A nonprofit that pools county governments' employee health insurance has income exempt under § 115

Plain-English summary

A state law set up a nonprofit corporation to let county governments and other public bodies band together to buy group health insurance (and related services, including medical coverage for county-jail inmates) at better rates than any one entity could get alone. The nonprofit asked the IRS whether its income is tax-free under IRC § 115(1), which excludes income from an "essential governmental function" that accrues to a state or its political subdivisions. The IRS said yes. Pooling employee health coverage and inmate medical services for governmental entities is an essential governmental function, the income accrues to political subdivisions of the state, and private parties (like the insurer or covered employees) benefit only incidentally. Its assets can never revert to a private party, even on dissolution. So the nonprofit's income is excludable from gross income under § 115(1).

Ruling snapshot

• Question: Is the income of a state-created nonprofit that pools county governments' employee health insurance excludable under § 115(1)?
• Outcome: Approved (income excludable under § 115(1))
• Key authorities: IRC § 115(1); Rev. Rul. 77-261; Rev. Rul. 90-74

Full text (IRS public release)

Internal Revenue Service Department of the Treasury
Washington, DC 20224

Number: 202035004 Third Party Communication: None
Release Date: 8/28/2020 Date of Communication: Not Applicable
Index Number: 115.00-00
Person To Contact:
---------------------------------------------------------- ---------------------, ID No. -----------------
-------------------------------------------- Telephone Number:
---------------------- --------------------
------------------------------------------------ Refer Reply To:
---------------------------- CC:EEE:EOET:EO3
PLR-125821-19
Date:
May 22, 2020

Taxpayer = ----------------------------------------------------------
Date = ----------------------
State = -----------
Statute = ----------------------------------------------------------------------------------------
--------------
Association = --------------------------------------------------------------
Insurer = ------------------------------------------------

Dear ------------------------:

This letter responds to a letter from your authorized representative, dated October 10,
2019, and subsequent correspondence requesting a ruling that Taxpayer’s income is
excludable from gross income under section 115 of the Internal Revenue Code (Code).
Taxpayer represents the facts as follows.

                                                 FACTS

Taxpayer is a nonprofit corporation incorporated on Date under the laws of the state of
State. It was organized in accordance with Statute, which establishes a system through
which county governments and other governmental entities in State (“Participating
Governmental Entities”) can obtain, among other benefits, group health insurance for
their employees. Prior to the enactment of the above-referenced statute, Association
performed activities like Taxpayer’s current activities, albeit on a smaller scale.
Taxpayer represents that Association is an instrumentality of the county governments of
State and that Association’s income is excludable from gross income under section 115
of the Code.

In order to carry out its statutory purpose, Taxpayer selects a single insurance company
(Insurer) to provide health insurance and administrative services to the Participating
Governmental Entities and their employees. Taxpayer selects Insurer based on the
PLR-125821-19 2

company’s ability to provide the Participating Governmental Entities and their
employees the best value, coverage, and range of services. Taxpayer also considers
the extent to which Insurer can help the Participating Governmental Entities provide
medical and hospital attention to inmates in their custody, as required by State law.
Taxpayer retains a consultant to monitor Insurer’s competitiveness as compared to
other health insurance companies that operate in State. Taxpayer can terminate its
arrangements with Insurer at any time following a specified notice period.

Taxpayer and Insurer have negotiated three agreements under which Insurer agreed to
provide: (1) group health insurance coverage to the employees of the Participating
Governmental Entities; (2) stop loss insurance and administrative services to the
Participating Governmental Entities that maintain self-funded health plans for their
employees, including claims services and access to Insurer’s physician network; and (3)
insurance administrative services to the Participating Governmental Entities regarding
the provision of medical services to inmates of county jails, including claims services
and access to Insurer’s physician network.

Taxpayer represents that its activities on behalf of the Participating Governmental
Entities, as dictated by the governing statute, enable the Participating Governmental
Entities to negotiate as an integrated unit and to receive employee health insurance
coverage and services at lower costs than if the Participating Governmental Entities
obtained such insurance coverage and services separately.

Insurer pays Taxpayer monthly fees under each agreement in exchange for Taxpayer’s
activities that help governmental entities in State become (and remain) Participating
Governmental Entities. The Participating Governmental Entities pay all premiums and
fees directly to Insurer. Employees of the Participating Governmental Entities pay their
share (if any) of the premiums to their employers who in turn pay Insurer.

Taxpayer’s programs are limited to State county governments and governmental bodies
created by the State state legislature or by a State county ordinance, including State
public authorities, commissions, and boards. Taxpayer and Association also participate
in Taxpayer’s programs.

Taxpayer’s revenues primarily consist of the payments it receives from Insurer under
the three agreements. Its revenues also include earnings received on a fund it
maintains to stabilize premium volatility. Taxpayer is not regulated under State
insurance law.

