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 # 647  

April 2013




Let's Take the Wind Out of ObamaCare's Medical Device Tax

by David Hogberg, Ph.D.

 

Introduction

Although ObamaCare was rammed through Congress on an almost entirely partisan basis, bipartisan opposition to various parts of the law has developed since it was signed into law over three years ago. One such part is the 2.3 percent medical device tax on gross sales that began on January 1, 2013. A recent amendment added to the U.S. Senate's budget proposal to repeal the tax drew the support of 33 Senate Democrats as well as all Republicans.1

Senator Lamar Alexander (R-TN) is floating a proposal to repeal the medical device tax and replace some of the lost revenue by eliminating the production tax credit for wind energy.2

This analysis finds that the Alexander proposal is a good trade-off. It repeals a tax on an industry that provides a great deal of value for the United States while eliminating a tax credit for an industry that provides relatively little return on investment. In so doing, the swap will also prevent the loss of jobs and investment that will occur because of the medical device tax.


Medical Device Industry Versus Wind Energy

In 2012, the medical device industry had an estimated $120.4 billion in sales. Had the tax been in effect last year, the industry would have ponied up over $2.7 billion to Uncle Sam. The Joint Committee on Taxation estimates that the medical device tax will bring in about $12.7 billion in revenue from 2013-2017.3 The production tax credit for wind will cost taxpayers $7.8 billion from 2013-2017.4 Eliminating the production tax credit will replace over 60 percent of the revenue lost from repeal of the medical device tax. Obviously, more revenue will need to be found if Congress plans on replacing the full medical device tax. That aside, there are other reasons why repealing both the production tax credit and the medical device taxes is a good idea.

For starters, taxpayers are not getting a good return for the money they spend subsidizing wind energy.

The wind turbine manufacturing industry employed about 92,000 workers in 2011.5 That's a decline from 2008, when the industry employed just under 105,000.6 What's remarkable about that is the 111th Congress and President Obama included $21 billion worth of subsidies for renewable energy in the 2009 stimulus package. Despite that government windfall, employment keeps falling. The American Wind Energy Association says that jobs in the wind industry fell to about 75,000 in 2012.7

The stimulus was only the most recent instance of the federal government subsidizing the wind industry. Since 1993, wind energy has received, courtesy of federal taxpayers, a production tax credit of 2.2 cents per kilowatt-hour of electricity produced. That may seem small, but on average the wholesale price of electricity is about five cents per kilowatt-hour, so the federal government is subsidizing roughly 40 percent of the cost of wind.8 Yet despite the cost of the tax credit during its two-decades existence, only 1.5 percent of energy production in 2011 came from wind.9 Ultimately, wind has proven to be an inefficient method of producing electricity despite considerable government subsidization.

By comparison, the medical device industry employed about 395,000 workers in 2011.10 The recession and anemic recovery has taken a toll on the industry, however. In 2008, it employed almost 423,000.11 Yet the medical device industry produces tremendous value for this nation. Consider just a few of the devices the industry produces, such as artificial knee and hip joints and pacemakers. Studies have found that patients with severe osteoarthritis who undergo total knee and hip replacement experience considerable reduction in pain and substantial improvement in movement.12 Patients with difficulties in the left ventricle area of their heart showed a 37 percent decline in hospitalization and 22 percent decline in mortality after having a pacemaker inserted, according to a Journal of the American Medical Association study.13 This is only a small sample of the benefits Americans receive from the medical device industry, an industry that does not take tax credits from the federal government.

It makes little sense for government to subsidize any industry, much less one that has continually proven inefficient, as the wind industry has. By contrast, the medical device industry has a proven track record of producing value for consumers and providing jobs. Adding a tax to on it will only slow the medical device industry's ability to create value and, as the Obama White House might put it, its ability to "save or create" jobs.

How Will the Medical Device Tax Harm the Industry?

