Category Archives: Stay Current

Will the Medical Device Tax Mess with Contracts?

Many medical device companies are concerned about the upcoming new MEDICAL DEVICE EXCISE TAX to be leveled against REVENUES, not profits, for most all medical devices sold in or into the USA.  What companies may not realize is that this could have a major impact on CONTRACT MANUFACTURERS both inside and outside of the USA.  Few folks have probably taken the time to read how IRS is planning to assess this new tax—as it may apply to contract manufacturers. You should obtain a copy of the IRS proposal, but here are a few of the most alarming provisions!  We’ve attached a version current to this article but you must stay current!  IRS Device Tax proposal-113770-10

I’ve opposed the tax since I first heard of it, but like many, I had mistakenly believed that this tax would be imposed when the “user” bought the device.  IRS has a very different idea.  The IRS is viewing the point of sale transaction as when it is passed to a distributor!  So many contract companies are “drop shipping” (not shipping back to their client-customer but rather shipping directly to the next entity in the distribution chain). In this circumstance, IRS considers this the point of sale.

If you work for a contract manufacturer, or have a contract manufacturing agreement which entails shipping the product directly forward into distribution, you need to work fast to make provisions for how this tax will affect you.  The clock is ticking and unless it is repealed, it takes effect January 1, 2013.  Folks may have been hoping the Supreme Court would make this problem disappear, but it didn’t work that way.  Because so-called “OBAMA CARE” is likely to prevail, it is highly unlikely that repeal of the tax will happen, because this money was to pay for many otherwise unfunded provisions (although I’ve not been able to find any publication of exactly where the money would go.)

IRS SAYS:  The FDA generally requires owners or operators of places of business (also called establishments) that are located in the United States, or in foreign countries that export devices to the United States, and that manufacture, prepare, propagate, compound, assemble, process, repackage, or relabel medical devices intended for human use to register their establishments and list their devices upon first entering into operation, and to update this information on an annual basis with the FDA. See sections 510(a)–(d), (i), and (j) of the FFDCA, 21 CFR 807.20, and 21 CFR 807.21.  Various commentators observed that the statutory definition of “taxable medical device” leaves uncertainty as to which devices are included in the definition. The proposed regulations address this concern by providing that for purposes of the medical device excise tax, a device defined in section 201(h) of the FFDCA that is intended for humans means a device that is listed as a device with the FDA under section 510(j) of the FFDCA and 21 CFR Part 807, pursuant to FDA requirements. The FDA listing requirements are longstanding. Further, device manufacturers must comply with these requirements as part of the FDA’s device regulation process. Therefore, device manufacturers can be expected to know which devices fall within the definition.

That is easy for the IRS to say.  New rules for registration and listing were just released August 2, 2012 which could impact listing requirements in a big way!  FDA has issued New rules registration and listing.  A contract manufacturer must now register and list, regardless of whether the contract manufacturer puts the device into commercial distribution or returns the device to their client-customer.

IRS SAYS:  If more than one person is involved in the manufacture or importation of an item, such as a contract manufacturing arrangement, the determination of which person is the manufacturer or the importer is based on the facts and circumstances of the arrangement. The substance rather than the form of the transaction is determinative. See Rev. Rul. 58-134 (1958-1 CB 395), Rev. Rul. 60-42 (1960-1 CB 474), and Polaroid v. U.S., 235 F2d. 276 (1st Cir. 1956), for rules regarding the determination of which party is the manufacturer for chapter 32 purposes. See Rev. Rul. 68-197 (1968-1 CB 455) and Rev. Rul. 82-40 (1982-1 CB 175) for rules regarding the determination of which party is the importer for chapter 32 purposes.

This clearly means that no matter what you do or don’t do, you could be pulled into the argument of who pays the tax.  According to this, even if your contract agreements are clear on who is responsible for actually paying this tax to the IRS, they might not agree. And, the total amount of the tax could be different (retail versus wholesale).  We don’t need fights between the contract-client and the contract manufacturer.  Just reading the above paragraph shows that only the lawyers will win with this one.  And read this!

IRS SAYS: The proposed regulations also provide that if a device is not listed with the FDA but the FDA later determines that the device should have been listed as a device, the device will be deemed to have been listed as a device with the FDA as of the date the FDA notifies the manufacturer or importer in writing that corrective action with respect to listing is required.

We have already been told that registration and listing decisions are being affected by this law, with some companies deliberately altering their listings and registration type so that they will not show up on the IRS/FDA radar.  We caution against any activity of this sort.  We don’t know if there will be an “incentive” for FDA to increase this scrutiny and potentially “over-reach” the definitions for required “listing”, but we will be monitoring this situation closely.  You can EXPECT then that FDA inspectors are going to be turned into tax collectors!!!  What we don’t know is if this means a company would be under additional penalties if FDA found the company to be “avoiding” listing, such as the same penalties when someone fails to pay enough income tax.  But, remember, there are CIVIL PENALTIES the FDA can impose for failing to properly register and list and those are imposed “per act”.  We can expect an entirely new level of scrutiny about device listing.

Regardless of presidential politics and party loyalties, the Medical Device Excise Tax must be repealed. In the event it is not (or is not soon enough to prevent its initiation) I hope you will make provisions in your contract agreements concerning responsibilities for registration, listing and payment of the excise tax and consult an attorney on how to best handle these IRS interpretations for responsibility.  The working relationship between contract-clients and contract-manufacturers in the USA is far too valuable to leave this to someone else’s interpretation!

