While corporate tax reform is still a big “if,” the discussion came back into focus with the president's budget plan, which revisited previous tax-overhaul proposals.
But the idea also found bipartisan support two days earlier when Sen. Max Baucus (D-Mont.), chairman of the Senate Finance Committee, and Rep. Dave Camp, (R-Mich.), chairman of the House Ways and Means Committee, penned a joint op-ed in the Wall Street Journal headlined, “Tax reform is very much alive and doable.”
Support in the healthcare industry for a revamping of the tax code is likely to fall along a fault line that pits companies that perform substantial research and development and have sizable overseas operations against those that are strictly domestic services and retail businesses.
A Modern Healthcare analysis of the current effective tax rates in the healthcare industry for 2012 found investor-owned hospital chains, health insurers and retail and wholesale pharmacy companies paid the highest effective tax rates, often hovering close to the 35% federal statutory tax rate for large corporations.
Pharmaceutical, biotechnology and medical device companies, on the other hand, paid significantly lower rates—often below 25%—as they took advantage of tax breaks related to the depreciation of plants and equipment, research and development and domestic manufacturing. The key distinction between the two groups is that many drug and device makers are multinational conglomerates with a number of subsidiaries in other countries, many of which have lower tax rates than the U.S. “They're able to shift a lot of their profits overseas and into tax havens,” said Martin Sullivan, chief economist at Tax Analysts.
In his budget, the president called for six specific changes in the corporate tax code that suggest the direction he would like to see corporate tax reform go. Two would be most relevant to research-intensive healthcare companies.
The first would help them. A change to the research and experimentation tax credit would raise the base credit rate to 17% from 14% and provide an estimated $99 billion in research incentives over the next 10 years.
But the second targets international tax havens and cracks down on opportunities for companies to shift profits on intellectual property to countries with lower tax rates. This tactic is frequently deployed by the pharmaceutical industry.
The proposal also would eliminate deductions for moving production overseas and implement a new tax credit when production is brought back to the U.S. It estimates that the latter reforms would raise $157 billion over 10 years.
As it stands now, pharma companies can enter into cost-sharing agreements with their own overseas entities and then move assets—including valuable patents—into these subsidiaries. If the government limits the ability to shift profits out of the U.S., Sullivan said, “that would seriously hurt the pharmaceuticals, the biotechs and the medical device manufacturers.”
A spokeswoman from trade group Pharmaceutical Research and Manufacturers of America said the group does not have any comment on the specific proposals under Obama's corporate tax reform plan. A representative from the Advanced Medical Technology Association, which represents medical device manufacturers, was not available to comment at deadline. The group represents major leading medical device players such as Medtronic (17.6% effective tax rate for its fiscal year that ended last April), which have been on the front lines seeking repeal of the 2.3% medical device tax used to support healthcare reform.
When drug and device companies are excluded from the mix, healthcare companies are paying some of the highest effective tax rates among Fortune 500 companies—even higher than retailers, an industry that has been one of the most vocal proponents of tax reform.
“Healthcare companies as a whole don't seem to be benefiting as much” from current deductions and loopholes, said Matthew Gardner, executive director of the Institute of Taxation and Economic Policy, which conducted an analysis of tax rates among Fortune 500 companies.
Obama has proposed lowering the statutory income tax rate to 28% while House Republicans would prefer a deeper cut to 25%.
But in setting a lower rate, the real question is what companies will have to give up in order for tax reform to be done in a revenue-neutral manner, said Annette Nellen, a professor of tax and accounting at San Jose State University.