City of Otsego Decision Could Impact Municipalities' Bids to Exit Hospital Taxing Districts

Many states throughout the country authorize the formation and operation of hospital taxing districts with property tax levying authority. In an era of taxpayer revolts, a state appellate court decision in Minnesota may give these hospital districts greater peace of mind that their constituent taxing authorities—typically cities, townships, and counties—can't exit their districts at will when their citizens complain about their taxes.

Faegre & Benson represented New River Medical Center, formerly known as the Monticello–Big Lake Community Hospital District, in a challenge in the Minnesota Court of Appeals by the City of Otsego to the hospital board's decision to deny Otsego's petition to detach from the district. On August 24, 2010, the court issued its opinion in City of Otsego v. New River Hospital District, Case No. A09-1999, and affirmed the hospital board's decision.

The New River Medical Center was formed in 1961 by a number of rural cities and townships west of the Twin Cities seeking to improve access to quality local medical services. Otsego was annexed into the district in 1962 upon its residents' request. The hospital district is governed by a board of directors, and is funded both by its operating revenue as well as tax revenue, which, pursuant to state statute, is levied based on property value. State law provides that should a city or township wish to detach from the hospital district, it may request detachment by petitioning to the hospital board.

In September 2008, Otsego formally requested detachment, and the hospital board adopted four criteria for evaluation of the petition: (1) the benefit or harm to Otsego and the hospital district if the petition is granted; (2) whether Otsego is unique in comparison to the other cities/townships in the hospital district; (3) whether a substantial change in circumstances from the time of formation to the present justifies granting the petition; (4) the probative, credible evidence supporting the reasons for detachment. These criteria were based upon the only other Minnesota Court of Appeals case that addresses the issue of hospital district detachment, Township of Ottertail v. Perham Hospital District, 438 N.W.2d 412 (Minn. Ct. App. 1989).

Otsego asserted that detachment was justified primarily because the taxes levied on the residents of Otsego are greatly disproportionate to use of hospital district facilities by Otsego residents. Otsego further argued that growth patterns have made medical facilities in the Twin Cities the preferred choice of city residents.

The hospital board denied the petition because evidence demonstrated that use of hospital district services by Otsego residents has increased markedly in recent years, and because the sudden loss of Otsego's tax revenue could harm the district. The board expressed concerns that allowing detachment of Otsego would set a precedent, leading to a disorderly dissolution of the hospital district—a "rush to the exits." Although acknowledging that Otsego has experienced population growth, the board found that this factor was not unique to Otsego, as the entire region has developed in recent years, and, moreover, the hospital district has responded to that growth by increasing the services offered.

Applying the deferential standard of review appropriate for judicial review of administrative decisions, and acknowledging the authority granted to hospital district boards by the statutory scheme, the Court of Appeals affirmed the hospital board's decision, finding that the board did not act arbitrarily or capriciously in denying Otsego's petition to detach, and that the record supported the board's determination.

The City of Otsego decision reinforces the teaching of the earlier Perham Hospital District case, namely, that the courts will give wide latitude to a hospital district board to decide a member city's petition to detach. If the hospital district board provides a procedurally fair process, courts are loathe to second guess what is essentially a business judgment decision on the merits.

Given the paucity of published cases nationally on this subject, the City of Otsego decision is likely to be cited by courts in other states as they review similar challenges by cities and townships wanting to exit their hospital taxing districts.