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Medical Device Tax and FSA Limitation Should Stand

The House Ways and Means Committee will consider legislation tomorrow to repeal the tax on medical devices and the limits on flexible spending accounts (FSAs) to buy over-the-counter (OTC) medicines — both enacted as part of health reform.  These provisions represent sound policy, however, and the lobbying campaigns against them are based on misinformation and exaggeration.

Excise Tax on Medical Devices

The 2.3 percent excise tax on medical devices is one of several new levies on industries that will gain business due to health reform.  The substantial expansion of health coverage will increase the number of elective medical procedures performed on millions of Americans who were previously uninsured and, in turn, the use of medical devices.

Opponents of the levy contend that it makes the nation less competitive by creating an incentive for manufacturers to move production overseas. But these claims are unfounded, as we’ve explained.  The excise tax applies equally to imported and domestically produced devices, and devices produced in the United States for export are tax exempt.

No sound analysis supports the argument that the tax would cause large job losses.  Bloomberg Government recently found that the most widely cited industry-financed study is “not credible.”

The excise tax also will not likely discourage innovation in the medical device industry.  To the contrary, health reform may well spur medical device innovation by promoting more cost-effective ways of delivering care, according to the consulting firm PricewaterhouseCoopers.

Limits on Flexible Spending Accounts

Another provision of health reform makes the definition of medical expenses for flexible spending accounts and other tax-advantaged accounts conform to the definition used for the itemized deduction for medical expenses.  As a result, the cost of over-the-counter medications and other OTC items — such as pain relievers, cold remedies, and sunscreen — may no longer be reimbursed from an account without a prescription or a letter of medical necessity from a physician.  This limitation, which took effect in 2011, makes sense both as tax policy and as health policy.

Only a minority of workers benefits from these tax-advantaged accounts.  Just one worker in seven has an FSA, and an even smaller fraction of workers is enrolled in other tax-favored accounts.  High-income people benefit disproportionately from tax-advantaged accounts because they are in higher tax brackets, tend to consume more health care, and can afford to deposit larger amounts in their accounts.

Purchases of over-the-counter medicines, such as aspirin and cough syrup, constitute routine personal expenses that do not generally deserve a tax subsidy.  Moreover, these expenses are minor for most people.  According to one survey, 9.8 million households used an FSA to purchase over-the-counter medicines in 2010, spending an average of just $136 — which conveyed a tax benefit of $14 to $48 depending on the household’s tax bracket.  Despite some anecdotes, few people will find it worthwhile to pay to visit a doctor to get a prescription for an OTC medicine.

All in all, these two tax provisions are a small price to pay for helping to extend health coverage to 33 million more Americans.

NOTE:  This post has been corrected to show FSA spending on OTC products in 2010 rather than 2011.  As the post states, FSAs could not be used to purchase OTC products starting in 2011.