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VAT and customs considerations of new drug types

Complex manufacturing processes and high-value drug product components can significantly increase customs and VAT risks.

More patient-tailored and sophisticated products in the form of biologics and large molecules produced by living materials from humans, animals, plants or microorganisms are increasingly prevalent in today’s market.¹

These types of drug products may include gene and cell therapy (GCT) products typically produced in low numbers due to their patient-tailored nature. Another increasing trend in the market is orphan drugs, which tend to have very high costs because of the limited pool of patients. Each of these drugs, have increasingly complex manufacturing processes and high-value drug product components involved, which can increase customs and VAT risks and opportunities.


VAT and customs considerations for new drug types (GCT and orphan drug products)

GCT drug products (for the ex-vivo approach described above) may fall under specific rules that provide for a VAT exemption for certain types of human-derived blood, blood plasma and human tissue (e.g., in the European Union). While in theory a VAT exemption appears beneficial, in practice, it can impact VAT recovery in the supply chain of the drug product components. This is particularly true when drug product components are shipped cross-border and do not contain the human patient material at this stage; whereas the final human-derived drug product is treated as VAT exempt, VAT may be due on the earlier purchase or movement. This VAT typically becomes a cost in the supply chain.

EY point of view: VAT exempt (without credit) is different than VAT zero-rated. VAT on costs used to produce a drug product, the sale of which is treated as VAT exempt, is not recoverable. This can represent a financial cost to the business.

In addition, some buyers, such as hospitals or insurance companies, may not be able to recover VAT. These buyers may ask the life sciences company to apply for a VAT exemption. Due to limited case law, this action can be difficult to navigate because it adds considerations above those normally associated with drug product supply chains. This may also increase the complexity of customs valuation and classification of the drug product and its components.

EY point of view: Buyers of GCT products, such as hospitals and insurance companies, may not be eligible to recover any VAT charged on these products, which could potentially increase costs. We have seen some buyers challenging or questioning VAT charged on certain GCT products.

Life science companies should also consider whether the VAT exemption on human-derived drug products applies, and if so, consider the VAT impact on pricing and sourcing of drug product components. This will help identify VAT leakage and potential changes needed to the contractual arrangements and supply chain setup to manage cost. In addition, the VAT-exempt treatment may increase the effort and cost of VAT compliance.

Moving goods cross-border requires assigning a customs classification code, and for new products the code can be difficult to determine. However, with the 2022 revisions to the Harmonized Tariff Schedule (HTS), new provisions were added specific to cell therapy and cell cultures, reducing the ambiguity of the correct classification. Code accuracy is important as it, in part, determines the customs duty cost.

EY point of view: The HTS revisions caught some companies by surprise. If you move cell therapies or cell cultures cross-border, the new provisions should be reviewed to confirm that internal records, systems and customs broker instructions accurately reflect the newly established codes.

Orphan drugs are another area of specialized drug products. Based on the small pool of potential patients, such products are typically expensive to produce, putting greater onus on managing VAT and customs costs. Several items impact the VAT and customs treatment of the supply chain, which are applicable to all drug products, but they are particularly important for orphan drugs, given the high costs of development and production. From a customs valuation perspective, often orphan drugs are not subject to a sale when moving cross-border. This creates an additional compliance burden to the importer to determine the appropriate method of customs valuation. Given the high value of many orphan drugs coupled with high duty and VAT rates imposed in certain jurisdictions, determining a defensible, compliant value to assign to the goods becomes increasingly important.

Impact of cost and pricing under VAT and customs

The high value of drug products or their components should be considered by life sciences companies when moved cross-border for further manufacturing, storage, packaging or clinical trials (i.e., transactions without a sale). Moving drugs cross-border without a sale can result in additional customs valuation considerations. The general method of customs valuation and transaction value — the transaction value method — becomes inapplicable.

Applying another method of customs valuation not only creates additional administrative burdens but also creates the challenge of determining a defensible, yet reasonable customs value. Customs values are required for customs declarations and serve as the basis for the applicable customs duty and import VAT. Because customs values are based on cost only and nominal values are not accepted, customs valuation for drugs can become complex. Without sufficient planning, additional costs may be incurred, including penalties and interest.

