The stories seem heartwarming. A big drug manufacturer donates enough product to help manage a dreaded disease for thousands of low-income patients. People who couldn’t ordinarily afford it get the medication they need, sometimes for years. The company’s image shines brightly. A win, right?
But who’s benefiting most here—patients or Big Pharma? What does that kind of support really cost companies? And what does it cost the U.S. Treasury?
Product donations are an effective way for businesses to help their communities by leveraging assets and expertise. Pharmaceutical companies are especially active in employing the strategy, and especially generous donors. The top three companies listed in the Chronicle of Philanthropy’s 2016 ranking of corporate contributors were Pfizer, Gilead Sciences and Merck. And the lion’s share of that support took the form of product donations.
Topping the list was Pfizer, whose product donations accounted for $3.1 billion of its total $3.2 billion in contributions that year. Gilead’s product donations represented $1.8 billion of a total $2.3 billion. And Merck wasn’t far behind: it made $1.7 billion of its total $1.8 billion in contributions as products. The grand total for all three was $6.6 billion.
Tax incentives may play a role in that trend. Generally, companies that donate from inventory are limited to deductions based on the cost–or basis–of goods. But there’s a more generous option for certain industries, like food and pharmaceuticals.
Before rules were refined in the 1970s and 1980s, there was a greater tax benefit to destroying property that had a “sell by” date–food and medicine that presumably still had some useful life–and writing it off as a loss. Since then, Internal Revenue Code (IRC) Section 170(e)(3) has incentivized companies like Pfizer, Gilead and Merck to donate their inventory. The practice also erases significant disposal costs.
To take advantage of the enhanced tax deductions, transactions must meet certain criteria. Donations must be made by a C corporation (that is, publicly traded). The product must be used solely for the care of the ill, needy or infants, and comply with FDA rules. The taxpayer must obtain a written statement of purpose from the donee. And the receiving organization must be qualified as a U.S. public charity or private operating foundation under section 501(c)(3).
Once past those tests, pharmaceutical companies are allowed to claim an enhanced deduction of the cost of the contributed property plus one-half of the drug’s fair market value (FMV), or twice the cost basis–whichever is less.
Suppose the cost basis of the product is $200 and the FMV is $500. The difference between the two is $300. Half of that is $150. The qualified deduction would then be $350 ($200 + $150), since it’s less than twice the cost basis ($400).
A second scenario assumes a cost basis of $200 and a fair market value of $1,000. The difference between the two is $800. Half of that is $400. The cost ($200) plus half the difference ($400) is $600. That amount exceeds the “twice the cost basis” limit, so the allowable deduction would be limited to twice that, or $400. These inventory deductions can help corporations increase cash flow and significantly reduce federal tax bills. Information on what that means in the aggregate isn’t readily available, but is surely substantial.
But taxes don’t tell the whole story.
Not all donated product faces expiration. Donating new products can also be an effective marketing tool. For example, Gilead Sciences recently donated enough Truvada to supply 20,000 patients annually for up to 11 years. The drug is currently the only game in town for the pre-exposure HIV treatment strategy known as PrEP (pre-exposure prophylaxis).
That’ll change, though, when a less expensive version of the drug hits the market in the next year or so. When that happens, Gilead plans to transition those patients to a new drug currently pending FDA approval called Descovy, a move that’ll create invaluable brand loyalty in 20,000 patients for a drug that’s expected to cost $20k a year.
Speaking of costs, critics and activists see Gilead’s donation as a missed opportunity to put the drugs in the hands of the people who need it, and significantly impact the spread of the disease. A month’s supply of Truvada costs around $6 to make, and sells for more than $1,600 in the U.S. Instead of helping a small slice of patients, a simple price cut could put the drug within reach of the three-quarters of a million people who are at risk for infection.
There is some balance to the benefit equation. By advantaging the practice of charitable product donations, much-needed medicine avoids destruction. But in terms of tax benefits, marketing and market control, the other side of the scale weighs heavily in Big Pharma’s favor.