For decades, charities in Pennsylvania have enjoyed an exemption from real estate taxation and sales and use taxes. Recently, several Pennsylvania appellate decisions have tightened that exemption. As a result, charities across the state need to be aware that some taxing jurisdictions are becoming very aggressive in their approach to exemptions. This aggression, in turn, has spurred a constitutional amendment push in the General Assembly. While this article will focus on the recent cases and what charities can do in this new environment, it is helpful to back up and understand the genesis of the exemption.
The Consolidated County Assessment Law, 53 Pa.C.S. § 8812, et seq., specifically exempts from taxation property of “[a]ll institutions of... charity. . .endowed and maintained by public or private charity...” 53 Pa.C.S. § 8812(a)(3). The Constitution of the Commonwealth of Pennsylvania provides the basis for this exemption in Article VIII, § 2(a)(v) which provides, “[t]he General Assembly may by law exempt from taxation...[i]nstitutions of purely public charity ...” Determining what exactly constituted a “purely public charity” for purposes of the constitutional provision provided a challenge to courts over the years. Finally, in 1985, the Pennsylvania Supreme Court in Hospital Utilization Project v. Commonwealth, 487 A.2d 1307 (Pa. 1985), articulated a five-pronged test to be used in determining whether an entity was an “institution of purely public charity” for constitutional purposes. This test, widely referred to as the “HUP Test,” provided some long-awaited guidance from the highest court, but by no means ended the confusion. Partly in response to the ambiguities present in the HUP Test, and in an effort to define “purely public charity,” the General Assembly enacted The Institutions of Purely Public Charity Act, Act of November 26, 1997, P.L. 508, 10 P.S. § 371 et seq. (“Act”). Also consisting of five prongs that closely mirror the HUP test, the Act sets forth objective criteria to evaluate whether an entity is a “purely public charity.”
The HUP Test
Under the HUP Test, in order to meet the constitutional threshold of a “purely public charity,” an institution must: (a) advance a charitable purpose; (b) donate or render gratuitously a substantial part of its services; (c) benefit a substantial and indefinite class of persons who are legitimate subjects of charity; (d) relieve the government from some of its burden; and (e) operate entirely free from private profit motive.
The Act
Under the Act, an institution must advance a charitable purpose, 10 P.S. § 375(b); have no private profit motive, 10 P.S. § 375(c); provide community service, 10 P.S. § 375(d); provide charity to persons, 10 P.S. § 375(e); and provide government service by relieving the government of some of its burden, 10 P.S. § 375(f).
The Chicken or the Egg?
Does one test take precedence over the other? Are the tests the same? These questions have frustrated charities, advocates, and judges over the years. Since adoption of the Act in 1997, Pennsylvania courts had been clear that, since the exemption is rooted in the constitution, the HUP Test must be met before reaching the five prongs of the Act. Despite this settled case law, the Pennsylvania Supreme Court case of Mesivtah Eitz Chaim of Bobov, Inc. v. Pike County Board of Assessment Appeals, 44 A.3d 3 (Pa. 2012), which once again confirmed that the HUP Test must be passed before the Act’s test is reached, was greeted with banner point headlines in the press and breathless commentary that it was somehow a “game-changer” in the exemption world. There was absolutely nothing landmark about the holding in Mesivtah.
As a practical matter, the tests are nearly identical, so, if an entity can meet a prong of one test, it generally can meet the corresponding prong of the other. The Act does have some objective criteria in the form of financial tests that rely on calculations, so it is not unimaginable that an entity could meet the HUP Test and fail the corresponding prong of the Act due to the inability to meet the objective test. This situation, however, would be rare. Importantly, when Mesivtah was decided, there had never been a case of a Pennsylvania court finding that an institution had failed a prong of the HUP Test after meeting the corresponding prong of the Act.
The Post-Mesivtah Landscape
Whether rational or not, the activity in the aftermath of Mesivtah has seen taxing jurisdictions become emboldened in their willingness to challenge charitable exemptions and has motivated the General Assembly to begin the process of enacting a constitutional amendment that would grant the General Assembly the sole power to define what “institution of purely public charity” means for purposes of the exemption. Currently, that effort needs only to pass the House of Representatives this session, followed by approval in a statewide referendum, in order to take effect.
With respect to how courts are looking at exemption cases, they continue to note that each case turns on the particular, specific facts of the case. Recently, in Fayette Resources, Inc. v. Fayette County Board of Assessment Appeals, 107 A.3d 839 (Pa. Cmwlth. 2015), the court held that an institution operating group homes for the mentally disabled, usually a charitable activity that qualifies an institution for exemption, failed to meet the HUP Test because it had failed to offer evidence as to how it donated or rendered gratuitously a substantial part of its services. On its face, this holding is unremarkable because courts often have found that an institution seeking exemption failed to offer the appropriate evidence to pass a particular prong. What is noteworthy about this holding, however, is the fact that the court noted that the institution appears to have satisfied all five prongs of the Act. While courts have danced around this issue before, this is the first time that a court has expressly stated that a charity has passed a prong of the Act, while failing the corresponding prong of the HUP Test. This holding is much more noteworthy and impactful than anything that was decided in Mesivtah. The Fayette court’s decoupling of the two tests may have the effect of making charitable exemption issues even more inconsistent, ambiguous, and unclear than they are now. While not perfect in its mission of calming the exemption waters, the Act did serve to impose discipline on the process by providing objective criteria to help institutions, advocates, and judges in the analysis of exemption issues.
Moving Forward
Given the state of affairs, in the short term, charities holding exemptions should reexamine their compliance with both the HUP Test and the Act. While it is possible that the constitutional amendment will resolve some of the thornier and confusing issues, there is no assurance that the amendment will be enacted. Even if the amendment passes, issues will still exist and taxing jurisdictions will continue their efforts to lop off exemptions in their never ending search for revenue. Therefore, it is worth being prepared.
