Blue Cross rejects label 'charitable' More than semantics is at issue as plans eye for-profit status; Conversion could be costly; Consumer groups say assets belong to public due to tax breaks; Health care

Some organizations would be honored to be called charitable. Blue Cross plans may take offense at the designation.

The District of Columbia Blue Cross plan "is not, and to my knowledge never has been, engaged in charitable activity," Larry C. Glasscock, its chief executive officer, stated in response to questions from the D.C. Office of Corporation Counsel.


Similarly, Blue Cross Blue Shield of Maryland says it isn't a charity, and never has been.

But as the Maryland and D.C. plans seek regulatory approval for a "business combination," consumer groups are, in effect, accusing them of being charitable.


The debate is not just rhetorical. Potentially, hundreds of millions of dollars are at stake, as nonprofit Blue Cross plans throughout the country merge, convert to for-profit status or otherwise restructure themselves.

If charitable organizations convert to for-profit status, or are sold to for-profit businesses, under state laws all their assets are turned over to foundations serving a similar purpose. Consumer groups say Blue Cross plans have built their value through public tax breaks, so their assets belong to the public.

Blue Cross plans see it differently. Most Blue Cross plans are nonprofit, but they say that is not the same as being charities. State laws vary; some Blue Cross plans have conceded a "public benefit obligation" for all their assets, but others say there is no obligation.

The consumer groups are using "inflammatory rhetoric" to attempt "a wealth transfer from people who have paid for coverage to some outside body," complained Christopher Molineaux, vice president for communication of the national Blue Cross Blue Shield Association. "It's a campaign to extort money from these legitimate businesses."

John A. Picciotto, senior vice president and general counsel of Blue Cross Blue Shield of Maryland, acknowledged that the Blues would have some obligation if they converted to for-profit status.

"We fully expect that a public benefit obligation would be created in some degree," he said. But, he added, that obligation would not necessarily be the full value of the company -- which is what the consumer groups say would be owed if the plan is charitable.

In cases where the issue has been settled, the consequences can be dramatic. When the Blue Cross plan in California became a for-profit stock company in 1993, two health-related foundations were created in 1996 and got $3.2 billion, the full market value of the company.

Those California foundations are the largest of 81 health-related "conversion foundations" with assets of more than $9 billion, each launched when a Blue Cross plan, hospital or HMO converted from nonprofit to for-profit status, according to a study in the current issue of the journal Health Affairs. Nearly two-thirds of them were created in the past four years, the article reports.


A. G. "Terry" Newmyer 3rd, a consumer advocate with the Washington-based Fair Care Foundation, contends that the proposed Maryland-D.C. Blue Cross affiliation should trigger the creation of such a foundation.

Other consumer groups say that while the pending deal is not a merger or conversion, it may well be a step toward one. Regulators, they argue, need to take action now to make sure charitable assets are preserved if there is a switch to for-profit status in the future.

"Unless it is clearly demonstrated that adequate regulations currently exist to oversee potential conversions from a holding company to a for-profit company, we can only view a favorable decision on the holding company as facilitating for-profit conversion," said Richard Bruning, president of the Maryland Universal Health Care Action Network, in testimony at a hearing this month before the Maryland insurance commissioner.

"I am not confident these plans will remain nonprofit, charitable entities for long," Kathleen C. Collins, staff attorney for Boston-based Community Catalyst, said at the same hearing. "As you are probably aware, the Maryland plan has tried to convert twice in the past two years. In addition, the Maryland plan's stated rationale for the deal is based, in part, on the fact that the resulting company will be attractive to equity investors."

Regulators are well advised to look ahead to potential future transactions when considering whatever Blue Cross restructuring is on the table or "you can end up with creeping conversion" to for-profit status, said Jack Ehnes, Colorado's insurance commissioner.

Ehnes is considering a proposal by Colorado Blue Cross to convert to for-profit status, and he chairs a special committee of the National Association of Insurance Commissioners studying Blue Cross reorganizations.


Collins and other consumer representatives asked the Maryland and D.C. insurance commissioners to require, as a condition of approving their affiliation plan, that the two Blue Cross plans and their new holding company state officially that they are charitable.

"One way or another, this could easily end up in court," predicts John Pomeranz, an adjunct professor and staff attorney at the Harrison Institute for Public Law of the Georgetown University Law Center. "If the regulators require [a charitable designation], the Blues may sue. If they don't require it, Terry [Newmyer] may sue."

