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The Lakeside Wellness Center in Omaha, Neb., isn't your typical upscale health club. Sure, it offers many of the facilities one would expect to find in such a club--a heated pool, massages, a wide variety of exercise equipment, trained staff and classes in subjects such as aquatic therapy, Tae Kwon Do and Pilates. However, Lakeside has one major advantage over many of its rivals: It is exempt from local property taxes.

Alegent Health, a large health care organization, owns the club and claims it serves a charitable purpose like its nearby hospital. And because Alegent is a non-profit institution, Lakeside is tax exempt.

Alegent's health club is far from unique. It's part of a growing trend of non-profit hospitals and medical centers opening tax-exempt clubs. These clubs aren't just big money makers, they're also great marketing vehicles. They attract new customers, who are then more likely to use the related hospital or medical center.

For-profit health clubs are fighting this development--it isn't easy to compete with clubs that don't pay taxes. Moreover, cash-strapped state and local governments have started to look skeptically at the tax status of these supposedly charitable health clubs. But the hospitals aren't giving up their tax exemptions without a fight--and now that fight is coming to Nebraska's Supreme Court.

The state's highest tax authority has ruled that Lakeside isn't entitled to tax-exempt status, and Lakeside is asking the court to overrule this decision. Non-profits, as well as their competitors, are watching this battle closely because it may affect what services non-profits can provide and how they can provide them.

"Everyone on the board of a charitable organization will sit up and take notice of this decision," says Edward Morse, associate dean and tax professor at Creighton University School of Law in Omaha.

In The Club

The fight over Lakeside has been brewing for several years. Roger Morrissey, the tax assessor of Douglas County, has repeatedly recommended that Lakeside shouldn't be exempt from local property taxes, but the Douglas County Board Of Equalization continually overruled those recommendations.

Last year Morrissey decided to appeal the County Board's ruling to the Nebraska Tax Equalization and Review Commission (TERC). And on Sept. 9, 2004, TERC decreed that Alegent's health club shouldn't be exempt from property taxes. On Oct. 5, 2004, Alegent appealed this ruling to the state's highest court.

Under Nebraska law, property can be exempt from local property taxes only if it is "used exclusively for educational, religious, charitable, or cemetery purposes" and the property isn't "owned or used for financial gain or profit to either the owner or user." According to TERC, Alegent's Wellness Center failed both of these tests.

TERC found the Center wasn't used for a charitable purpose because it didn't benefit the community at large. Instead, it "was designed and built to attract clients from the affluent neighborhoods within a five mile radius of the facility."

More than 5,000 members used the upscale facility, and paid some of the highest health club membership fees in Omaha--$66 per month for an individual membership, and $121 per month for a family membership. The center did provide free or reduced-fee access to between 80 and 90 people who couldn't afford to pay the full price. However, TERC found that because the organization didn't advertise reduced-fee options and doled them out to a relatively small number of people, the arrangements didn't benefit the community at large.

"[Lakeside] is essentially a private health club," says Mike Goodwillie, legal counsel to the Nebraska Department of Property Assessment and Taxation, who argued Morrissey's position before TERC.

Alegent argues the facility provides needed physical therapy to individuals who are feeble or sick.

"We offer a wide variety of services, but the majority are related to health and fitness," says Cindy Alloway, vice president and CEO of Alegent's Lakeside Hospital. "Seventy percent of our members have health risks, which have caused them in the past to do little physical activity."

Then there is the question of whether anyone is profiting from the facility. TERC ruled that the Wellness Center failed this second test because Lakeside was used for financial gain. Specifically, the facility benefited Power Wellness Management, a for-profit company that Alegent paid more than $100,000 annually to operate the center. Thus, TERC concluded, Power Wellness was a user of the property that financially benefited from it.

Status Symbol

TERC's ruling has caught the attention of a wide variety of charitable organizations that fear losing tax exemptions on some of their activities, such as childcare services, recreational services, massages and beauty services (including tanning and bikini waxing). On the other hand, private businesses that compete with charitable organizations are seeing dollar signs, as are some state and local tax officials, who hope to bring in some additional revenue.

The ruling's most immediate impact will be on non-profits that operate gyms and health clubs. These organizations may have to limit the types of services they offer, Morse says. He expects they will focus on providing activities that promote overall health and will avoid luxury services--such as bikini waxing--that compete with upscale for-profit organizations. Lakeside's bikini-waxing service was a significant problem for that organization's tax-exempt status, according to several experts.

Non-profits also are likely to take another look at their membership requirements. If a club provides services almost exclusively to individuals who pay high membership fees, the organization's tax-exempt status can be in trouble.

On the other hand, many organizations may decide to continue their current operations, even if this means losing some of their tax exemptions.

"If companies are doing something because it is a money-maker and is generating business, I doubt that taxability will be the dispositive factor in going forward," Goodwillie says.

That is precisely Alegent's position. Even if the Nebraska Supreme Court upholds TERC's decision, the company will not change the way it operates its controversial Lakeside Wellness Center.

"We would be disappointed [with the ruling], but we would continue to operate exactly as we do," Alloway says.

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Steven Seidenberg

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