Mass Medic Planning for the Medical Device Excise Tax. May 16, 2012

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1 Mass Medic Planning for the Medical Device Excise Tax May 16, 2012

2 Notice ANY TAX ADVICE IN THIS COMMUNICATION IS NOT INTENDED OR WRITTEN BY KPMG TO BE USED, AND CANNOT BE USED, BY A CLIENT OR ANY OTHER PERSON OR ENTITY FOR THE PURPOSE OF (i) AVOIDING PENALTIES THAT MAY BE IMPOSED ON ANY TAXPAYER OR (ii) PROMOTING, MARKETING OR RECOMMENDING TO ANOTHER PARTY ANY MATTERS ADDRESSED HEREIN. You (and your employees, representatives, or agents) may disclose to any and all persons, without limitation, the tax treatment or tax structure, or both, of any transaction described in the associated materials we provide to you, including, but not limited to, any tax opinions, memoranda, or other tax analyses contained in those materials. The information contained herein is of a general nature and based on authorities that are subject to change. Applicability of the information to specific situations should be determined through consultation with your tax adviser. 1

3 Today s objectives Understand what challenges companies face Understand tax technical issues Understand the excise tax compliance process Understand the assessment process needed to begin preparing for the tax 2

4 Open discussion What are companies medical device excise tax concerns? What are the key issues and challenges? 3

5 Unique Concepts of Federal Excise Tax

6 Excise tax procedural rules No consolidated federal excise tax return Disregarded entities are regarded for federal excise tax purposes Each entity with EIN is treated as a separate entity Form 720, Quarterly Federal Excise Tax Return Based on a calendar quarter Semimonthly deposits required in advance of return Required for each semimonthly period during calendar quarter in which liability incurred Under IRS Small Business/Self-Employed Division No Tax Court jurisdiction 5

7 When does compliance start? First deposit of medical device excise tax will be due January 29, 2013 Relating to tax liability incurred January 1-15 First return of medical device excise tax will be due April 30, 2013 Reporting tax liability incurred January 1 March 31 6

8 Basics Medical Device Excise Tax

9 Section 4191 Effective January 1, 2013 Tax is imposed on the sale of any taxable medical device by its manufacturer or importer at a rate of 2.3% of the price for which sold A device is Any product for use in diagnosis or treatment of human disease Intended to affect the structure or any function of the body But not drugs Exempt medical devices are Eyeglasses, contact lenses, and hearing aids Any medical device determined by the Treasury to be of a type that is generally purchased by the general public at retail for individual use (the retail exemption ) 8

10 Proposed regulations A taxable medical device is a device listed with the FDA under section 510(j) of the FFDC Act and 21 CFR Part 807, pursuant to FDA requirements A device meets the retail exemption if it is regularly available for purchase and use by individual consumers who are not medical professionals and it is not primarily intended for use in a medical institution or office or by a medical professional Facts and circumstances test Safe harbor Existing manufacturers excise tax regulations apply Issued on February 3,

11 Retail exemption safe harbor Identifies categories of devices that IRS determined fall within retail exemption Specified over-the-counter devices Specified durable medical equipment, prosthetics, orthotics, and supplies 10

12 Retail exemption facts and circumstances test Some of the non-exclusive factors Regularly available for purchase and use by individual consumers Whether consumers who are not medical professionals can: Purchase the device through general retail business, such as drug stores and supermarkets Safely and effectively use the device as intended without training by a medical professional Primarily intended for use in a medical institution or office or by a medical professional Device generally must be implanted or otherwise administered by a medical professional Cost to acquire, maintain, and use the device requires a large initial investment and ongoing expenditure that is not affordable for the average consumer 11

13 Examples of exempt devices Proposed regulations provide the following examples Safe harbor Pregnancy test kits Blood glucose monitors Facts and circumstances test Non-sterile absorbent tipped applicators Adhesive bandages Snake bite suction kits Denture adhesives 12

14 Existing manufacturers excise tax rules apply Section 4191 is a manufacturers excise tax under IRC Chapter 32 Existing regulations provide rules relating to Defining manufacturer and importer Tax imposed on uses and leases Determining the sale price to be used as the tax base Tax-free sales Refunds of tax, including price readjustments, exports, and use in further manufacture Filing returns and making deposits of tax 13