Court cases over the charitable status of Blue Cross plans are already being fought in more than a half-dozen states -- including two where for-profit conversions occurred without assets being set aside for charity.

"The whole community benefit argument is a hotly debated topic," said Dana Forgione, who teaches accounting and health management at University of Baltimore. "It's by no means a settled issue."

"State attorneys general are generally saying it's a charity and fighting it out," said Nancy Kane, a lecturer at the Harvard School of Public Health who has advised state regulators in California, Colorado and New York on Blue Cross conversion issues.

Two national groups, Community Catalyst and Consumers Union, have worked together to raise the issue in a number of states. "Consumer groups have gotten this issue on the radar screen of the regulators," said Collins, who testified for Community Catalyst in both Washington and Maryland.


Legal experts agree that the precise nature of Blue Cross plans varies from state to state, depending on such factors as state tax codes and the language of the Blue Cross plans' articles of incorporation.

Also, the regulators have to sort through an array of "restructuring" proposals, including conversion to a stock company, conversion to a mutual insurer (owned by its policyholders), creation of for-profit subsidiaries and mergers with plans in other states.

What the Maryland and D.C. plans are proposing is the creation of a new nonprofit holding company, to be incorporated in Maryland. Its initial board would be composed of 12 members chosen by the current board of Maryland Blue Cross and six chosen by the D.C. board. That board would, in turn, select members for new boards for the two plans.

The holding company would have a small staff, perhaps fewer than than a dozen. The two Blue Cross companies would continue to operate, but would share products and "best practices," and hope to achieve savings through some joint operations, particularly in capital-intensive data systems.

Newmyer said the plan represents a transfer of charitable assets from the control of D.C. Blue Cross to a Maryland entity, and that this is sufficient to trigger an asset transfer to a foundation.

Collins and Pomeranz said they do not believe an asset transfer is required now, but argued strongly that both Blue Cross plans are charitable.


"We appreciate Ms. Collins' opinion from up in Boston or California or wherever, but we disagree," said Picciotto. "We have never been a charity."

Blue Cross plans are not charities in the sense of the United Way or American Cancer Society -- they don't receive tax-deductible contributions, and they don't give away services or grants.

Yet the charters or articles of incorporation of many -- including the D.C. plan -- say they are "charitable and benevolent."

Such language goes back to the origins of Blue Cross and Blue Shield in the 1930s, when commercial health insurance was expensive and hard to get. Supported by hospital associations and medical societies, the plans were formed as nonprofits offering affordable coverage. Often, they used "community rating," meaning everyone paid the same premium, regardless of age, health status or other factors used by commercial insurers to set rates.

Over time, as the commercial health insurance industry grew and competed, the Blue Cross plans began to behave more like for-profit insurers. The 1986 U.S. tax code revision took away their federal tax exemption, but they retain a special status allowing them to use an alternative minimum tax rate that may be lower than they would otherwise pay.

Many Blue Cross plans continue to get state and local tax preferences. The D.C. plan does not have to pay sales tax on its purchases, said Jacqueline E. Wells, vice president and general counsel for Blue Cross Blue Shield of the National Capital Area. Both the Maryland and D.C. plans get special breaks on the premium tax in their jurisdictions. Beyond that, Wells and Picciotto said, their Blue Cross plans pay all other taxes, such as real estate and worker's compensation.


The "charitable and benevolent" language in charters, said Molineaux of the Blue Cross Association, is simply intended to clarify tax status, "but their principal business is providing a service for a fee, and no amount of inflammatory rhetoric will change that."

Even where there is some "public benefit obligation," it may not be the full value of the company, said Picciotto. Rather, he said, it may be the value of the tax exemption over the years -- although even that, he said, may have been returned to the public already through lower premiums.

When Trigon Blue Cross Blue Shield of Virginia became publicly traded, it paid the state $175 million -- roughly the amount of its surplus when its tax exemption ended in 1987.

When Colorado Blue Cross bought the Nevada plan, it paid a foundation the amount of the Nevada plan's surplus at the time, $1.5 million.

The consumer groups, on the other hand, argue that all assets of nonprofit Blue Cross plans must be used for public benefit. That's the model that was followed in California.

Similarly, the Colorado conversion plan calls for an initial public offering of stock, with all the proceeds being given to a new conversion foundation.


"Tax exemption is given for only one thing -- doing charitable work," argues Phil Isenberg, a California attorney who, as a legislator, challenged Blue Cross plans to convert without paying full market value. "Those assets are the public's assets -- not the assets of the board of directors of the nonprofit."

Pub Date: 11/23/97