Indirect Tax Laws for Pharmaceutical Drugs are Complex
In order to promote good health via public policy, many states apply a variety of sales tax exemptions to sales of prescription drugs. However, some states limit this exemption by excluding over-the-counter (OTC) prescription drugs or by applying strict regulations as to what is a drug and what is not a drug. Many states have differing rules on what qualifies as an exempt drug, which results in difficulty in identifying which transactions are subject to taxation.
As a result, achieving sales and use tax compliance in the area of prescription drug sales can be challenging, especially when balancing all the minor details each taxing jurisdiction employs. Taxware has a depth of knowledge when it comes to these rules and regulations, allowing us to develop content that captures the nuances in each jurisdiction’s laws. Taxware developed its tax determination engines to account for the intricacies in the taxability of prescription drugs. Below is a discussion of some of the numerous differences in how various states apply sales and use tax transactions related to prescription drugs.
What is a Drug?
The key to understanding how prescription drugs are taxed is to understand how drugs are classified. A number of states apply a standardized definition of a drug, such as: a “drug” is a compound that is intended for use in the diagnosis, cure, mitigation, treatment or prevention of disease.
Most states use some form of this language to codify their definition of the term “drug.”However, some states apply different terms and definitions. For example, Maine is even more explicit with its definition of “medicines,” listing out specific compounds such as antibiotics, anesthetics, hormones, etc. Other states use language stating that medicines include items that are sold in packaging that contains an FDA OTC drug fact label.
New York, on the other hand, applies the standardized definition of a drug mentioned above, but also includes in their definition substances which are taken for the preservation of health, which includes items like cold and cough remedies, birth control pills and laxatives.
The state of Washington provides an exemption for naturopath medicines when administered by a licensed naturopath. Naturopath medicines are defined in Washington as substances such as vitamins, minerals, botanicals and hormones.
Prescriptions
The second half of understanding the taxability of prescription drugs is the issuance of a prescription. Most states require that a prescription be issued by a licensed physician. Of course, each state is different, with some requiring a doctor’s prescription while others expand this requirement with the term health professional.
Most states have specific language in their laws limiting the exempt taxability of prescription drugs only to those for human use. However, there are a few jurisdictions which also exempt the sale of drugs for animal use. Taxware has developed content to capture these distinctions and to help you apply the correct tax in each relevant jurisdiction.
Over-the-Counter (OTC) Drugs
As discussed above, some states consider OTC drugs as medicine. A number of states also provide blanket exemptions for any drug sold pursuant to a prescription, including OTC drugs. For example, Kentucky exempts both drugs which require a prescription and OTC drugs for which a prescription was issued. Likewise, Michigan exempts the sale of OTC drugs from sales tax, sold pursuant to a prescription, but still applies use tax to these types of transactions. Some states merely exempt all types of medicines regardless of whether or not they are a prescription.
States that exempt all types of medicines regardless of whether or not they are a prescription:
- Florida
- Maryland
- Minnesota
- New Jersey
- New York
- Pennsylvania
- Texas
- Vermont
- Virginia
To make things even more confusing, the state of Illinois applies a “low-rate” of tax, 1%, to any “pill, powder, potion, salve or other preparation for human use that purports on the label to have medicinal qualities.” This includes OTC drugs that state they heal, cure, relieve pain, fight infection, soothe pain, etc. as outlined under the Illinois Administrative Code. Taxware has created system content that captures each state’s particular rules and definitions. Within our tax determination systems, we have created content that automates tax calculations encompassing everything from very specific types of drugs to more general drugs for human (and even animal) use.
Rules for Purchases by Health Care Facilities & Professionals
In several jurisdictions, while the sale of drugs may be patently non-taxable, the exemption may only apply to purchases by consumers. Some states tax the sale of drugs when the purchaser is a physician or a healthcare facility. Contradictorily, some states will exempt normally taxable medicines when sold to a healthcare provider or facility. Other states will exempt sales of drugs by hospitals or health care providers.
Taxware’s systems are able to capture these differences by making use of content which can help you to identify the taxability for certain buyers, sellers, and users. Many states apply a variety of sales tax exemptions to the sale of prescription drugs. They also have different definitions of a drug and varying rules on what qualifies as an exempt drug. This variation causes difficulty in identifying which transactions are subject to taxation. With this increased complexity, achieving sales and use tax compliance in can be challenging. To increase accuracy and ease the compliance burden, Taxware has developed content that captures the nuances in each jurisdiction’s laws and has created tax determination engines to account for the intricacies in the taxability of prescription drugs.