Jobs:
There are at least three estimates of the impact the medical device tax will have on employment. The first was conduced by Diana Furchtgott-Roth and Harold Furchtgott-Roth for Advanced Medical Technology Association (AdvaMed), a leading lobbyist for the medical device industry. The Furchtgott-Roth study estimated that about 43,000 jobs would be lost due to the medical device tax.14 Another study, also commissioned by AdvaMed and conducted by Battelle Technology Partnership Practice, found the medical device tax would result in about 38,000 job losses.15 However, both studies have come under fire from critics who believe they exaggerate the effect that price increases in health care have on demand. A 2006 study found that a 10 percent increase in the price of health care reduces demand by about two percent.16 The Furchtgott-Roth paper, though, assumes a decline in demand of at least five percent, which may exaggerate the result of that study. The Battelle paper appears to suffer from this same flaw, although it does not list its assumptions, so it is difficult to tell. It assumes that the medical device industry would have to see a drop in sales of $3 billion due to the tax. However, that would imply a price increase of $15 billion spread out over the entire medical device industry, something that seems unlikely.

The American Action Forum (AAF) takes a difference approach. It first calculates how much revenue the medical device industry will lose due to the medical device tax. It then estimates how many jobs are lost for each $1 million loss in revenue, coming up with about 1.3 jobs lost in the medical device industry and 2.2 jobs lost in related-industries. AAF states that this will result in a cumulative job loss of 14,500 by 2022, although the number of job losses could go as high as 41,000.17

Survey data and news reports suggest the medical device tax is already having a negative effect on jobs:

  • A 2012 survey of the medical device industry found that about 16.6 percent of companies anticipated reducing the number of employees they have in order to deal with the medical device tax.18
  • The medical supply company Stryker announced layoffs of 1,170 late last year. The company blamed the layoffs heavily on the medical device tax.19
  • Smith & Nephew laid off nearly 100 employees in early February from its offices in Tennessee and Massachusetts, citing the medical device tax.20
  • Zimmer Holdings, a maker of orthopedic devices, plans to let go of 50 employees in part because of the medical device tax.21
  • Cook Medical decided to stop plans to build five new plants, in part because of the tax. Cook's Illinois plant employs 300 people. If the five plants that have been shelved created the same number of jobs, then there are 1,500 jobs that have not been created due to the medical device tax.22

Innovation and Investment:
The medical device industry is a competitive one, especially since many medical devices may be obsolete within a few years. To improve existing products and create new ones, the industry needs to attract top-level talent. To do that, it must receive capital to invest. Without that, innovation in the medical device industry will slow, and new devices that could improve the quality of life for thousands if not millions of Americans will not be produced.

The medical device industry is already suffering from a slowdown. According to Pricewaterhouse Coopers, the medical device industry is already seeing a decline in investment. Investment in the medical device industry "declined for the third consecutive quarter, falling 37 percent in dollars and 27 percent in deal volume with $434 million going into 65 companies, experiencing the lowest dollar level of investment since 2004."23

The medical device tax will reduce profits in the industry, making it even less attractive to investors. Economist Benjamin Zycher estimates that this will cause a decline in research and development investment of 10 percent annually, or more than $2 billion a year. From 2013-2020, the medical device industry will lose a cumulative $18 billion in investment because of the excise tax.24 That's $18 billion that won't be going into the development of new technologies that could improve Americans' health and maybe even save lives.

Sending Business Overseas:
The medical device tax will also send jobs and investment out of the U.S.

The liberal Center on Budget and Policy Priorities (CBPP) dismisses this concern, saying medical device manufacturers will not shift production overseas because the "tax applies equally to imported and domestically produced devices, and devices produced in the United States for export are tax-exempt."25 That is true, but it misses the point. Now that the tax is in effect, medical device companies are looking to reduce costs so they can offset the tax. The tax will drive more production overseas if costs associated with producing overseas are lower than in the U.S. Regulation is one cost that is lower overseas. A recent paper published in the Journal of Medical Devices found that about three-quarters of medical-device companies launch new products overseas because the regulatory climate is more predictable and takes less time.26 In Australia, about 90 percent of new devices clear the regulatory review in three to five months. In the European Union and Canada it is about 78 percent and 75 percent, respectively. By comparison, just over 50 percent of new medical devices clear the process in the United States in that amount of time.27

