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May 5, 1992

LOUIS W. SULLIVAN, M.D., Defendant.

The opinion of the court was delivered by: THOMAS A. FLANNERY

 The Plaintiff ("the Hospital"), a hospital located in a suburb of Cleveland, Ohio, brings this action against Dr. Louis W. Sullivan, the Secretary of Health and Human Services ("the Secretary"), challenging the amount of reimbursement to which it is entitled under Medicare, 42 U.S.C. § 1395 et seq. Both parties have filed motions for summary judgment. An oral hearing on these motions was held on April 3, 1992. Based on the reasoning set forth below, the Court will deny Plaintiff's motion for summary judgment and grant Defendant's motion for summary judgment.


 The Hospital is sponsored by a Catholic congregation ("the Congregation"). Historically, members of the Congregation served as corporate members of the Hospital, responsible for appointing and removing the Hospital's board of directors. If the Hospital were ever to be dissolved as a corporation, its assets would have reverted to the Congregation. In 1983, a corporate reorganization of the Hospital resulted in the creation of a new corporate entity, Marymount Health Care Systems ("MHCS"). MHCS determines overall planning and strategy for subsidiary organizations, including the Hospital. MHCS is also the parent of the Marymount Home Health Care Service and Clare-Felicia Corporation. The former is a non-profit corporation and the latter is a for-profit corporation operating a medical office building and a pharmacy.

 After the reorganization, individual members of the Congregation serve as corporate members of MHCS, with the ability to appoint and remove members of MHCS' board of directors. MHCS serves as the sole corporate member of the Hospital and has the power to appoint and remove the Hospital's board of directors. There is no overlap between members of the boards of directors of MHCS and the Hospital, i.e., no person serves on both boards. Following the reorganization, if the Hospital were to be dissolved as a corporation, its assets would revert, not to the Congregation, but to MHCS. If MHCS were to be dissolved as a corporation, its assets would revert to the Congregation.

 MHCS was initially funded by two contributions from the Hospital: $ 3 million in 1983 and $ 1 million in 1984. In 1984, MHCS earned $ 332,238 in investment income on the contributed funds. In 1985, MHCS similarly earned $ 351,012.

 For the 1984 year, the Hospital's Medicare cost report listed $ 1,444,181 in allowable interest expense for debt service for buildings and fixtures. Blue Cross, which acts as the fiscal intermediary for the Secretary (by reviewing cost reports, determining costs allowable under the applicable regulations and disbursing the appropriate reimbursements) reduced the Hospital's allowable interest expense by the $ 332,238 of interest income earned by MHCS in 1984. Similarly, for the 1985 year, Blue Cross reduced the Hospital's claimed interest expense of $ 1,414,914 by $ 351,012. As a result of these adjustments, the Hospital's 1984 and 1985 reimbursements were reduced by $ 141,006 and $ 152,306, respectively.

 The Hospital appealed these adjustments to the appropriate administrative body, the Provider Reimbursement Review Board ("the Board"). The Board affirmed the decisions made by Blue Cross. Plaintiff now brings this action challenging the Board's ruling.

 Reimbursement for interest expenses is governed by 42 C.F.R. § 405.419. *fn1" Section 405.419(b)(1) states that interest expense includes "the cost incurred for funds borrowed for capital purposes, such as acquisition of facilities and equipment, and capital improvements." Interest expense must be "necessary" in order to be reimbursable. Interest expense is deemed necessary if it is incurred on a loan which satisfies the financial need of the provider and is related to patient care. § 405.419(b)(2).

 Section 405.419(b)(2)(iii) states that interest expense must "be reduced by investment income." The Board applied that regulation in this case to reduce the Hospital's allowable interest expense by the investment income of MHCS. The Board found support for its action in a second regulation, 42 C.F.R. § 405.427, *fn2" which governs "cost to related organizations." Section 405.427(a) states that "costs applicable to services, facilities, and supplies furnished to the provider by organizations related to the provider by common ownership or control are includable in the allowable cost of the provider at the cost to the related organization."

 Standard of Review

 The Administrative Procedure Act ("the APA") sets forth the standard of review used in appeals from decisions by the Board. The Board should be affirmed unless its decision was arbitrary, capricious, an abuse of discretion, unsupported by substantial evidence or contrary to law. APA, 5 U.S.C. § 706. The court should review the record as a whole in making its determination as to the appropriateness of the action taken by the Board.


