On December 5, 2012, the Internal Revenue Service (IRS) published final regulations and interim guidance regarding the excise tax on the sale of certain medical devices. Originally proposed as part of the Patient Protection and Affordable Care Act, this excise tax is equivalent to 2.3% of the sales price of certain devices and is to be paid by manufacturers, producers or importers of the devices.
The tax took effect January 1, 2013, although numerous efforts are currently underway to repeal the tax or delay its implementation. Barring the success of these efforts, manufacturers, producers and importers of devices should be prepared to make their first semi-monthly deposit to the IRS by January 29, 2013 for the period January 1-15, 2013. The IRS has provided transition relief to device manufacturers, producers and importers and will not impose late fees until fourth quarter 2013 for those taxpayers making a good faith effort to comply with the regulations.
The medical device excise tax is to be reported on Form 720, Quarterly Federal Excise Tax Return. The first return and payment are due April 30, 2013 for the period covering the first three months of 2013.
Definition of "taxable medical device"
The IRS defines a taxable medical device as a device intended for use by humans and one that is listed as a device with the US Food and Drug Administration (FDA) under Section 201(h) of the Federal Food, Drug, and Cosmetic Act (FDCA). Additionally, the device must be listed as a device with the FDA under Section 510(j) of the FDCA to be considered for the tax. These two listing requirements determine whether a device is subject to the excise tax or not. As such, it is important for manufacturers, producers and importers to review all their products to see which meet the FDA’s listing requirements and which do not.
If a device is not listed with the FDA but the FDA determines that it should have been listed, the effective date for listing will be the date the manufacturer, producer or importer is notified in writing by the FDA of the correction. Excise taxes should be charged for the product beginning at the time of notification.
The IRS and Treasury Department are studying the taxability of "convenience kits" (set of two or more devices enclosed in a single package- may contain a combination of devices within the meaning of Section 201(h) of the FFDCA and other articles) and intend to issue additional guidance in the future. Interim guidance has been provided, which provides that no tax be imposed on the sale of domestically- produced convenience kits. However, the sale of a taxable medical device that goes into the kit is subject to the tax upon its sale. The interim guidance also provides that the sale of a convenience kit by an importer is subject to the tax but only on the portion of the importer’s sale price of the kit that is properly allocable to the individual taxable medical devices included in the kit.
The "retail exemption"
According to the IRS, eyeglasses, contact lenses, and hearing aids do not fit the definition of taxable medical devices and therefore are excluded from the tax. The guidelines state that in general, any device purchased by the general public for use by an individual is exempt from the tax. To qualify for this retail exemption, the device must be readily available for purchase by a consumer who is not a medical professional and the design of the product such that it is not intended for use by medical professionals in the course of treating patients. Each of these two items is analyzed using a number of different factors in a facts and circumstances check. The determination of whether a device qualifies for the excise tax or not will result from an analysis of the positive and negative factors relevant to the device, with no one factor being more important than others.
There are numerous other exemptions to the tax, with the most significant listed below:
- Devices that have not yet been approved for marketing by the FDA – Once approved, the device tax will apply.
- Devices that will be used in remanufacturing of a device – After the remanufacturing is complete, the tax will apply to the sale, rental or first use of the remanufactured device if it meets the FDA’s listing requirements.
- Devices manufactured in the United States and exported
- Prosthetic and orthotic devices and customized and therapeutic shoes, as defined by specific regulations
Calculation of the tax
Generally, the excise tax is calculated on the price for which a manufacturer sells a taxable article to an independent wholesaler. When a taxable article is sold to someone other than a wholesaler, there are special constructive sale price rules that apply under the regulations. Interim guidance has been issued regarding the constructive sale price calculation as the IRS and Treasury Department recognize that there may be distribution chains common to the medical device industry that are not addressed in the current published guidance. Other factors to be taken into consideration include the following:
- Consumer rebates can only be claimed after they are paid. These rebates may reduce the overall tax obligation owed only if these rebates apply to the sales of taxable medical devices.
- In situations where the device is leased or rented, the tax applies to the portion of the lease or rental payment that relates to the use of the device.
- Medical devices used for promotion or demonstration purposes may be taxed, depending upon the circumstances in which the device is used.
To prepare for the first semi-monthly excise tax due on January 29, 2013, medical device manufacturers, producers and importers should take each of the following steps, if they have not done so already:
- Register with the IRS
- Review the complete product line to determine which products qualify as medical devices under the FDA requirements
- Perform analysis of which products, if any, qualify for the retail exemption and other exemptions (i.e. exports, devices to be used in remanufacture) and ensure proper documentation is in place to support results of the analysis
- Determine the appropriate sales price to be used in calculating the tax on each product, taking into account the various components of and any price adjustments on the sales price
- Create and design systems to ensure taxable transactions are noted appropriately in accounting, billing, and inventory systems
- Develop process for completing bi-monthly tax deposits
- Develop process for completing and filing quarterly returns