The initial months of a startup can be a whirlwind for the founders – i.e., making final decisions regarding the team, picking the correct entity structure, agreeing upon the appropriate buy-sell terms, and leasing the right office space.  30 days can fly by in the blink of an eye.  Depending upon the terms regarding the stock owned by the founders, the failure to make an election under Section 83(b) of the Internal Revenue Code (an “83(b) election”) during such 30 day period can lead to disastrous tax consequences for the founders.

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Founders often purchase or are granted “restricted stock” in connection with forming their company, with the underlying restricted stock agreement providing that such stock is subject to forfeiture or repurchase by the company, with such stock becoming no longer subject to forfeiture or repurchase by the company over a period of years (often referred to as the “vesting” of restricted stock).  Such restrictions are intended to prevent a founder that leaves the company after a short period of time from retaining some or all of his or her equity in the company.

Stock that is subject to vesting over time will generally be taxed when such stock is no longer subject to a substantial risk of forfeiture.  Therefore, when the stock “vests,” the founder will be taxed on the difference, if any, between the fair market value of the stock as of the vesting date and the original purchase price for such stock.  Every startup hopes that its stock rapidly increases in value, and in such scenario, a founder could have significant tax implications when his or her stock becomes vested.

That is where the 83(b) election comes in.  If an 83(b) election is properly made, the founder will incur tax on all of the restricted stock in the calendar year when the stock is received.  This allows the founder to incur and pay the tax when the value of the stock is low (or at least lower than when such stock will vest).  The risk to the founder in making the election is that he or she ends up leaving the company (voluntarily or involuntarily) before the stock fully vests and loses all or a portion of his or her stock, but already paid the tax (if any) applicable to the receipt of all such stock.

In order to make a timely and effective 83(b) election, a founder must file the election with the IRS office with which the founder files his or her tax return prior to the date of receiving the stock or within 30 days thereafter. The election should be sent via certified mail, return receipt requested, and is effective upon mailing.  Mailing an election on the 31st day after receiving such stock or thereafter will not be effective. A copy of the election should be attached to founder’s federal income tax return, and the founder should also provide the company with a copy.  A sample election form may be found at the IRS website.

a6386dbaf478422497ceadc139761337     Leaders of Pennsylvania’s medical and life-sciences communities, Congressman Charlie Dent and other members of the 114th Congress will rally in Philadelphia on Tuesday, February 10, 2015 to repeal a 2.3% tax on the sale of medical devices.

As we recently reported, lawmakers in the House and Senate in January proposed legislation to repeal the tax, which was implemented to partially fund the Patient Protection and Affordable Care Act. Manufacturers of medical devices must pay a 2.3% excise tax on sales of medical products, including hardware used in joint replacements and cardiology products such as pacemakers. The tax could prove especially burdensome to startup and emerging medical device companies.

The rally will occur on Tuesday, February 10, 2015 from 9:45 AM – 11:30 AM. It will be held at The Innovation Center, 3401 Market Street, Philadelphia, Pennsylvania 19104.

 

 

 

On January 13, 2015, a bipartisan group of Senate lawmakers announced legislation to repeal a tax on medical devices, which was implemented to partially fund the Patient Protection and Affordable Care Act (PPACA). The repeal was authored by Finance Committee Chairman Orrin Hatch (R-Utah) and currently boasts 28 co-sponsors.

35522251_lSince January 2013, the PPACA has required manufacturers of medical devices to pay a 2.3% excise tax on the medical products they sell. Products subject to the tax include hardware used in joint replacements and cardiology products such as pacemakers.

The proposed Senate Bill (the Medical Device Access and Innovation Protection Act, S. 149), would eliminate the tax and refund all manufacturer payments since its inception. The proposed legislation comes shortly after the introduction of a similar House bill. The House bill has enough support to pass, according to the Advanced Medical Technology Association and has already won 261 co-sponsors, including many Democrats.

In announcing the repeal, Senator Hatch stressed the negative impact of the tax on innovation and job growth. He expressed concern over increasing the cost of life-saving medical devices—a cost that would ultimately be passed to patients. Senator Amy Klobuchar (D-Minn.), in advance of 2013’s nonbinding Senate resolution against the tax, argued the tax would put exporters of medical devices at a competitive disadvantage in the global economy.

President Obama’s veto threat has softened since the midterm elections. In a 2012 statement of administration policy, the President vowed to veto a repeal of the tax. He characterized the tax as a fair cost to the medical device industry for the benefits of the PPACA, which he predicted would add 30 million potential consumers of medical devices. Recently, however, the President has stated he will consider any ideas GOP leaders present to him, including repeal.

According to the Congressional Research Service (CRS), excise taxes, such as the medical device tax, are typically reserved for specific goals, such as discouraging undesirable activities (for example, taxes on tobacco products), or for raising funds associated closely with government spending (for example, gasoline taxes financing highway construction). CRS economist Jane G. Gravelle, the author of a November report on the medical device tax, stated:

“These [excise tax] justifications do not apply, other than weakly, to the medical device case.”

Rather, the main motivation for the tax is the revenue itself, which is difficult to justify from an economic standpoint and may hinder the prospects of startup and emerging medical device companies.