by Ian Merwin, alliantgroup Associate
The Medical Device Excise Tax was one of the many new taxes that came in with the Affordable Care Act in 2010. It places a 2.3% tax on the sale of certain medical devices by the manufacturer or importer of the device. The tax has been the target of much discussion in Congress with many seeking its repeal. Still, the tax, which became effective in 2013, stubbornly survives because of political factors and the need to replace the revenue lost if it is repealed. alliantgroup has assisted many businesses in complying with the new complex rules.
As part of these efforts we are actively engaged in monitoring continued developments of the law in this area. Most recently, on May 16th, 2014, the IRS released a private letter ruling of interest. The facts of the ruling are key. In this case, Company 1 manufactured and produced a taxable medical device for Company 2. However, a license agreement existed between Company 1 and Company 2 that contained an irrevocable license transfer from Company 1 to Company 2 of all intellectual property rights related to the taxable medical device in the United States. Company 2 also maintained control over the quantity of the taxable medical device to be produced by Company 1 during the license period, and Company 1 was required to sell its entire non-exported production of the taxable medical device to Company 2.
The IRS held that the Company 1 was not a manufacturer, producer, or importer of a taxable medical device. The relevant excise tax regulations define a “manufacturer” in part as “any person who produces a taxable article from scrap, new or raw material, by processing, manipulating, or changing the form of an article or by combining or assembling two or more articles.” However, the regulations go on to state that “when a person manufactures or produces a taxable article for another person who furnishes the materials under an agreement whereby the person who furnished the materials retains title thereto and to the finished article, the person for whom the taxable article is manufactured or produced will be considered the manufacturer.” Further, Revenue Rulings 58-134 and 78-34 generally state “that where a company owns the patents under which a taxable article is fabricated by another company, exercises control as to the amounts to be so fabricated, and has exclusive rights to the output so that the fabricator is not free to sell elsewhere, the company owning the patents is the manufacturer for the purposes of the manufacturers excise tax.”
The Service concluded that under the regulations and rulings, Company 1 was not the manufacturer, producer, or importer of the taxable medical device for the purposes of §4191. This ruling is an excellent example of how one needs to carefully review all facts involved in a given case in making a determination of whether a company is required to pay the tax. Contracts and relationships must be reviewed. alliantgroup has found that businesses may be confused and may be paying where there is no liability.