E-drug: Drug donations
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For a long time I have been investigating what is causing donations of
drugs by US pharmaceutical companies that do not comply with the
Guidelines . This has led to in-depth discussions with the essential
drug experts, NGOs, Congressional staff, drug company executives,
and others. Simply put, the tax scheme in the US creates perverse
incentives for donors and the NGOs who receive and forward donated
drugs. I have proposed a way to correct them.
The findings and recommendations resulting from this work are
attached. Please take the time to read and comment. To his credit,
Cong. Dogget is concerned about this issue and may be in a position
to obtain reforms in the law that would tend to reduce harmful
donations. Please address your comments as well to him via Melissa
Mueller at melissa.mueller@mail.house.gov
We are also in contact with a member of the press who is interested
in the issue. Please be in touch if you have factual information that
might bear on the problem.
If we speak forcefully to the issue at this time, there is a possibility of
meaningful change.
Thanks for your interest.
Scott Hillstrom
President, Cry for the World Foundation
e-mail: scott.hillstrom@analyticorp.co.nz
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Charitable Donations of Drugs by Corporations
January 15, 2000
Tax-Driven Practices and Consequences
1. The Problem
1.1 The Internal Revenue Code in the U.S.1 entitles donors of
goods-in-kind to deduct from their taxable income:
* The cost of producing the donated drug; plus
* 50% of the difference between that cost and the wholesale price
of the drug; but
* Not more than twice the cost basis of the goods donated.
Donors receive tax deductions and are spared the cost of disposing of
drugs they can't sell.2 Therefore, U.S. pharmaceutical companies are
incented to donate drugs. Indeed, this is the intention of Congress in
allowing the deduction; but sometimes the incentives produce
perverse, unintended consequences leading to needless suffering and
even death in the developing world. For example:
* Seriously ill people may be treated with inappropriate or impotent
drugs that don't work, while they might otherwise have obtained
effective drugs that do;
* Drugs are unusable or misused because they are not labeled in a
language used in the locality to which they are sent;
* Developed world valuations are used when drugs are shipped into
countries resulting in high duties and shipping costs, draining
resources from some of the world's poorest communities;
* Some 'dumped' drugs are improperly disposed of and may find their
way to patients through black-market channels resulting in ineffective
treatment, illness and death;
* Precious resources in the developing world are consumed sorting
out and destroying drugs that are worthless or worse; and
* Multi-lateral agencies and national government are impaired in their
efforts to rationalize drug use in developing countries.3
1.2 The World Health Organization (the "WHO") has promulgated
Guidelines for Drug Donations (the "Guidelines") to deter
non-compliant donations. The Guidelines are generally supported by
multi-lateral agencies, national governments, and others who do not
have a direct or indirect economic stake in the U.S. tax benefits of
donations. Relief organizations, some pharmaceutical companies, and
others who would lose economic benefits generally oppose them.
Some who 'officially' support the Guidelines do not, in fact, comply
with them. While there is room for honest difference concerning the
content and application of the Guidelines in particular circumstances,
it is undisputed that the problems they are designed to ameliorate are
real and serious; even life threatening to some of the world's poorest
people.
1.3 Several U.S. based relief agencies are in the business of providing
their tax-exempt organization's services to forward drug donations for
corporations seeking to donate drugs. Typically, these charities
distribute the drugs to other relief agencies and governments in the
U.S. or in the developing world. Often, they refer to this as "placing a
gift", reflecting the fact a donor needs a tax-exempt organization
through whom to make the gift to qualify for the deduction. The
livelihood of these charities revolves around accepting whatever gifts
that donors have available to give and they aggressively compete to
obtain them. Rejecting donations that may be inappropriate, outdated,
or improperly labeled is often contrary to their economic interests.
Their revenue is usually linked, directly or indirectly, to the volume of
drug donations that they accept. Thus, like donors, recipient charities
have powerful incentives to accept whatever drugs the donor seeks to
"place". Following are some examples of practices followed by some
of these charitable agencies.