Also read:  Medical Device Tax 101

Excise Tax on Medical Device Sales in 2013 Unless You Act

On a recent visit to a university to speak with students and professors in biomedical engineering I was amazed that not one single person was even aware that a sales tax on medical devices would go into effect as part of the Health Care and Education Reconciliation Act of 2010 (also known as Obama-Care). I was asked where I saw the future of biomedical technology and I could not help but caution the students and professors that funds for research and development will be seriously impaired if this tax is allowed to take effect.

According to the Medical Device Manufacturers Association website this tax will be “levied on the total revenues of a company, regardless of whether a company generates a profit.” Medical device manufacturers simply cannot standby and allow this tax to go into effect. The tax will be levied on manufacturers and importers of medical device or equipment sold in the United States. Certain “retail” medical devices used by the general public will be exempted, such as eye glasses and contact lenses, and any other devices “the Secretary” determines to be used by the public. How far might this list go?

Although there are efforts underway to repeal this tax, so far there is little traction. Congressman Erick Paulsen (MN) has introduced H.R. 436 and has 228 cosponsors, including Congressman Todd Rokita of Indiana. A letter signed by over 70 freshman members of Congress went to House leadership in February. Orrin Hatch (R-UT) introduced S.17 on January 25, 2011 and has only 20 sponsors. At a time of soaring deficits, it is easy to stash a hidden tax on what appears to be a strong segment of the economy, as if it will have no impact to anyone of any consequence.

Frank Mattei, national tax leader of KPMG’s Pharmaceutical and Medical Device practice has said, “Companies will need to become familiar with the excise tax rules, identify their affected entities and products, and develop the appropriate compliance processes. A ‘gap’ analysis should be conducted as soon as possible to identify areas that need to be addressed.” Read more…   According to experts at KPMG, if legislative relief is not forthcoming, the first deposit of medical device excise tax will be due by January 29, 2013 and the first quarterly federal excise tax return will be due by April 30, 2013.

It should be disturbing to medical device manufacturers and importers that even the most aggressive proponent for appeal of this law  has not posted anything new to the dedicated website since February;

The Supreme Court is currently deliberating a challenge to “ObamaCare” but results may not be known until the last week of June. At that time there may be a decision regarding “severability”, deciding whether or not remainder of the Act may continue if the mandated purchase of health insurance is removed. Certain provisions of the Act, such as the medical device tax may be deemed enforceable, despite the determination of the unconstitutionality of the provision for medical insurance. Certain groups may raise cause to repeal the entire Act is the Supreme Court removes the personal health insurance mandate because of the strain that will be placed on the system. Presumably then the medical device tax would be swept out with ObamaCare. Whether a person’s politics lean for or against the measure, it is clear that medical device companies have become an unwitting pawn in this tug of war. Hoping that this tax will be repealed is a dangerous gamble. Remaining indifferent or under informed is not an option. Representatives and senators on both sides of the aisle need to hear from every user of a medical device and every manufacturer.

Before leaving this topic, I’d like to invite explanation to the following questions:

If the excise tax can be passed on to the “purchaser”, as most sales and excise taxes are, doesn’t this raise the net price of medical device to everyone? (I thought ObamaCare was meant to stop the rising health care costs.)

If this tax is to be paid by “purchaser”, and the purchaser (such as hospital and clinic) passes the cost onto the third party payor (meaning Medicare or your health insurance company) or directly to you, the patient recipient, aren’t we all going to see higher prices for insurance premiums and doctor visits?

If this tax is to be paid by Medicare when it reimburses for the cost of medical devices used in treatment, aren’t we increasing the cost of Medicare at a time when it is said to be nearly bankrupt?

News releases state the funds from this tax are to support “other” portions of ObamaCare but it is difficult to find the specific use the government has in mind for this money. Could it be used for purposes other than to offset Medicare? Could it go to the FDA, HHS? How about DOD, DOT? Who exactly will receive this windfall?

QUALITY 101 a Hit

Elaine Duncan’s presentation to the LifeScience Alley REGULATORY 101 course was a hit with the attendees.  It didn’t hurt that each attendee received a free mini-regulatory booklet which contains the regulations for PART 11, GLP regulations, IDE regulations and QSRs all in one collection.  The talk demonstrated how the Quality System Regulations are a SYSTEM, interlocking the parts to provide a network of documentation of the quality efforts.  Comparisons between ISO 13485:2003 and Part 820 were intended to help the audience understand where key differences could lead to difficulties with FDA inspection if they are not addressed.  The presentation is available for download in this attachment.  If you would like a free regulatory booklet, please go to the Contact Us page and request the booklet.  LifeScience Alley Reg 101 Quality Systems

Paladin Medical will help you establish systems that ensure compliance as well as improve efficiency and productivity.

A Brief History of the Paladin

The modern meaning of the word “Paladin” is a heroic champion and strong supporter or defender of a cause. It is derived from the Latin “palatines,” meaning “of the palace,” and came to mean a warrior or knight. The twelve knights of Charlemagne were called Paladins; their mission to solve disputes between the king's subjects.

In the late 1950s, a television character on the popular Western "Have Gun Will Travel" was named Paladin. He solved problems with intellect, not gunfire. The knight symbol on his business card conveyed his message of stoic service.