PLR 200003052: Public school health insurance trust income is excluded under section 115

Plain-English summary

A trust created by organizations affiliated with public schools pooled health care risks and provided coverage for school entities' employees and dependents. It expected ongoing funding from participating employers, barred private distributions of its earnings, and would distribute remaining assets to public school entities on dissolution. The IRS held that the trust's income was excluded from gross income under § 115(1) because the trust performed an essential governmental function and its income accrued to public school entities. The trust also requested a ruling under § 509, which the IRS reserved for a separate response. The letter gave no opinion on other federal tax consequences.

Ruling snapshot

• Question: Is the public school health insurance trust's income excludable under § 115(1)?
• Outcome: Approved under § 115(1); the § 509 request was deferred.
• Key authorities: IRC § 115(1); Rev. Rul. 90-74; Rev. Rul. 77-261.

Full text (IRS public release)

200003052

Internal Revenue Service                 Department of the Treasury
Index Number: 115.00-00                Washington, DC 20224
Refer Reply To: CC:DOM:FI&P:3/PLR-111145-99
Date: October 25, 1999

LEGEND:
Trust =
State X =
Association A =
Association B =
Association C =
Association D =
Federation F =

This is in response to a letter dated June 2, 1999, requesting a ruling concerning the exclusion of
income of Trust from gross income under § 115 of the Internal Revenue Code. Trust also has requested
a ruling under § 509 of the Code. Pursuant to Section 8.02(1) of Rev. Proc. 99-1, 1999-1 I.R.B. 6, 30,
that ruling will be addressed in a separate response.

FACTS

Trust was created by five organizations affiliated with public school entities in State X to pool
health care risks and to provide health care insurance and benefits to public school entities. The purpose
of Trust is to provide health care coverage to various public school entities within State X: public school
districts, intermediate units, vocational-technical schools, and community colleges. The existence of each
of these entities is authorized and established by specific provisions under the statutes of State X.

Trust has fourteen trustees, appointed as follows: (1) six voting trustees are appointed by
Association A; (2) six voting trustees are appointed by Association B and Federation F as determined by
those organizations; (3) one non-voting trustee is appointed by Association C; and (4) one non-voting
trustee is appointed by Association D. All trustees must be affiliated with public schools.

Trust will receive its funds from the contributions of participating employers and will use the funds
to purchase and/or provide health care benefits for employees (and their dependents) of public school
entities. Trust anticipates that its start-up expenses will be covered by a one-time grant from a private
foundation described in §§ 501(c)(3) and 509. However, Trust anticipates that its on-going expenses will
be funded solely by contributions made by participating employers.

Trust essentially operates for the purposes of establishing and operating an insurance risk pool.
The Agreement and Declaration of the Trust provide that no part of the net earnings inure to the benefit
of or are distributable to any Trustee, officer, employee, agent, or other private individual, person, group,
or association. Net earnings are used exclusively to acquire and deliver health insurance and health
insurance benefits to the organization's permitted participants. Upon dissolution of Trust, any remaining
assets are distributed to public school entities within State X.

LAW AND ANALYSIS

Section 115(1) 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 political subdivision of a
state.

When determining if § 115(1) applies, the Service considers all the facts and circumstances
relating to the organization to determine whether the organization performs an essential governmental
function and whether the income of the organization accrues to a state or a political subdivision of the
state.

Rev. Rul. 90-74, 1990-2 C.B. 34, concerns an organization formed, operated, and funded by
political subdivisions to pool their casualty risks and other risks arising from their obligations concerning
public liability, workers’ compensation, or employees’ health obligations. The ruling states that the income
of such an organization is excluded from gross income under § 115(1) 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.

Rev. Rul. 77-261, 1977-2 C.B. 45, holds that income from a fund, established under a written
declaration of trust by a state, for the temporary investment of positive cash balances of a state and its
political subdivisions, is excludable from gross income under § 115(1) of the Code. The ruling reasons
that the investment of positive cash balances by a state or political subdivision in order to receive some
yield on the funds until needed to meet expenses is a necessary incident of the power of the state or
political subdivision to collect taxes and raise revenue.

Trust provides health and medical insurance coverage for its members and their dependents, all of
whom are employed by or affiliated with public school entities recognized under State X law. Based upon
Rev. Rul. 90-74 and Rev. Rul. 77-261, Trust performs an essential governmental function within the
meaning of § 115(1) of the Code.

Under § 115(1) of the Code, income of the Trust must accrue to states or their political
subdivisions. No part of Trust's net earnings inures to the benefit of any private person. In addition, upon
distribution or liquidation, Trust's remaining assets must be distributed to public school entities. Thus, the
income of the Company accrues to political subdivisions of states and entities whose income is excludable

from gross income under § 115.

HOLDING

Based on the information and representations submitted by Trust, we hold that the income of
Trust is excludable from gross income under § 115(1).

Except as specifically ruled upon above, no opinion is expressed or implied as to the federal tax
consequences of the transaction described above under any other provision of the Internal Revenue Code.

This ruling is directed only to the taxpayer who requested it. Section 6110(k)(3) of the Code
provides that it may not be used or cited as precedent. In accordance with the provisions of a power of
attorney currently on file, we are sending a copy of this ruling letter to your authorized representative.

Sincerely,

Assistant Chief Counsel
(Financial Institutions and Products)

By: [signature]

Alice M. Bennett
Chief, Branch 3

enclosures: Copy of letter for section 6110 purposes