The corporate income tax is another cost that is lower overseas, as the U.S. now has the highest marginal corporate income tax rate in the developed world. Medical device makers can avoid the U.S. corporate income tax by selling products to the U.S. via their foreign subsidiaries. The earnings of foreign subsidiaries are not subject to the U.S. corporate income tax unless they are returned to the U.S. Since manufacturers can keep those earnings abroad indefinitely, they can defer U.S. corporate income taxes indefinitely. Medical device companies will now have an even greater incentive to do so now as a way of offsetting the cost of the medical device tax. Indeed, a Roth Capital Partners survey found that 85 percent of medical device firms were making plans to expand overseas. They cited the medical device tax as one of the reasons for their plans.28

Indeed, anecdotal evidence suggests medical device companies are already heading overseas in anticipation of the tax. Boston Scientific has built a $35 million research center in Ireland instead of North America.29

Harms Small Businesses:
According to AdvaMed, the vast majority of the over 7,000 medical device companies in the U.S. employ less than 100 employees. An analysis by Roth Capital Partners examined the effect of the medical device taxes based on a company's market capitalization. The smallest companies, those with a market capitalization of less than $2 billion, would see an average net income decline of 34 percent. For mid-sized companies (market capitalization between $2 billion and $10 billion), the average decline would be 12 percent. For large firms (market capitalization over $10 billion), the average decline was four percent.30


Can the Medical Device Industry Offset the Cost of the Tax with New Revenue Generated from New Business Thanks to ObamaCare?

Supporters of the medical device tax argue that it will be offset by the new business from ObamaCare. For example, CBPP claims "health reform may, on balance, benefit the medical device industry and boost its sales. By extending health coverage to 27 million more Americans, or by nearly 10 percent, the Affordable Care Act will increase the demand for medical devices and the revenue of device manufacturers."31

However, there are good reasons to doubt that. Evidence suggests that those most likely to use medical devices are also the ones most likely to be insured. As the below table shows, both per capita health care expenditures and the rate of insurance coverage increase as age increases. Indeed, the highest use of medical devices is probably found in people 65 and over, and their rate of insurance coverage (Medicare) is almost 100 percent.

Medical Expenditures and Insurance Coverage

Wells Fargo has produced the only study to find a boost in medical device revenue from ObamaCare. It examined the top ten procedures involving medical devices, and found a cumulative increase in the volume of those procedures of 3.6 percent from 2012-2022. The report predicted, "the incremental volume [would] effectively offset the 2.3 percent medical device tax."32 Yet the report assumes that gross revenues, not net revenues, from a boost in sales will offset the medical device tax. But gross revenues do not include the cost of producing the devices, which can exceed 50 percent of new sales.33 Thus, by comparing the lost revenue due to the medical device tax to gross revenue instead of net revenue, the Wells Fargo report may greatly overstate how much increased volume will offset the tax.

The one real world experience we have with an expansion of private insurance is "RomneyCare," passed in Massachusetts in 2006. Surveys conducted by Roth Capital Partners found no increase in revenue for medical device makers coming out of Massachusetts after the health insurance expansion. In some instances, medical device revenues from the Bay State actually declined.34


Conclusion

ObamaCare's medical device tax will cause layoffs and lower investment in the medical device industry here in the U.S. It further incentivizes medical device companies to send their production overseas where corporate income taxes and regulatory costs are lower. The tax should be repealed.

Those concerned about the revenue lost from repeal should support the elimination of the production tax credits for wind energy. It would replace over 60 percent of the revenue lost from repeal of the medical device tax. The wind energy industry has benefited from such tax credits for nearly two decades, and yet less than two percent of our electricity production comes from wind energy. Repealing wind-energy tax credits would end government support for an industry that provides relatively little value to the U.S. economy. Repealing the medical device tax would stop the government from harming an industry that provides considerable value.

David Hogberg, Ph.D., is a health care policy analyst for the National Center for Public Policy Research.


