Profit-Linked Compensation and Related-Entity Transfers Disqualify Purely Public Charities from Property Tax Exemption

Introduction

This commentary examines Justice Mundy’s dissent in Pottstown School District v. Montgomery County Board of Assessment Appeals, Appeal of Pottstown Hospital, LLC, decided May 30, 2025, by the Supreme Court of Pennsylvania. The core dispute concerns whether Pottstown Hospital, LLC—as part of Tower Health—qualifies for a property-tax exemption under Article VIII, § 2(a)(5) of the Pennsylvania Constitution. That provision authorizes tax relief for institutions of “purely public charity.” In the proceedings below, the Montgomery County Court of Common Pleas granted exemption; the Commonwealth Court reversed; and the Supreme Court majority adopted a “reasonableness” standard that allows some profit-based incentives so long as they are not excessive. Justice Mundy dissented, arguing that any profit motive—manifested by related-entity management fees and executive bonuses tied to financial performance—categorically disqualifies an institution from charitable tax exemption.

Summary of the Judgment

The Supreme Court reversed the Commonwealth Court’s decision in part and remanded for further proceedings under a modified standard. The majority held that Executive compensation packages may include a financial-performance component so long as the bonus percentage remains “reasonable” in relation to industry norms. By contrast, Justice Mundy’s dissent would have upheld the Commonwealth Court’s reversal entirely, reaffirmed the strict “no profit motive” requirement of the fifth prong of the Hosp. Utilization Project (“HUP”) test, and insisted that courts must scrutinize both transactions with affiliated entities (Tower Health) and any compensation tied to profitability.

Analysis

Precedents Cited

Hosp. Utilization Project v. Commonwealth, 487 A.2d 1306 (Pa. 1985) — Established the five-element HUP test for “purely public charity,” including the strict prohibition on any private profit motive.
Sch. Dist. of Phila. v. Frankford Grocery Co., 103 A.2d 738 (Pa. 1954) — Emphasized that substance as well as form must be examined in tax-exemption inquiries.
Wilson Area Sch. Dist. v. Easton Hosp., 747 A.2d 877 (Pa. 2000) — Clarified that surplus revenues must not inure, directly or indirectly, to private individuals or related organizations.
Erie Sch. Dist. v. Hamot Med. Ctr., 602 A.2d 407 (Pa. Cmwlth. 1992) — Held that transfers of charitable revenue to for‐profit affiliates defeat exemption.

Legal Reasoning

Justice Mundy’s dissent pivots on Article VIII, § 2(a)(5), which the Court has interpreted as requiring that a charitable institution be operated “entirely” free from private profit motive. She argues:

Substance Over Form: Courts must look beyond corporate labels to the “substance of … structure and operation” to detect profit motives hidden by inter-entity charges.
Related-Entity Transactions: Tower Health’s annual management fees—totaling $4.5 million to $23.2 million—were siphoned from the Hospital, deposited into Tower’s single checking account, and used to fund multimillion-dollar executive packages.
Financial-Performance Bonuses: The presence of “circuit breakers,” which suspend bonuses in unprofitable years and trigger large payouts when profitability returns, demonstrates a direct profit motive.
Burden of Proof: The Hospital bore the “affirmative burden” to prove compliance with every HUP element; failing to justify the reasonableness or charitability of its payments to Tower and its executives defeats its exemption claim.

Justice Mundy critiques the majority’s “reasonableness” test as incompatible with the text and history of the constitutional provision and contends that allowing any profit-linked incentive dilutes the exception from taxation into a rule.

Impact on Future Cases and the Law of Charitable Exemption

If adopted, Justice Mundy’s strict approach would:

Narrow the scope of property-tax exemptions for non-profit hospitals and charities by categorically excluding entities that use profit-based incentives.
Require courts to probe parent-affiliate financial flows, management-fee agreements, and bonus structures in every exemption application.
Heighten the risk of contested valuations, discovery battles over executive compensation data, and challenges to consolidated health-system models.
Encourage charitable institutions to redesign executive compensation around non-financial indicators—patient outcomes, community service metrics, staff-retention rates—to preserve tax-exempt status.

Complex Concepts Simplified

Purely Public Charity: To be exempt, an institution must operate without any private profit motive; it cannot distribute or divert surplus to private parties.
HUP Test: A five-element judicial standard—(1) charitable purpose, (2) public benefit, (3) relief of government burden, (4) no discrimination, and (5) no private profit motive.
Circuit Breaker: A contractual mechanism suspending performance-based bonuses if profitability falls below a threshold, then restoring them when performance rebounds.
Inure to Benefit: When a nonprofit’s gains flow, directly or indirectly, to insiders or affiliated for-profit entities.

Conclusion

Justice Mundy’s dissent reaffirmed a rigorous, no-tolerance approach to profit motives in charitable tax-exemption law. By insisting on a full examination of related-entity charges and financial-performance bonuses, her viewpoint underscores that tax exemptions are the exception, not the rule, and must be narrowly confined to institutions that truly operate “entirely” free of any private profit incentive. This strict standard, if embraced by future courts, will reshape nonprofit governance, executive compensation practices, and the landscape of health-care consolidation in Pennsylvania.