Congress Should Promptly Scrap the Medical Device Tax, Once and For All
Federal excise taxes usually have clear-cut policy objectives. For example, the tobacco tax combats smoking, a habit that kills people and drives up medical costs. The alcohol tax addresses the social ills arising from alcohol abuse and the gasoline tax makes drivers pay for the roads that they use. But what policy objective is served by a tax on pacemakers, hospital beds, MRI systems, and X-ray machines?
That is the question Congress should keep in mind as it decides whether to allow the medical device tax to return on January 1. A welcome New Year’s gift would be for Congress to heed basic tax policy principles and scrap the tax once and for all.
Congress adopted a 2.3 percent excise tax on medical devices in 2010, as part of a follow-up law to the Affordable Care Act. The tax took effect in 2013 and remained in place through 2015. Then, Congress began having second thoughts. In December 2015, it suspended the tax for 2016 and 2017. In January 2018, it extended the suspension to cover 2018 and 2019. Unless Congress acts again, though, the tax will spring back to life in 2020.
The tax applies to most of the vast array of products that the Food and Drug Administration classifies as medical devices. Taking mercy on pets, however, Congress exempted devices that are not “intended for humans.” Congress also exempted eyeglasses, contact lenses, hearing aids, and devices that the general public typically buys at retail for individual use. Of course, targeting the tax at devices that hospitals and doctors buy on patients’ behalf rather than devices patients buy directly does not shield patients from the tax burden. The targeting merely ensures that the tax is embedded in doctor and hospital bills rather than in devices’ retail prices. It is revealing, though, that Congress tailored the tax to apply in situations in which its impact is less visible.
The retail exemption makes the tax more complicated. In many cases, the IRS tells manufacturers that they must judge which devices qualify for the exemption based on a list of “facts and circumstances.” A 2013 Congressional Research Service report observed that the IRS rules largely rely on a “malleable multi-factor test” that “naturally creates ambiguity” about which devices are subject to the tax. The complexity seems excessive for a tax that is projected to bring in a mere $3 billion per year.
To be fair, a few arguments commonly made against the tax are invalid. Some opponents complain that the tax on a device does not depend on how much money the company manufacturing it is making or losing. However, that is the way excise taxes are supposed to work – tobacco, alcohol, and gasoline taxes are also applied independently of producers’ profitability or lack thereof. Some opponents also contend that the tax will drive medical device production overseas. Like most excise taxes, however, the tax applies to imports and exempts exports – in other words, the tax is imposed on devices purchased in the United States, regardless of where they are produced.
The medical device tax’s fatal flaw is far more fundamental. Unlike with tobacco, alcohol, and gasoline, there is no sensible reason to single out medical devices for special taxes. The rationale offered for the tax when it was introduced, which has been embraced by its supporters, is that medical device producers should pay taxes to offset the extra profits they may earn because the Affordable Care Act may have boosted demand for their products. As with most excise taxes, however, much of the tax’s burdenfalls on consumers rather than producers. In any event, the tax system should not thwart the profit motive that prompts producers to meet the increased demand.
A 2015 Congressional Research Service report on the medical device tax aptly commented, “Viewed from the perspective of traditional economic and tax theory, however, the tax is challenging to justify” because the usual justifications for excise taxes “do not apply, other than weakly” to the tax. The report also noted that the tax “imposes administrative and compliance costs that may be disproportionate to revenue.”
Unsurprisingly, this misdirected tax has drawn sustained opposition, prompting Congress to suspend it for the last four years. Last year, the House voted 283-132 to repeal the tax altogether, but the Senate failed to act. Another push is underway to eliminate the tax. A repeal bill in the House has drawn 257 sponsors and a companion bill in the Senate has drawn 37 sponsors.
Congress should promptly scrap the medical device tax, once and for all.