 

Footnotes:

1 U.S. Senate Roll Call Votes 113th Congress – 1st Session, Hatch Amendment No. 297, March 21, 2013, at http://www.senate.gov/legislative/LIS/roll_call_lists/roll_call_vote_cfm.cfm?congress=113&session=1&vote=00047 (April 10, 2013).

2 Paul C. Barton, "Sen. Lamar Alexander seeks repeal of federal tax on medical devices," The Tennessean, March 22, 2013, at http://www.tennessean.com/article/20130322/BUSINESS05/303220033/Sen-Lamar-Alexander-seeks-repeal-federal-tax-medical-devices (April 2, 2013).

3 Joint Committee on Taxation, "Description of H.R. 436, The ‘Protect Medical Innovation Act of 2011," JCX-45-12, May 29, 2012, p.4.

4 Joint Committee on Taxation, "Estimates of Federal Tax Expenditures For Fiscal Year 2012-2017," JSC-1-13, February 1, 2013, p.31.

5 Annual Survey of Manufactures, 2011. NAICS Code 33361, at http://factfinder2.census.gov/faces/tableservices/jsf/pages/productview.xhtml?pid=ASM_2011_31GS101&prodType=table (April 9, 2013).

6 Annual Survey of Manufactures, 2008. NAICS Code 33361, at http://factfinder2.census.gov/faces/tableservices/jsf/pages/productview.xhtml?pid=ASM_2008_31GS101&prodType=table (April 9, 2013).

7 Diane Cardwell, "Tax Credit in Doubt, Wind Power Industry Is Withering," The New York Times, September 20, 2012.

8 David Kreutzer, "Wind Subsidies vs. Oil Subsidies," The Foundry, The Heritage Foundation, February 28, 2102, at http://blog.heritage.org/2012/02/28/wind-subsidies-vs-oil-subsidies/ (April 5, 2013).

9 U.S. Department of Energy, "2011 Renewable Energy Data Book," p.7.

10 Annual Survey of Manufactures, 2011. NAICS Codes 3391 and 33912, at http://factfinder2.census.gov/faces/tableservices/jsf/pages/productview.xhtml?pid=ASM_2011_31GS101&prodType=table (April 9, 2013).

11 Annual Survey of Manufactures, 2008. NAICS Codes 3391 and 33912, at http://factfinder2.census.gov/faces/tableservices/jsf/pages/productview.xhtml?pid=ASM_2008_31GS101&prodType=table (April 9, 2013).

12 Health Quality Ontario, "Total Knee Replacement: An Evidences-Based Analysis," Ontario Health Technology Assessment Series, 2005, Vol. 5, No. 9; and J. Christiaan Keurentjes, Marta Fiocco, Cynthia So-Osman, Ron Onstenk, Ankie W. M. M. Koopman-Van Germert, Ruud G. Poll, Herman M Kroon, Thea P. M. Vliet Vlieland, and Rob G. Nelissen, "Patients with Sever Radiographic Osteoarthritis Have a Better Prognosis in Physical Functions after Hip and Knee Replacement: A Cohort Study," PLos One, April 3, 2013, Vol. 8. No. 4. http://www.ncbi.nlm.nih.gov/pubmed/23573200

13 Finlay A. McAlister, Justin Ezekowitz, Nicola Hooton, Ben Vandermeer, Carol Spooner, Donna M. Dryden, Richard L. Page, Mark A. Hlatky, and Brian H. Rowe, "Cardiac Resynchronization Therapy for Patients With Left Ventricular Systolic Dysfunction," Journal of the American Medical Association, June 13, 2007, Vol. 297, No. 2.

14 Diana Furchtgott-Roth and Harold Furchtgott-Roth, "Employment Effects of the New Excise Tax on the Medical Device Industry," September 2011, at http://www.chi.org/uploadedFiles/Industry_at_a_glance/090711EmploymentEffectofTaxonMedicalDeviceIndustryFINAL.pdf (April 5, 2013).

15 Simon Tripp, Martin Grueber, and Ryan Helwig, "The Economic Impact of the U.S. Advance Medical Technology Industry," Battelle Technology Partnership Practice, prepared for the Advanced Medical Technology Association, March 2012.