15 Who is a manufacturer? Under existing excise tax rules, manufacturer includes any person that produces a device From scrap, salvage, or junk material, or from new or raw material By processing, manipulating, or changing the form of an article, or by combining or assembling two or more articles Fabricator is not the manufacturer if Person for whom Fabricator produces article Furnishes materials to Fabricator Retains title to materials and finished device Producer is not the manufacturer if Person for whom Producer makes article Owns the patents Exercises complete control over outputs Polaroid Corp. v. United States, 235 F.2d 276 (1st Cir. 1956); Revenue Ruling

16 Who is an importer? Under existing excise tax rules, importer means the person that sells or uses the device in the United States after Bringing a device into the United States from a source outside the United States, or Withdrawing a device from a customs bonded warehouse If the nominal importer of a device is not its beneficial owner, the beneficial owner is the importer Example Customs broker engaged by the beneficial owner 15

17 How Does The Medical Device Excise Tax Work?

18 How the tax works Sale, use, or lease of taxable medical device by manufacturer or importer triggers the tax The manufacturer or importer is liable for the tax Tax base is sale price Generally, sale price is the price for which the device is sold Sometimes, substitute a constructed sale price Tax-free sales for export and for use in further manufacture If seller and purchaser (except foreign purchaser) registered in advance by IRS and paperwork requirements met Refund of tax In the case of certain price readjustments If the device was not sold tax free for export or for use in further manufacture 17

19 What triggers tax? Sale by manufacturer or importer Tax applies upon sale, even if sale price not paid Use by manufacturer or importer treated as sale Tax applies at time use begins Lease by manufacturer or importer treated as sale Generally, tax applies to each lease payment 18

20 What is use in further manufacture? Use of a taxable medical device as a component of another taxable medical device 19

21 What is a kit? A kit is a set of two or more articles enclosed in a single package (such as a bag, tray, or box) for the convenience of a medical or health care professional or the end user A kit that is a listed device is a taxable medical device 20

22 Generic supply chain for excise tax purposes Manufacturer/ Importer Wholesaler Retailer End User 21

23 Sale price Generally, the price for which the device is sold Includes certain charges required as condition of sale Excludes certain charges Excise tax Transportation, delivery, installation, and insurance Optional service contracts Optional warranties Price readjustments cannot be anticipated 22

24 Price readjustments Devices returned by purchaser and some or all of the price is refunded Rebates, discounts, and other allowances paid to purchaser Refund of tax may be allowable for price readjustments 23

25 Constructed sale price There are constructed sale price (CSP) rules for Sales at retail Sales not at arm s length and at less than a fair market price Sales not at arm s length is defined in excise tax regulations One of the parties is controlled (in law or in fact) by the other, or there is common control, whether or not such control is actually exercised to influence the sale price, or The sale is made pursuant to special arrangements between a manufacturer and a purchaser Fair market price is not defined in excise tax regulations Requires detailed understanding of the supply chain on a device-by-device basis No IRS guidance on CSP that are specific to medical device excise tax 24

26 What is a sale at retail? A sale by the manufacturer or importer directly to the end user Under section 4216(b)(1)(A), the CSP is the lower of The price for which the device is sold, or The highest price for which such devices are sold to wholesale distributors, in the ordinary course of trade, by manufacturers or importers thereof, as determined by the IRS Under Revenue Ruling If manufacturer or importer has an established bona fide practice of selling the articles in substantial quantities to wholesale distributors CSP is the highest price for which it sells similar articles to wholesale distributors 25

27 Sale at retail what if there are no sales to unrelated wholesale distributors? Under Revenue Ruling CSP is 75% of the price for which sold, after taking into account allowable sale price exclusions, unless it can be shown on an industry-wide basis that a lower percentage should apply Under Revenue Ruling CSP for sport fishing equipment is 60% of price for which sold, after taking into account allowable sale price exclusions 26

28 Sales not at arm s length and at less than fair market price Under section 4216(b)(1)(C), CSP is the price for which such devices are sold in the ordinary course of trade by manufacturers or importers thereof, as determined by the IRS 27

29 If sales are to related wholesale distributor Under Revenue Ruling CSP is 95% of related wholesale distributor s lowest established price to unrelated wholesale distributors, or The actual selling price at which the taxable article leaves the corporate family in the ordinary course of trade Under Revenue Ruling If intercompany price is less than 95% of price to unrelated wholesalers, IRS presumes it is not a fair market price 28

