. 070475

UNIVERSITY OF VIRGINIA HEALTH SERVICES FOUNDATION FROM THE CIRCUIT COURT OF THE CITY OF CHARLOTTESVILLE Randy I. Bellows, Judge Designate In these consolidated appeals, we consider whether the University of Virginia Health Services Foundation ("HSF") is entitled to charitable immunity.

I. FACTS AND PROCEEDINGS A. Health Services Foundation HSF is a "non-profit group practice health care provider organization" that employs the physicians who work at the University of Virginia School of Medicine ("Medical School"). The physicians who are employed by HSF are also employed by the Medical School. The physicians teach and perform research

at the Medical School and render patient care services at the University of Virginia Medical Center ("Medical Center") and regional primary care offices. HSF bills patients for

professional fees when the physicians treat patients. 1. Articles of Incorporation

HSF was created in 1979, primarily to improve the patient billing and collection process, which was previously performed by the University of Virginia (the "University"). The

Articles of Incorporation of HSF state several purposes of the organization: Section 2. Purposes and Restrictions (a) The purposes for which the Foundation is formed are exclusively charitable, scientific and educational, as contemplated by Section 501(c)(3) of the Internal Revenue Code of 1986, as amended . . . . More particularly, the Foundation is organized and shall at all times be operated to assist medical education by teaching in a group practice setting within the academic environment of the University of Virginia (herein the "University"), and, in particular, the University's Medical Center; to coordinate and deliver superior patient care

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therein, and in connection therewith to perform a public trust without regard to the race, color, creed, sex, age or ability to pay of the patients so served; and in concert with the University: (i) To provide hospital and medical care, education and research; (ii) To assist and conduct programs to cure, alleviate, and prevent human illness and disease; (iii) To provide teaching services on the undergraduate, post graduate and continuing education levels and to provide service generally to the various medical departments of the University's Medical Center; (iv) To assist and conduct programs of public charity to benefit patients who might not otherwise receive or be able to afford medical attention; (v) In furtherance of the above stated purposes, to use and apply the whole or any part of the Foundation's income and principal exclusively for charitable, scientific or educational purposes; (vi) To engage in any and all lawful activities incidental to the foregoing purposes except as limited herein. The Articles of Incorporation also state, "No part of the Foundation's net earnings shall inure to the benefit of a director or officer of the Foundation or to any private individual." Upon dissolution of HSF, none of the property or

proceeds of HSF may be distributed to officers or directors of HSF, or to any individual.

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2.

Providing Medical Care to Indigents

One of the purposes stated in HSF's Articles of Incorporation is "[t]o assist and conduct programs of public charity to benefit patients who might not otherwise receive or be able to afford medical attention." In furtherance of this

purpose, HSF provides medical care and treatment to all persons, regardless of their ability to pay or whether they have any outstanding debts to HSF. When a patient presents at the Medical Center and is unable to pay for a service, front desk staff perform a "verbal mini-screening" to determine the patient's income and number of dependents. The patient is given paperwork to

complete so the Medical Center can review the patient's financial status. If the Medical Center determines that the

patient is unable to pay all or a portion of his bill, he is classified at one of five levels of "medical indigency." patient is categorized as a "level one" (100% medically indigent), he is not charged for any of the services he receives from HSF physicians. If a patient is classified at a If a

lower level of medical indigency, anywhere from five to fiftyfive percent of the charge for the services is adjusted. If a medically indigent patient does not complete the financial paperwork, he is billed as a paying patient. The

patient may complete the paperwork during the billing and

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collection process.

If the patient is then determined by HSF

to be medically indigent, HSF makes a retroactive adjustment for the patient's entire account. HSF regularly files warrants in debt in the appropriate general district court to obtain judgments against patients who have a balance on their account. If HSF obtains a

judgment against a medically indigent patient, the patient may still file the financial status paperwork. If it is

determined that the patient is medically indigent, a retroactive adjustment is made to the patient's account. The current Chief Operating Officer of HSF, Bradley E. Haws ("Haws"), and the Director of Billing and Collections, Kevin M. Higgins, testified that HSF usually collects about 35-38% of "full bill charges" from a paying patient or insurance company because HSF has "agreements with third party payors that provide for payments to [HSF] at amounts different from its established rates." HSF's financial statements show

a loss of approximately $20-22 million a year in foregone collections for care provided to medically indigent patients. Because HSF would expect to actually receive only 35-38% of that amount if "collecting a typical amount," Haws testified that HSF actually failed to receive roughly $7-8 million in expected collections as a result of providing services to medically indigent patients in 2005.

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The Commonwealth reimburses the Medical Center up to the level of the costs of treating many medically indigent patients. Haws testified that in 2005, "5 and a half million

dollars was paid to the [M]edical [C]enter and then transferred to the faculty as compensation up to the level of cost for seeing [medically indigent patients]." Haws

testified that HSF therefore had an actual shortfall of about $1.5 million for treating medically indigent patients in 2005 instead of the $20 million reflected on the financial statements. 3. Flow of Money From HSF to Physicians

HSF, having been created for the purpose of conducting patient billing and collections, performs that function. HSF's revenue consists of its net patient service revenue ("estimated net realizable amounts from patients, third-party payors, and others for services rendered"), reimbursements from the University for supervisory, administrative, and clinical services provided to the Medical Center, investment income, gain on the sale of capital assets, and "other miscellaneous revenue." HSF receives no funds as

contributions or donations because it is precluded from receiving contributions or donations under its affiliation agreement with the Medical School.

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HSF distributes its revenue in the following manner: (1) HSF pays its operating expenses 1 ; (2) 7% of gross revenue is then paid to the Dean of the Medical School (the "Dean's Tax") for an academic advancement fund; and (3) the balance is transferred to the various departments of the Medical School in accordance with how much revenue the departments generate. The physicians are employed by both HSF and the Medical School. A physician's salary is set by the Dean of the

Medical School and the chair of the department for which that physician works. The departments aggregate funds received

from HSF and the Medical School and use them to pay the physicians' salaries and benefits. The physicians' salaries consist of two components: a

guaranteed base salary, which is a fixed amount paid by the University and, in addition, an incentive payment 2 to the physicians from their respective departments. When the two

compensation components are combined, HSF physicians are compensated on average at about the forty-fifth to fifty-fifth percentile of salaries for physicians employed in academic

HSF's operating expenses do not include salaries for physician employees. 2 The plaintiffs in these cases refer to the non-fixed compensation as "bonuses," while HSF uses the term "incentive payments." Regardless of the varying terminology, it is clear that all parties are referring to the portion of the HSF physicians' salaries that is not fixed, which we refer to in this opinion as "incentive payments." 7

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medical centers, according to a survey conducted by the American Association of Medical Colleges ("AAMC"). HSF

considers this level of income necessary to recruit and retain physicians. 4. Tax Classification

In 1980, HSF applied to the United States Internal Revenue Service ("IRS") for recognition of federal income tax exemption under I.R.C.

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