1.4 Examples of the practices that can be observed in this industry
include:
a. Reselling Drugs. A tax-exempt organization accepts a
tax-deductible gift and resells it to another relief agency or a health
care provider. Since reselling of donated drugs threatens the
deductibility of the gift, the money paid to the reselling agency may be
characterized as a "handling fee" or cost reimbursement. Where it is
based on the cost of handling, this is a fair characterization. But
where the amount varies based on the type or value of the donated
drugs (which are unrelated to the cost of handling), or where handling
fees collected do not reflect the true cost of handling, the money paid
is arguably a price received for the sale of the drug. And where the
'gift' by the reseller is conditioned on a quid-pro-quo from the
recipient, it is more likely a sale.
b. Inflated Revenue Reporting. Non-profit, tax-exempt organizations
strive to keep their operating expenses as small a percentage of their
revenues as possible. Drugs donated by a U.S. company to a U.S.
charity create an opportunity for the charity to mislead financial
donors. Charitable recipients tend to report in-kind drug donations
received as revenue based on the wholesale list price of the donated
drug. In fact, drugs are most often donated because they are not
commercially marketable are, therefore, not worth the wholesale list
price. Moreover, generic equivalents are often available at a small
fraction (e.g. 10%) of the list price of 'branded' drugs. By using the
much higher U.S. wholesale list price4, the charity appears to have
dramatically higher revenues making its operating costs, as a
percentage of revenue, appear to be much smaller than they would if
the true value of the donated drug were reported. This low percentage
is used as evidence to financial donors (who give money rather than
drugs) that the charity is a worthy object of their cash donations. Of
course, reporting the wholesale list price may also generate a larger
tax deduction for the donor company.
c. Double Counting Revenues. As described above, a tax-exempt
organization to whom a donor company makes a donation may include
the inflated wholesale list price of the gift in its revenue. Then, when
that organization passes this donation on to another similar
organization, that organization may also include the same donation as
its revenue. With two agencies (and maybe more) reporting the same
gift as revenue, it appears to the public that twice as much has been
donated to charity.
d. Diversion of Funds from Good Medicine to Bad. Sometimes an
agency pays more to obtain a donation from another agency than they
could have paid for the generic equivalent. They do this because the
'donation' can be recorded as inflated revenue while the purchase of a
generic must be reported as an expense. The generic equivalent that
they do not buy would be appropriate, fresh and properly labeled
while the 'donation' that they do buy often is not. The inferior drug is
deliberately accepted in lieu of the generic drug because the charity's
benefit from inflating its revenue rather than reporting expense is
deemed to be worth the difference.5
e. Acceptance of Inappropriate, Short-dated, and Poorly Labeled
Drugs. The U.S. drug market is focused on U.S. needs while the
developing world's needs are entirely different.6 Therefore, many
donations of drugs are not appropriate to the needs of the place to
which they are sent. Donations often consist of drugs that are being
donated because they will expire before they can be legally sold in the
U.S. with the result that they are expired by the time they reach a
patient in the developing world. They may, therefore, be ineffective or
worse, while their administration drains scarce resources. Even when
appropriate and fresh, they are almost always labeled exclusively in
English and are, therefore, not useable in some of the countries where
they are sent where English is not spoken.
f. Lack of Regulation. Pharmaceutical drugs need to be regulated in
the developing world for same reasons we regulate them for our own
health and safety-they can make people sick and interfere with
effective treatment and they can kill. Typically, donors and tax-exempt
organizations do not exercise control over the drugs they distribute,
but simply fulfill requests or purchase orders received from relief
agencies seeking drugs. In most cases, agencies maintain few records
indicating what ultimately becomes of the drugs they gift-on to
agencies in the field. Multi-lateral organizations and governments have
extensively documented the problems created by inappropriate,
outdated and poorly labeled drugs. Indeed, the Guidelines were
promulgated to stop them.
2. The Solution.
2.1 Present Law. Since the system is driven by tax benefits to donors,
the solution may lie in adjusting the rules to assure that the intent of
Congress is fulfilled when donor companies are allowed tax
deductions. IRC Sec. 170(e)(3)(A) already requires substantiation of
tax deductions claimed for drug donations (Exhibit A). Congress
intended that donors substantiate donations by showing that:
a. The donation was used for the donee organization's exempt
purpose; and
b. It was used solely for the care of the ill, the needy, or infants; and
c. It was not transferred by the donee in exchange for money. If this
intent were put into effect, the problems described above would
be substantially solved.
2.2 New Rules. Donors should be required, at a minimum, to
document that drug donations were:
a. Appropriate where, when, and as used;
b. Properly labeled so that the packaging could be read by health
providers in the location where they were used;
c. Within reasonable time from expiry so that they were safe and
effective; and
d. Generally in substantial compliance with WHO's Drug Donation
Guidelines.