30 For sales by related wholesale distributor to unrelated retailers Under section 4216(b)(3), CSP is 90% of the lowest price for which related wholesale distributor regularly sells such articles to unrelated retailers, if related wholesale distributor does not regularly sell to unrelated wholesaler distributors 29

31 What is the challenge for intercompany sales? An intercompany sale is never an arm s length sale under excise tax rules Will the intercompany price be respected as a fair market price under the excise tax rules? If yes, then intercompany price is the tax base If no, the CSP rules would apply Support for conclusion that intercompany sales are at fair market price Storm Plastics, Inc. v. United States, 770 F.2d 148 (10th Cir. 1985) Evidence may be presented that price is fair market price to rebut IRS presumption that CSP applies Revenue Ruling IRS will follow the Storm Plastics decision and allow rebuttal of the CSP Manufacturer/importer has the burden of establishing that its product was sold at a clearly applicable fair market price, using industry data, expert testimony, etc. 30

32 KPMG Approach Preparing for the Medical Device Excise Tax

33 Approach to medical device excise tax Multi-step process Assessment Phase Analysis and Conclusions Phase Implementation Phase 32

34 Key questions Which products are taxable medical devices? Which devices are exempt under the retail exemption? Which entities are manufacturers or importers? What activities are taxable events? What is the applicable tax base for those activities? In what situations do constructed sale price rules apply? Which sales can be made tax free for export and for use in further manufacture? For which sales may tax refunds be allowable? What are the excise tax procedural rules for reporting tax to the IRS? 33

Assessment phase Step 5 Step 1 Review devices in product line Identify taxable medical devices Identify exempt devices Step 2 Review company structure Identify manufacturers Identify importers Step 3

35 Assessment phase Step 5 Step 1 Review devices in product line Identify taxable medical devices Identify exempt devices Step 2 Review company structure Identify manufacturers Identify importers Step 3 Review flow of devices from manufacturer/ importer to end user Identify activities other than sales that may trigger tax Identify sales and purchases that may qualify for tax free treatment Step 4 Review price for determining tax base Sale price generally Constructed sale price Review post-sale events for tax refund possibilities Identify sales to which price readjustments may apply Identify other sales for which a tax refund may be allowable Review sales and distribution chain 34

36 Analysis and conclusions phase Provide technical analysis of issues identified during assessment phase Make recommendations relating to identified issues Answer key questions to determine tax liability 35

37 Implementation phase Understand excise tax procedural rules Develop excise tax compliance policies and procedures Document positions taken 36

38 Implementation phase develop excise tax compliance process Determine entities that should become registered by IRS Develop data collection system Develop model workpapers to support excise tax return Develop process for reporting tax quarterly Develop process for making semimonthly deposits of tax 37

39 Implementation phase develop documentation Documentation of decisions on significant issues Manufacturer/importer entities Taxable medical devices Exempt devices Constructed sale price issues Documentation of computation of tax Tax base Tax-free sales Refunds 38

40 Resumes and Contact Information

Robert T. Noonan Partner Professional and Industry Experience Rob Noonan is KPMG s Tax Partner-in-Charge for New England and Upstate New York and is resident in Boston.

41 Robert T. Noonan Partner Professional and Industry Experience Rob Noonan is KPMG s Tax Partner-in-Charge for New England and Upstate New York and is resident in Boston. Rob joined KPMG s Boston office in 1985 and was admitted into the partnership in ROBERT T. NOONAN Partner KPMG LLP Two Financial Center 60 South Street Boston, MA Tel Fax Cell rtnoonan@kpmg.com Function and Specialization Federal Tax Education, Licenses & Certifications J.D. Suffolk Law School B.A. St. Michaels College Rob is the partner in charge of our New England and Upstate New York Tax practice and is resident in the Boston office with over 25 years of experience in delivering tax consulting and compliance services to our clients. His experience includes advising companies on the individual and corporate income tax consequences of equity and debt financing arrangements, employment compensation plans, and legal entity structuring. Rob has experience in identifying federal and state direct and indirect tax credits for start-up and mature companies. His experience also includes performing due diligence on acquisition targets to determine income and indirect tax exposures and structuring the form of the purchase to include the overall tax burden of the transaction, and recommending legal structures to minimize federal and state taxes. Representative Clients Advent International Nuance Atlas Venture Partners Thomas H. Lee Partners Polaris Ventures Sapient 40