No part of Taxpayer’s assets may be distributed to any private person other than to pay
reasonable expenses for the administration of its programs. Upon dissolution,
Taxpayer’s assets must be distributed to the Participating Governmental Entities or to
Association.
PLR-125821-19 3

Taxpayer is governed by a seven-member board of directors. Each director must be
actively engaged (or previously actively engaged) in county government and be an
employee of a Participating Governmental Entity or Association. Association manages
Taxpayer under a contract for services.

                               LAW AND ANALYSIS

Section 115(1) of the Code provides that gross income does not include income derived
from any public utility or the exercise of any essential governmental function and
accruing to a state or any political subdivision thereof.

Rev. Rul. 77-261, 1977-2 C.B. 45, holds that income generated by an investment fund
that is established by a state to hold revenues in excess of the amounts needed to meet
current expenses is excludable from gross income under section 115(1) of the Code
because such investment constitutes an essential governmental function. The ruling
states that the statutory exclusion is intended to extend not to the income of a state or
municipality resulting from its own participation in activities, but rather to the income of
an entity engaged in the operation of a public utility or the performance of some
governmental function that accrues to either a state or political subdivision of a state.
The ruling explains that it may be assumed that Congress did not desire in any way to
restrict a state’s participation in enterprises that might be useful in carrying out projects
that are desirable from the standpoint of a state government and that are within the
ambit of a sovereign to conduct.

Rev. Rul. 90-74, 1990-2 C.B. 34, holds that the income of an organization formed,
funded, and operated by political subdivisions to pool various risks (casualty, public
liability, workers’ compensation, and employees’ health) is excludable from gross
income under section 115(1) of the Code because the organization is performing an
essential governmental function. The revenue ruling states that the income of such an
organization is excludable from gross income so long as private interests do not
participate in the organization or benefit more than incidentally from the organization.
The benefit to the employees of the insurance coverage obtained by the member
political subdivisions was deemed incidental to the public benefit.

Taxpayer was created under a state law intended to facilitate the provision of health
insurance to employees of governmental entities located in State. Taxpayer also helps
governmental entities in State comply with their obligation to provide medical services to
inmates in their custody. Taxpayer’s activities enable individual governmental entities to
obtain employee insurance coverage and inmate services from Insurer at rates and fees
that are lower than would be available if the entities acted separately. The provision of
health insurance to employees of governmental entities and medical services to state
and municipal inmates is an essential governmental function, as is helping those
governmental entities protect their financial integrity. See Rev. Rul. 90-74 and Rev. Rul.
77-261.
PLR-125821-19 4

Taxpayer’s income accrues to political subdivisions of State. Private interests benefit
only incidentally. See Rev. Rul. 90-74. In no event, including upon dissolution, will
Taxpayer’s assets be distributed or revert to any entity that is not a state, a political
subdivision of a state, or another entity the income of which is excludable from its gross
income by application of section 115(1) of the Code.

                                      RULING

Based on the information and representations submitted on behalf of Taxpayer, we
conclude that because Taxpayer derives its income from the exercise of an essential
governmental function, and because Taxpayer’s income accrues to a state or a political
subdivision of a state, Taxpayer’s income is excludable from gross income under
section 115(1) of the Code.

The ruling contained in this letter is based on information and representations submitted
by or on behalf of Taxpayer and accompanied by a penalty of perjury statement
executed by an appropriate party, and on the understanding that there will be no
material changes in the facts described above. While this office has not verified any of
the material submitted in support of the request for a ruling, the material is subject to
verification upon examination. The Associate office will revoke or modify a letter ruling
and apply the revocation retroactively if there has been a misstatement or omission of
controlling facts; the facts at the time of the transaction are materially different from the
controlling facts on which the ruling was based; or, in the case of a transaction involving
a continuing action or series of actions, the controlling facts change during the course of
the transaction. See Rev. Proc. 2020-1, section 11.05.

This letter does not address the applicability of any section of the Code or Regulations
to the facts submitted other than with respect to the sections specifically described, and,
except as expressly provided in this letter, no opinion is expressed or implied
concerning the tax consequences of any aspect of any transaction or item of income
discussed or referenced in this letter. Specifically, no opinion is expressed or implied
regarding the applicability of the Health Insurance Portability and Accountability Act of
1996 (HIPAA), or the Consolidated Omnibus Budget Reconciliation Act of 1985
(COBRA).

This ruling is directed only to Taxpayer. IRC section 6110(k)(3) provides that this ruling
may not be used or cited as precedent.

In accordance with the power of attorney on file with this office, a copy of this letter is
being sent to your authorized representative.
PLR-125821-19 5

A copy of this letter must be attached to any income tax return to which it is relevant.
Alternatively, if Taxpayer files its returns electronically, Taxpayer may satisfy this
requirement by attaching a statement to its return that provides the date and control
number of this letter ruling.

                                      Sincerely,




                                      Kenneth M. Griffin
                                      Branch Chief
                                      Office of the Chief Counsel
                                      (Employee Benefits, Exempt Organizations,
                                      and Employment Taxes)

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