2.3 Documentation. To minimize uncertainty and furnish a way that
donors can be assured that proper donations are rewarded with
deductions:
a. Documentation should be considered reasonable if it is supported
by the best good-faith estimates of compliance, and valuations
should be limited to reasonable market value rather than
manufacturers' wholesale list prices. Explanations of the rules (as
are customarily supplied in the case of many other tax rules) can
supply whatever guidelines and examples are necessary to
minimize uncertainty; and
b. A 'safe-harbor' should be created so that donors who comply with
it will not be at risk that their deduction might be subsequently
denied.
2.4 If such a rule is adopted as law, donor companies will require
support documentation from tax-exempt organizations to whom they
make contributions. The requirement to produce this will in turn force
the organizations to make sure that only proper donations are
accepted and that they are properly handled. This will supply the
critical, but presently absent, 'regulatory' effect necessary to the safe
distribution of pharmaceutical drugs.
EXHIBIT A
Internal Revenue Code
Sec. 170 IRC
(a) Allowance of deduction
(1) General rule
There shall be allowed as a deduction any charitable contribution (as
defined in subsection (c)) payment of which is made within the
taxable year. A charitable contribution shall be allowable as a
deduction only if verified under regulations prescribed by the Secretary
. . .
(c) Charitable contribution defined
For purposes of this section, the term ''charitable contribution'' means
a contribution or gift to or for the use of . . .
(2) A corporation, trust, or community chest, fund, or
foundation . . .
(B) organized and operated exclusively7 for religious, charitable,
scientific, literary, or educational purposes, . . .
(e) Certain contributions of ordinary income and capital gain property
. . .
(3) Special rule for certain contributions of inventory and
other
property
(A) Qualified contributions
For purposes of this paragraph, a qualified contribution shall mean a
charitable contribution of property described in paragraph (1) or (2) of
section 12218, by a corporation . . . to an organization which is
described in section 501(c)(3) and is exempt under section 501(a) . . .
but only if 9
(i) the use of the property by the donee is related to the purpose or
function constituting the basis for its exemption under section
501 and the property is to be used by the donee solely for the
care of the ill, the needy, or infants;
(ii) the property is not transferred by the donee in exchange for
money, other property, or services; [and]
(iii)the taxpayer receives from the donee a written statement
representing that its use and disposition of the property will be in
accordance with the provisions of clauses (i) and (ii); . . .
(8) Substantiation requirement for certain contributions
(A) General rule
No deduction shall be allowed under subsection (a) for any
contribution of $250 or more unless the taxpayer substantiates the
contribution by a contemporaneous written acknowledgment of the
contribution by the donee organization that meets the requirements of
subparagraph (B).
(B) Content of acknowledgement
An acknowledgement meets the requirements of this subparagraph if
it includes the following information:
(i) The amount of cash and a description (but not value) of any
property other than cash contributed.
(ii) Whether the donee organization provided any goods or services in
consideration, in whole or in part, for any property described in
clause (i).
(iii)A description and good faith estimate of the value10 of any goods
or services referred to in clause (ii)
. . .
1 IRC Sec. 170
2 Health regulations require expensive procedures for the disposal of
bio-hazards including many drugs.
3 Guidelines for Drug Donations, Revised 1999, World Health
Organization
4 A generic equivalent might be available for 10% of the branded list
price, in which case, the branded price would overstate the true value
of the gift by 1000%
5 A World Vision official has reported purchasing donated medicine
from MAP International at a higher price than more appropriate,
fresher, better labeled drugs could be bought generically in Europe.
6 Leading causes of death in the developing world include Malaria,
dysentery, respiratory infections, etc.
7 Where the primary purpose is to 'dump' inappropriate, outdated, or
badly labeled products to save the donor the cost of disposal the
donation is not made "exclusively" for charitable purposes.
8 stock in trade of the taxpayer or other property of a kind which
would properly be included in the inventory of the taxpayer if on hand
at the close of the taxable year, or property held by the taxpayer
primarily for sale to customers in the ordinary course of his trade or
business;
9 Donor companies must produce documents that show the following:
a. the donation was used for the donee organization's exempt
purpose; and
b. it was used solely for the care of the ill, the needy, or infants; and
c. it was not transferred by the donee in exchange for money [e.g.
handling fees]; and
d. the foregoing are substantiated in writing.
10 Current practices uses manufacturers' wholesale list prices what
are patently NOT a good faith estimate since most donations are made
for the very reason that the drugs donated cannot be sold.
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