CA Pulls Tax-Exempt Status of Blue Shield of California

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March 18, 2015; Los Angeles Times

This is a story of major significance to nonprofits and to healthcare. The California Franchise Tax Board pulled the tax exemption of Blue Shield of California last August, but the news is just being reported now. Blue Shield is appealing the decision because the loss of the exemption could expose it to millions of dollars in state taxes.

The board hasn’t released information on why it revoked Blue Shield’s exemption, but the decision followed an in-depth audit by the state. The decision on Blue Shield’s tax status follows the resignation of its longtime public policy director, Michael Johnson, who charged that Blue Shield had been “shortchanging” its California customers and behaving like its for-profit competition. Johnson has since announced a campaign for Blue Shield to formally convert to a for-profit and in the process turn over its tax-exempt assets, which he values as $10 billion, to the public for bolstering the healthcare safety net.

Chad Terhune, the L.A. Times reporter on the story, catalogs some of the possible reasons that the Franchise Tax Board might have made this decision. For one, Blue Shield maintains a reserve of $4.2 billion, which Johnson says is four times as much as Blue Shield needs to cover potential future claims. With that kind of reserve, it raises questions as to why Blue Shield sought rate increases recently, even if the company has pledged to hold its “profits” to less than two percent. Another might have been Blue Shield’s high salaries, including paying its former CEO back in 2010 and 2011 $4.6 million a year. Public information isn’t available apparently on Blue Shield’s current salary structure except that it pays a few people over a million each in annual compensation. Terhune also mentions Blue Shield’s past run-ins with state regulators and charges that it hasn’t done well in serving California’s poor.

“The public is not getting its money’s worth out of Blue Shield now,” Johnson said in an interview. “Blue Shield as a company and management team firmly believes it is fulfilling its not-for-profit mission and commitment to the community,” counters company spokesman Steve Shivinsky. Terhune makes special note that Blue Shield was an early advocate of universal health insurance coverage when its competitors in the industry were not.

California’s stripping Blue Shield of its state tax-exempt status should reverberate across the country with questions about the “nonprofitness” of nonprofit healthcare insurers. The questions this raises in our mind include the following:

  1. How nonprofit is Blue Shield: Remember when the Blue Cross Blue Shield network was a network of nonprofit entities? Now, the Blue Cross and Blue Shield Association, which as recently as the mid-’90s had over 60 members, is down to about half that number, and many of the Blues have converted to for-profit status (including in California, where Blue Cross in 1996 converted and led to the creation of two health conversion foundations, including the California Endowment). As the Blues have become larger—and Blue Shield, with over 3.4 million customers, is only the third-largest health insurer in California—have they begun to function like their for-profit competition? Have customers around the country who were once served by nonprofit Blues and now are dealing with for-profit Blues noticed any appreciable difference?
  2. Attention from the Blues’ board: Terhune mentions that President Obama’s former Defense Secretary and CIA director, Leon Panetta, is on the board of trustees. Others on the Blue Shield board also have strong nonprofit and public service credentials, including Sandra Hernandez, until recently the president of the San Francisco Foundation, and Gary Cohen, a senior official in HHS’s Centers for Medicare and Medicaid Services during the early days of the Affordable Care Act. Have these nonprofit- and public service-credentialed board members been taking Blue Shield’s nonprofit pulse and questioning whether its massive reserve and its multi-million dollar executive compensation packages are a little too for-profit for Blue Shield’s nonprofit DNA? Are the board members themselves paid? (Note: Public information about Blue Shield compensation practices isn’t readily available online, raising questions about Blue Shield’s questionable transparency, but at the Blue Shield of California Foundation, Sandra Hernandez is a board member and paid $8,000 a year, and Antonia Hernandez, the CEO of the California Community Foundation, is also a member, paid $10,000 for her board service). Did Panetta, Hernandez, and Cohen go along with Blue Shield’s $2.5 million acquisition of a luxury box at the pro football stadium in Santa Clara, a move that reeks of the kind of corporate self-indulgence that nonprofits don’t expect to see from their tax-exempt brethren? Have these nonprofit leaders supported Blue Shield’s long resistance to the kind of disclosure that most nonprofits around the nation accept automatically?
  3. Implications outside of California: If Blue Shield of California doesn’t merit its state tax exempt status (on the federal level, the Blues are dealt with in the tax code as 501(m) entities, subject to a lower federal tax than their for-profit completion, but not entirely tax exempt), what other Blues in other states might be more for-profit than nonprofit in their behavior and perhaps deserve a state government reconsideration of their tax exemptions?

Among the many positive developments of health care reform in recent years has been the closer scrutiny by the public—and obviously, here by governmental officials—of the nonprofit bona fides of nonprofit entities in the health field, notably nonprofit hospitals that sometimes don’t seem to be much different than their for-profit competition. That scrutiny is expanding into the health insurance sector, with public officials sensing the frustration of their stakeholders with large health insurers that possess state tax exempt and federal 501(m) status, but increasingly are experienced as little different than for-profit insurance behemoths.—Rick Cohen

  • Susan Salisbury

    Call me crazy, but referencing “former President Obama’s former Defense Secretary and CIA director, Leon Panetta…” is jumping the gun a bit, isn’t it?

  • Rick Cohen

    thanks for catching the typo for us! Obama is still in office