Zara Muradali, managing director Background Zara Muradali has over 16 years of public accounting experience serving New England-based multinational and middle market companies in numerous industries

42 Zara Muradali, managing director Background Zara Muradali has over 16 years of public accounting experience serving New England-based multinational and middle market companies in numerous industries including manufacturing, software, and biotechnology. She currently leads the Accounting Methods and Credits Practice for KPMG s New England Service Area. Zara Muradali Managing Director, Tax KPMG LLP Two Financial Center 60 South Street Boston, MA Tel: Fax: Cell: zmuradalil@kpmg.com Function and Specialization Federal Tax Representative Clients Cerberus (Private Equity) Boston Scientific Corporation Blue Bird Corporation Revision Eyewear IAP Worldwide Services, Inc. Teradyne Professional Associations Massachusetts Society of CPA AICPA Professional and industry experience Zara has provided tax compliance and consulting services for over 16 years. Her experience includes assisting clients with design and development of tax functions, carve-out accounting, ASC 740 income tax reserve analysis, and cash tax planning. She also has experience in performing accounting methods and credits diagnostic studies to increase cash flow through risk mitigation and/or potential tax planning as well as assessing the impact of IFRS conversions. Zara has served as a technical advisor, IRS exam strategist and Tax Account Leader on a number of multinational and inbound companies. She also served as the ASC 740 Business Tax Leader for a Big Four accounting Firm. Technical skills Accounting Methods (including R&D studies and Section 199), IFRS Conversion, ASC 740, Tax Planning, IRS Controversy (including pre-filing agreements), Intellectual Property Planning, acquisition and disposition planning, Global Tax Compliance and Reporting. Other activities Co-chair of Diversity Initiatives for a Big Four accounting Firm Founder of the Women in Tax Networking group Travel, Food and Wine, Health and Fitness Education, Licenses & Certifications B.A. - University of Massachusetts MST - Northeastern University, Graduate School of Business CPA, MA 41

43 Ruth Hoffman, director Professional and industry experience Ruth Hoffman Director Prior to joining KPMG in January 2003, Ms. Hoffman spent over 15 years as an attorney at the IRS Office of Chief Counsel. Most recently, she was the Senior Technician Reviewer of the Excise Tax Branch where, together with the Branch Chief, she supervised a staff of eight attorneys and was responsible for IRS published guidance on excise taxes (revenue rulings, revenue procedures, etc.), technical advice to IRS excise tax agents, and letter rulings to taxpayers. She also worked closely with the Treasury Department in developing regulations and legislation in the excise tax area, and with the Justice Department in developing the government s litigation positions. As one of the principal legal advisers to the IRS Commissioner on excise tax matters, she developed a thorough understanding of both the substantive and procedural aspects of federal excise taxes as well as the IRS administration of those taxes. KPMG LLP 1801 K Street, NW Washington, DC Tel Fax rhoffman@kpmg.com Function and Specialization Ms. Hoffman is a director in the Excise Tax group of the Washington National Tax practice. Her services include excise tax consulting and IRS excise tax controversies and cover a wide range of excise taxes, including manufacturers taxes (e.g., medical devices; sporting goods; tires), taxable fuel taxes, air transportation taxes, environmental taxes (e.g., ozone-depleting chemicals; oil spill), retail taxes (e.g., alternative fuels; heavy vehicles), and the foreign insurance tax, and the alcohol, biodiesel, and alternative fuel incentives. Education, Licenses & Certifications J.D., cum laude, at Western New England College School of Law in B.A. from American University Admitted to the New York Bar in

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44 2012 KPMG LLP, a Delaware limited liability partnership and the U.S. member firm of the KPMG network of independent member firms affiliated with KPMG International Cooperative ( KPMG International ), a Swiss entity. All rights reserved. The KPMG name, logo and cutting through complexity are registered trademarks or trademarks of KPMG International.

The Medical Device Excise Tax, Wrap Up, Audits and Refunds

The Medical Device Excise Tax, Wrap Up, Audits and Refunds Michael Cronin SALT - Senior Manager - New England State and Local Indirect Tax and National Medical Device Excise Tax Leader T +1 617 848 4999