 Plaintiff argues that the government, without justification, has ignored the fact that MHCS and the Hospital are separate legal entities. The mere fact that one corporation owns another does not justify disregarding their separate legal identities. There is a strong presumption against ignoring each corporation's distinct legal existence.

 The Board, by imputing MHCS' investment income to the Hospital, disregarded MHCS' separate corporate identity. MHCS was established to provide and coordinate various health care services. The Hospital's corporate purpose is more specific: to provide hospital services. The two corporations do not have interlocking directorates. Both corporations have maintained all the formalities of separate corporate existence. MHCS is not controlled by the Hospital; in other words, MHCS is not merely the alter ego of the Hospital. The two corporations operate independently, serving distinct functions.

 The Board relied heavily on Forsyth County Hospital Authority, Inc. v. Bowen, 675 F.Supp. 1002 (M.D.N.C. 1987), aff'd, 856 F.2d 668 (4th Cir. 1988) (per curiam), in offsetting MHCS' investment income against the Hospital's interest expense. In that case, the plaintiff hospital donated an apartment complex to a related foundation, which later sold the apartments to a third-party. The foundation invested the proceeds. The court upheld the administrative decision to offset the hospital's interest expense by the amount of investment income earned by the foundation.

 First, the offset was based on the fact that the expenses did not need to be incurred, since the hospital had access to the foundation's investment income. The court concluded that the foundation's investment income was available to benefit the hospital. "Plaintiff created the Foundation for the express purpose of operating 'for the exclusive benefit of or in furtherance of the purposes of Forsyth County Hospital Authority, Inc.'" Forsyth, 675 F. Supp. at 1006 (emphasis in original). The foundation was, in fact, operating for that purpose; it performed various services for the hospital, such as billing and fund raising. In the event of the dissolution of the foundation, all of its assets were to be distributed to the hospital. Since the foundation's sole purpose was to benefit the hospital, the hospital could not prevail in its argument that the foundation's investment income was not available to the hospital. Therefore, it was appropriate to offset the hospital's interest expense by the amount of interest income earned by the foundation.

 Plaintiff distinguishes the case at bar from Forsyth. It was the Congregation, not the Hospital, that created MHCS. MHCS was formed to provide comprehensive health care services, not to serve the Hospital exclusively. Nor does it serve the Hospital exclusively; it oversees other subsidiary corporations as well. Nor do MHCS' Articles of Incorporation specify that upon dissolution its assets revert to the Hospital; rather, they would revert to the Congregation. Finally, Plaintiff distinguishes Forsyth by noting that in that case, the majority of the foundation's board members were members of the hospital's board. Indeed, the foundation's articles of incorporation required this to be the case. By contrast, in 1984 and 1985, no members of MHCS' board served on the Hospital's board.

 Plaintiff maintains that the investment income of MHCS was not available to the Hospital. While the income was earned on funds donated to MHCS from the Hospital, those funds were donated without recourse. The investment income can be used in any manner MHCS, not the Hospital, sees fit. Since MHCS does not serve the Hospital exclusively, there is no reason to treat MHCS' investment income as being that of the Hospital. In fact, Plaintiff asserts, none of the funds were used to benefit the Hospital.

 The Defendant acknowledges that there are factual distinctions between the case at bar and Forsyth. The government rejects, however, Plaintiff's position that Forsyth should be confined to its facts. The linchpin of Forsyth's analysis was that the hospital "has effective access to the funds at issue." Id. at 1006. The government asserts that the Board was correct in concluding that the close relationship of MHCS and the Hospital ensures that the Hospital has effective access to the funds of MHCS. The government characterizes Plaintiff's position as an attempt to argue, contrary to the facts, that MHCS and the Hospital are not related.

 The government highlights several facts that it asserts indicate that the two entities are closely related. The government notes that initially, the Congregation had the authority to appoint and remove Hospital board members and the Congregation was to receive all Hospital assets in the event of dissolution. With the reorganization, MHCS became the overseeing organization of the Hospital, as well as several other entities. Shortly after the creation of MHCS, the Hospital transferred $ 3 million to MHCS. *fn3" The Hospital received nothing in return for these transfers. In the event of the Hospital's dissolution, its assets would now revert to MHCS. Given that MHCS was funded by a contribution from the Hospital and that MHCS controls the Hospital, they are closely related. This relationship leads to the conclusions the government argues, that the Hospital retained effective control over the funds transferred.

 Further, both the Hospital and MHCS operate under the oversight of the Congregation. The government argues that this also leads to the conclusion that the funds contributed by the Hospital to MHCS were at all times available to the Hospital. The Congregation ...

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