That Pesky Medical Device Tax: A Medical Manufacturing Insider Speaks Out!

Medical device tax
Will medical device tax drive production overseas and stifle innovation?

We wrote here previously about the medical device tax tucked deep inside 2010 health care bill (Affordable Care Act or Obamacare, pick your poison). That’s a 2.3 percent levy on sales of all kinds of medical devices used in diagnosis and treatment (excluding items sold directly to consumers over the counter, like Band-Aids and such), expected to generate $20 billion over 10 years.

After my earlier post, I heard from some folks at Cook Medical, a medical device manufacturer located in Bloomington, Indiana, who wanted to talk more about the issue. Cook Medical makes and distributes thousands of products, including stents and catheters, for diagnostic and therapeutic purposes. I asked if they would talk on the record to give a fuller perspective on how the tax would affect their industry, and they agreed.

An industry leader’s perspective

In a phone conversation with Steve Ferguson, Cook’s chairman of the board, and John Eckberg, the company’s media relations director, I asked how this tax came to be—what policy discussions led to its being included as a funding mechanism for the president’s signature legislation? Ferguson’s answer offered a depressing, but not at all surprising, insight into how the health care reform bill developed.

“It wasn’t a policy discussion at all,” Ferguson said. “When you tried to have a policy discussion with [Congressional committee members and staff], their attitude was that ‘We just don’t care; we need the money’.”

Ferguson praised members from Indiana, like Sen. Evan Bayh and Rep. Baron Hill, both Democrats who have since left Congress, for leading opposition to the tax. They had some success, he said, cutting the tax in half from $40 billion to $20 billion over the next 10 years—but got no further.

The problem, Ferguson said, was that the Obama administration and Democrats in Congress insisted that the health care reform bill would create a “windfall” for device manufacturers—the reasoning being that, with millions of additional Americans being brought into the health care system, there would inevitably be greater demand for their products.

Ferguson dismissed that line of reasoning. Most of the newly covered beneficiaries under Obamacare, he said, would be younger people, who typically have less need for medical devices. He also noted that based upon results from Massachusetts—where former Republican Gov. Mitt Romney established a state health insurance program in 2006 similar to the federal effort—there would be no “windfall”: The demand for medical devices in Massachusetts, he said, tracks with overall national trends.

“I think that’s a fallacious argument,” Ferguson concluded.

Another common argument is that manufacturers can simply absorb the tax by passing the cost on to their customers—say, tacking on 2.3 percent to the cost of a stent or catheter. But Ferguson said that wasn’t likely, because device manufacturers are competing with other manufacturers from around the world who export and sell products in the U.S. To remain competitive, his company and other domestic manufacturers are limited in how much they can “pass on” increased costs.

He also noted that the device tax isn’t the only higher cost that Cook Medical faces—they’re also paying more for energy, utilities, employee health care, unemployment insurance and other items.

“If you add all of those together, are they gonna say I can pass everything on?” Ferguson said. “Someone who tells you that has never run a business.”

The regulatory burden

And of course, taxes are only one factor in industry decision-making. Ferguson explained how a lengthy, complex and slow approval process for new devices by federal regulators in the Food and Drug Administration slows his company’s ability to bring new products to market. Higher taxes and a burdensome regulatory regime can only serve to stifle innovation in the industry—with a direct effect on patient care.

At least on the domestic front. If companies can get approvals for new products in Europe or China, they’ll open new operations in those countries. The overall effect, Ferguson said, is that the U.S. government is appearing almost hostile toward the medical technology industry, based upon the regulatory and tax regimes.

Note also that the device tax is based on a company’s total revenues, not profits—so a smaller start-up that’s operating on narrower margins, or at a loss, could be crippled by the tax. Moreover, many other nations are approving new medical products for clinical use more quickly, which creates an additional incentive to move operations outside the United States.

“If you put all those things together and you wanted to drive an industry out of this country, you couldn’t have decided it any better,” he said. “You’ve got a lot of factors in there, but this was kind of the final blow for companies. You put all those factors together and everyone’s saying, let’s just move out of the country.”

Ferguson warned of a “mass exodus from the United States” on the part of device manufacturers. That might sound like standard corporate doom-mongering, until you note that Boston Scientific, one company Ferguson mentioned as an example, is laying off U.S. employees and investing in China, India and Brazil. (Aside from facilities in several U.S. states, Cook Medical boasts operations in Ireland, Denmark, Australia).

Meanwhile, other nations—Eckberg pointed to Ireland—are aggressively courting investment from U.S. companies.

Is repeal an option?

I wrote in my earlier post about an effort in the U.S. House of Representatives to repeal the medical device tax, which boasts 225 co-sponsors. The tax doesn’t take effect until January 2013, which means there is time to get it off the books. (And lest we forget, due to the shoddy design of Obamacare, several pieces of it have already been repealed or shut down as unworkable).

Ferguson said that while Cook and other companies are pushing hard for repeal, he’s concerned it won’t happen fast enough. Most device manufacturers, he said, are making long range plans that assume the 2.3 percent tax bite will remain in effect.

“In fact, it’s moving so rapidly, I’m afraid that it’s becoming rapidly too late,” Ferguson said. “Once people start planning and making provisions for it…it’s hard to turn it back.”

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