Conditional payments under VAT

For high-value drug products, buyers may insist on payment plans or conditions rather than full payment (e.g., splitting the payment over five years with payment for each year being conditional on a certain outcome or payment depends on successful treatment). This is specifically relevant for VAT when the drug product is administered in a single, up-front treatment. VAT may need to be paid when the drug product is administered on the full price agreed vs. when payment is collected. This can create a cash flow issue where VAT is to be paid up front on the full contractual price even though only a portion of the payment has been received. This also gives rise to the question of whether any VAT can be clawed back should payments in subsequent years not be made (e.g., where the conditions for successful treatment are not fulfilled). See example below.


EY point of view: It is important to consider when and how much VAT should be accounted for and how the legal agreement should be worded to support this. In certain jurisdictions, it may be possible to structure the contract as a conditional fee agreement. This could result in VAT being due when the success payment is collected, rather than up front.

Prepayments and VAT

In certain situations, up-front payments are made prior to the supply of a drug product. Vaccines during the COVID-19 pandemic serve as a recent example, but this scenario is relevant for new drug types in general.

Prepayments may trigger VAT when there is a sufficient link between the prepayment and the future supply. Establishing this link when the future supply chain is uncertain can be difficult (i.e., where the drug product movements and delivery locations are uncertain or multiple options are considered covering multiple jurisdictions with different VAT regimes and different VAT rules).

Such prepayments should also be reviewed from a customs valuation perspective, as the value declared on the customs declaration should not be reduced by the prepayment amount.

EY point of view: Understanding the potential prepayment ramifications can be helpful to determine the VAT treatment and customs reporting. The risk of getting it wrong can have a financial and cash flow impact on the life sciences business. Early tax input into the supply chain setup, legal and contractual and commercial negotiations can help to manage any detrimental VAT and customs risks.

Free-of-charge products

Free-of-charge products are commonly seen in the following circumstances:

  • Early or continued access program: Life sciences companies may provide the drugs free of charge to patients and doctors for a designated period of time after a clinical trial has ended, prior to market authorization.
  • Compassionate use: Some life sciences companies may provide, at their discretion, drugs free of charge on compassionate grounds.
  • Sibling programs: Life sciences companies provide drugs free of charge to siblings when their brother or sister is engaged in the clinical trials for a designated period of time.
  • Pricing discounts: Life sciences companies provide additional drugs free of charge in lieu of a cash discount.

Even though there is no consideration, VAT may still be due on either the provision or movement of the product. In some circumstances, there may be a VAT adjustment on the recovery of VAT on costs (clawback) related to the provision of the drugs.

Free-of-charge provisions are commonly overlooked by life sciences companies, and consistency varies in the VAT treatment across different VAT jurisdictions.

Because transactions that are free of charge are not considered sales for customs purposes, an alternative method of customs valuation must be utilized. Alternative methods can result in administrative burdens, such as additional analysis and documentation. Importers often mistakenly assume that arbitrary values can be assigned given the goods are free of charge, which is inconsistent with customs valuation rules.

EY point of view: Free-of-charge transactions are sometimes overlooked for customs implications; however, documentation to substantiate the customs valuation for free-of-charge transactions could be requested during an inquiry or customs audit.

Leading practices in customs and VAT for new drug types

Bringing new types of products to market can give rise to complications and challenges. Given the pressure on budgets, VAT and customs may have an impact and should be considered during the development and rollout of any new drug product. Below are some actions for life sciences companies to consider:

  • Involve tax early in the supply chain.
  • Consider the financial impact of potential VAT exemption for human-derived drugs.
  • Understand the commercial and legal negotiations to identify prepayment and conditional payment arrangements to address the VAT and customs implications.
  • Consider the VAT and customs impact of free-of-charge goods, including early or continued access programs, compassionate use, sibling programs and pricing discounts.

Establish controls to evaluate the appropriate customs valuation method and to determine defensible customs values in free-of-charge transactions. 

This article originally appeared in The Pharma Letter.


Bringing new types of products to market creates complications and challenges, with VAT and customs potentially having a significant impact. Life sciences companies should take this into consideration during new drug product development and rollout. 

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