16 Su Liu and Deborah Chollet, "Price and Income Elasticity of the Demand for Health Insurance and Health Care Services: A Critical Review of the Literature," Final Report, Mathematica Policy Research, Inc., March 24, 2006.

17 Michael Ramlet, Robert Book, and Han Zhong, "The Economic Impact of the Medical Device Excise Tax," American Action Forum, June 4, 2012, at http://americanactionforum.org/sites/default/files/The_Economic_Impact_of_the_Medical_Device_Excise_Tax.pdf (April 18, 2013).

18 Emergo Group, "2012 Medical Device Industry Survey," January 2012, at http://www.emergogroup.com/files/2012-medical-device-industry-survey.pdf (April 5, 2013).

19 Perry Chiaramonte, "Medical giant Stryker cuts 1,170 jobs, citing ObamaCare," Fox News, November 16, 2012, at http://www.foxnews.com/politics/2012/11/16/medical-supply-giant-stryker-corp-makes-pre-emptive-strike-against-pending/ (April 5, 2013.)

20 "Global medical company lays off 100 in US, blames ObamaCare," Fox News, February 1, 2013, at http://www.foxnews.com/politics/2013/02/01/memphis-based-medical-company-lays-off-100-blames-obama-care/ (April 5, 2013).

21 Arezu Sarvestani, "Zimmer axes jobs to cut costs ahead of med-tech tax," Mass Device, March 6, 2012, at http://www.massdevice.com/news/zimmer-axes-jobs-cut-costs-ahead-med-tech-tax-personnel-moves (April 18, 2013).

22 J.K. Wall, "Cook Medical shelves Midwest expansion plans," IBJ News, July 27, 2012.

23 Pricewaterhouse Coopers, "Venture Capital Investments Decline in Dollars and Deal Volume in Q3 2012," October 19, 2012, at http://www.pwc.com/us/en/press-releases/2012/venture-capital-investments-q3-2012-press-release.jhtml (April 18, 2013).

24 Benjamin Zycher, "ObamaCare's Tax On Medical Devices: Cuts R&D by $2 Billion a Year," Health Policy Prescriptions, Pacific Research Institute, May 2012.

25 Paul N. Van de Water, "Excise Tax on Medical Devices Should Not Be Repealed," Center on Budget and Policy Priorities, March 11, 2013.

26 Jan B. Pietzsch, Marta G. Zanchi, and John H. Linehan, "Medical Device Innovators and the 510(k) Regulatory Pathway: Implications of a Survey-Based Assessment of Industry Experience," Journal of Medical Devices, Vol. 6, No. 2, May 24, 2012, at http://medicaldevices.asmedigitalcollection.asme.org/article.aspx?articleid=1451965 (April 24, 2013).

27 Jan B. Pietzsch and John H. Linehan, "The 510(k) Survey: Results and Lessons," Institute for Health Technology Studies, May 24, 2011, p.38.

28 Matt Dolan, "Innovation 101—Technology & Innovation in the Medical Device Industry," Roth Capital Partners, LLC, September 13, 2012, p.12.

29 Kern Hawkins, "ACA's 2013 medical device tax has already killed jobs, expansion plans," MedCity News, at http://medcitynews.com/2012/04/acas-2013-medical-device-tax-has-already-killed-jobs-expansion-plans/ (April 18, 2013).

30 Ibid., p.9.

31 Van de Water, March 11, 2013.

32 Larry Biegelsen, Lei Huang, Kevin Strange, and Craig W. Bijou, "Healthcare Coverage Expansion A Shot In The Arm For Medtech," Equity Research, Wells Fargo Securities, April 1, 2013, p.5.

33 "Medical Equipment and Supplies," 2009 Corporation Source Book of Statistics of Income, Returns of Active Corporations, Internal Revenue Service, at http://www.irs.gov/uac/SOI-Tax-Stats-Corporation-Source-Book:-Manufacturing-(sector-31)-1 (April 11, 2013).

34 Dolan, September 13, 2012.

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