Tax reform impact on health care and life sciences

Understanding life sciences and health care-specific impacts

Republicans in Washington promised tax reform in 2017 would deliver big changes and potentially lower tax bills to companies in the life sciences and health care industry. But each organization must chart its own path amid the complexity of this new regime. Deloitte’s industry and tax specialists can assist with identifying planning considerations.

Making sense of—and planning as a result of—US tax changes

For US corporations, a reduction in the tax rate from 35 percent to 21 percent is the headline. But it isn't the whole story.

For organizations in life sciences and health care, the impact of the 2017 tax changes may have just as much to do with new intellectual property rules, reduced tax credits for orphan drug research and debt service, or the repeal of the Affordable Care Act (ACA) individual mandate and its impact on enrollment and premiums.

Leaders in these organizations must understand the new US tax code provisions—and more importantly, their own starting positions—before they can strategically plan and take action.

High impact: Key elements of the new tax code for life sciences

Life sciences manufacturers may be impacted more from 2017's tax changes than other health care stakeholders. The reduction in the US corporate tax rate from 35 percent to 21 percent may make the US market more competitive as a location to develop and manufacture prescription drugs. There are other tax changes that affect global supply and value chains, as well as provisions with a direct impact on research and development.

  • Worldwide profits could be reinvested domestically: Subject to a one-time "Transition Tax" of 15.5 percent on historical accumulated earnings and profits available in cash and equivalents—and 8 percent on the rest—historic unrepatriated earnings held offshore can be invested domestically.
  • Some companies might relocate intellectual property (IP) to the United States: Many companies have chosen to maintain foreign IP rights offshore. Lowering the US tax rate to 13.125 percent on foreign income derived from intangibles could create a financial incentive to bring that IP to the United States.
  • Changes in research costs. Beginning in the 2022 tax year, certain costs of domestic research must be spread over five years (15 years for offshore research) instead of deducting it immediately.
  • Orphan drug credit. The new bill reduces the "net" tax credit for research on rare diseases, known as the Orphan Drug Credit, from 32.5 percent to 19.75 percent.
  • Disincentive to use excessive leverage. The tax deduction for business interest will be capped at effectively 30 percent of a company's adjusted taxable income.
  • Manufacturing incentive repealed. The 9 percent tax deduction for domestic manufacturing has been repealed.
  • US tax on global intangible low-taxed income (GILTI). The new law requires US companies to pay US tax on income earned offshore. Many life sciences companies could owe a significant amount of GILTI tax.
  • Base erosion and anti-abuse tax (BEAT). US and foreign-based multinationals that make payments to foreign affiliates may be subject to BEAT, a new minimum tax imposed on companies that make base eroding payments.

Focus on pay: Key elements of recent tax changes for providers

For-profit health care providers will receive the corporate tax reduction as in other sectors. But not-for-profit hospitals and providers will see impacts from recently enacted tax law changes as well.

  • A 21 percent excise tax on executive compensation will apply to the top five non-clinical employees who earn over $1 million. Entities may consider merging so that fewer of their high-earning employees are in the resulting "top five."
  • Unrelated business income is taxed at the reduced corporate rate. But unrelated income will be determined by activity, and losses from one may not offset income from another.
  • Certain fringe benefits may be treated as unrelated business income. These may include parking privileges, on-side athletic facilities, or other benefits that the employer does not treat as taxable to the employee.

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Lower rates, smaller pools? Key elements of recent tax law changes for health plans

The most substantive change for health plans is the effective elimination of the ACA's individual mandate penalty beginning in 2019 (the mandate was not repealed, but the penalty for non-compliance was reduced to $0). The Congressional Budget Office estimates that change will prompt about 4 million additional people to go without coverage in 2019, and as many as 13 million by 2027.1 Some health plans may reconsider their participation in public health insurance exchanges out of fear of the adverse selection impact of this change. Other impacts on plans include:

  • The overall lower corporate tax rate could offer health plans a counterweight. Many large health plans often pay close to the full 35 percent tax rate and are expected to benefit from the new 21 percent corporate tax rate.
  • The reduction could reduce premiums for consumers. This is because insurers must comply with the ACA's medical loss ratio rules, which mandate that at least 80 percent of individual and small-group premium revenue (85 percent for large-group plans) be spent on medical expenses.
  • The reduced threshold for the medical expense itemized deduction. For the next two years, the deduction for unreimbursed medical expenses would be available for costs exceeding 7.5 percent of income.

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From reform to reality: How far will your path take you?

The impact of the rewrite of the tax code reaches far beyond your organization's tax return filings. It's a call to revisit business models and priorities across your organization: global talent programs, mergers and acquisitions plans, IP oversight, use of repatriated funds, customer and third-party management strategies, supply chain and more. The planning you do now may influence your business strategy for years to come.

Deloitte professionals can help you understand and visualize the impact of tax reform law on your business. Using our advanced modeling tools, we provide robust scenario analysis and customized reporting for new and existing tax provisions including GILTI, FDII, BEAT, and interest expense limitations. We can help you make sense of the corporate tax and multi-state tax implications too. Finally, as new data will need to be identified, analyzed, and stored in order to compute and enhance a company’s tax position under the law, we can help you assess if your systems are tax-reform ready.

We combine our tax reform services with our deep life sciences and health care industry experience, policy insights, and knowledge of your business to help you make informed decisions and face the new tax reality with confidence.

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