Audit reveals Blue Shield failure to serve public, deceitfulness with regulators

Photo credit: Got Credit

Photo credit: Got Credit

The disclosures in yesterday’s front-page LA Times report on details of the audit of Blue Shield’s tax exemption make clear the need for a full-scale investigation by health plan regulators of Blue Shield’s conduct as a nonprofit.

In March the Times reported that the Franchise Tax Board (FTB) had stripped Blue Shield of its tax exemption last August, a move the tax agency didn't bother to publicize and Blue Shield kept under wraps. Now the Times has uncovered the reasons for the revocation, as well.

According to the newspaper, the FTB auditors found that Blue Shield “does not advance social welfare.” In addition, the documents obtained by the Times show that Blue Shield made contradictory statements to state officials and that even its CEO appears to have been untruthful.

The public has a lot at stake here. Blue Shield has vowed since its founding to operate for community benefit, and because of that, reaped taxpayer subsidies for over 70 years. As a result, the company, which is worth approximately $10 billion, belongs to the community.

The only action the FTB can take to address Blue Shield’s failure to devote itself to public good is to make the insurer start paying state income taxes (around $40 million a year). The agency can't do anything to ensure that the public gets the value it deserves from the $10 billion in community assets that Blue Shield represents. Only the Department Managed Health Care (DMHC) has that authority.

The health plan agency is already considering issues related to Blue Shield’s nonprofit duties in connection with its review of a pending $1.2 billion acquisition by Blue Shield. Specifically, the DMHC will determine whether Blue Shield’s assets are held in trust for the community, because if they are the law requires a higher level of scrutiny of the deal.

Despite publicly promoting itself as “not-for-profit, for the community” and regularly touting its commitment to its nonprofit mission, Blue Shield has claimed to the DMHC that it “holds no assets subject to a charitable trust obligation,” which is a lawyer’s way of saying it has no duty to benefit the community.

In a letter to the DMHC, Blue Shield’s general counsel likened the nonprofit to the Academy of Motion Picture Arts and Sciences, which puts on the Oscars, and the Olympic Club, a tony San Francisco social club. Like the other two organizations, he argued, Blue Shield has no community benefit obligation, despite its nonprofit status, because it is incorporated as a mutual benefit corporation.

Blue Shield painted a very different, far more community-oriented picture of itself to the FTB as it was fighting to maintain its exemption as a “social welfare organization.” One key point on which Blue Shield made conflicting statements to state officials has to do with its authority upon dissolution to distribute its assets to private individuals.

Blue Shield’s bylaws provide that if the plan disbands any remaining assets would be distributed to enrollees, and the plan’s general counsel has argued to the DMHC that this feature materially distinguishes Blue Shield from the type of nonprofit whose assets are held in charitable trust. However, as the Times reported, Blue Shield wrote to the FTB that “federal tax law ‘makes it abundantly clear that Blue Shield would be prohibited from making distributions upon dissolution to anyone or any entity other than another [nonprofit] and most certainly not to its contracted physicians or members.’"

Having personal knowledge of the correspondence with the FTB from my days working at Blue Shield, I alerted the DMHC to the inconsistency and blogged about it here last month. In response, Blue Shield denied any inconsistency, with CEO Paul Markovich telling DMHC officials at a June 8 public hearing: “Blue Shield’s bylaws say that if the company ceases to do business and dissolves, any money that remains after the repayment of debts would be distributed to members. That’s what we’ve told everybody, consistently, because it’s true.” 

The DMHC is now faced with a major nonprofit health plan that another state agency has found is failing to operate for social benefit, that denies it has any community benefit duty at all, and that seems to be acting deceitfully toward regulators. Fortunately for the public, the agency has considerable authority over Blue Shield.

In addition to its insurance regulatory powers, the DMHC has, with respect to nonprofit health plans, all of the authority that the state attorney general has over other nonprofits. This includes the power to investigate a nonprofit health plan for failure to meet its community benefit obligations and to take legal action to force it into compliance.

That’s exactly what the DMHC needs to do with Blue Shield. Some $10 billion in assets belonging to the public are at stake. As I explain here, Blue Shield should be returning to the community at least $500 million a year in benefits. The DMHC should postpone consideration of the proposed acquisition until it can assure the public that Blue Shield is doing its full duty as a nonprofit.