Medical Equipment Excise Tax

Two years ago, as part of the massive health care reform legislation, Congress required that medical device manufacturers pay a new excise tax of 2.3 percent on certain medical device sales starting Jan. 1, 2013. The law also requires the secretary of treasury to determine exemptions from the tax including eyeglasses, contact lenses, hearing aids and devices determined to be “generally purchased by the general public at retail for individual use,” or the so-called retail exemption.

On Feb. 7, 2012, the Internal Revenue Service (IRS) issued its proposed regulations as to what types of medical devices would meet the retail exemption and, therefore, not be subject to the excise tax. Comments on the proposed rule are due May 7, and the IRS has scheduled a public hearing on May 16.

The IRS proposal provides a “facts and circumstances” approach for manufacturers to determine whether a particular device would qualify for the retail exemption. Under the IRS proposal, a device would fall under the retail exemption if it is regularly available for purchase and use by individual consumers who are not medical professionals and the device’s design demonstrates that it is not primarily intended for use in a medical institution or office, or by medical professionals.

With regard to the first criteria—regularly available for purchase and use by consumers—the IRS provides three nonexclusive factors to consider:

• Whether consumers who are not medical professionals can purchase the device through retail businesses—including drugstores, supermarkets and similar vendors—that also sell items other than medical devices
• Whether consumers who are not medical professionals can safely and effectively use the device with minimal or no training from a medical professional
• Whether the device is classified by the FDA under 21 CFR Part 890 as a physical medicine device

Under the first factor, the IRS has made a distinction between a Walmart or drugstore type of retailer and home medical equipment (HME) retailer. The IRS provides no explanation as to why it would make this seemingly arbitrary distinction since it is not relevant to Congress’ intent to exclude from the tax devices that are generally designed and sold for individual use.

The IRS is requesting public comments on how to provide greater clarity regarding devices that are sold primarily or exclusively through “specialty medical retailers,” which is the IRS’ term for HME providers.

We must explain to the IRS that HME providers are by definition retailers; Medicare requires DME suppliers to have a retail location as part of Medicare standards. The third factor addresses many mobility devices, meaning that manual and power wheelchairs and accessories would generally be excluded from the tax.

With regard to the second criteria—primarily intended for use in a medical institution or office, or by medical professionals—the IRS provides five factors that would be used to determine whether the device meets this criteria:

• Whether the device generally must be implanted, inserted, operated or otherwise administered by a medical professional
• Whether the cost to acquire, maintain and/or use the device requires a large initial investment and/or ongoing expenditure that is not affordable to the average consumers
• Whether the device is classified by the FDA as a Class III medical device
• Whether the device is classified by the FDA under certain parts of 21 CFR, including 21 CFR Part 868, anesthesiology devices
• And whether the device qualifies as DMEPOS for which payment is available exclusively on a rental basis under Medicare and is an “item requiring frequent and substantial servicing” under 42 CFR 414.222 (which is limited to ventilators, except CPAP or RADs with bi-level pressure capability, continuous and intermittent positive pressure breathing machines and continuous passive motion machines). 

The fourth factor includes devices classified by the FDA under 21 CFR Part 868, anesthesiology devices. It includes a broad array of diagnostic, monitoring and therapeutic devices, many of which are clearly used in acute care facilities. At the same time, this FDA category includes home oxygen concentrators and other oxygen therapy devices that are generally used by consumers in their home.

We believe the IRS’ proposal to include all Part 868 devices as taxable is overly broad and does not meet Congress’ intent of excluding devices that are generally designed and sold for individual use.

The IRS also proposes a safe harbor provision that includes devices classified by the FDA as over-the-counter products, as well as certain DMEPOS items for which Medicare pays on a purchase basis, including prosthetic and orthotic devices; parenteral and enteral nutrients, equipment and supplies; and supplies necessary for the effective use of DME.

Under the proposed safe harbor, blood glucose monitors (classified as over-the-counter)test strips and lancets, which are supplies necessary for the effective use of DME, would be exempt from the tax.

On a positive note, the IRS specifically requests further input regarding DMEPOS items. We believe the IRS could provide significantly greater clarity, and we will be making detailed recommendations to the IRS. For example, the IRS could exclude from the excise tax any device that meets the Medicare DMEPOS coverage definition. Under that definition, DMEPOS items are not separately payable in a health care institution and are required to be suitable for use in the home.

Once the IRS receives comments and holds its public hearing, it will issue a final rule later this year with the final guidance.

(The entire proposal is available here.)