Cigarette Smuggling Costs States Billions in Tax Revenue
TaxA Tax is a mandatory payment that is collected by the local, state and national governments to cover costs for general government services, products and activities.
The tax policy is responsible for the avoidance of . Since the introduction of excise tax on cigarettes, illegal market operators have been smuggling them. The latest data shows that net smuggling in the US resulted in a loss in revenue of over $4.7 billion by 2022. Over this 16-year span, the total loss due to net cigarette theft exceeded $79.4 Billion, which is an average loss of $4.96 Billion per year. The greater the tax rate difference, the more money can be saved when driving across state borders to buy products in lower-tax jurisdictions. Tax evasion can occur “casually” when individuals cross-border shop for cigarettes in low-tax states nearby (tax avoidance), or “commercially” by a large-scale criminal organization that may counterfeit tax stamps, deal in counterfeit cigarettes, and/or deal in prohibited products, often operating out of China. Other policies, like flavor bans, also yield smuggling of the banned products, either from states without a ban or from illicit operators that merely see the ban as a grant of market share to the black market.
States with high cigarette tax rates have experienced the greatest losses from cigarette smuggling. New York is the biggest loser, with lost revenues totaling $21.1billion. California, with $12.7 billion in revenue losses, was the next-largest loser. This is a significant amount but only 60 percent of New York’s. Texas ($7.2 billion), Washington ($4.3 billion), and Michigan ($4.3 billion) round out the top three states that have suffered from net inbound smuggling. At least 15 states missed out on more that $1 billion in
excise taxes. An excise is a tax levied on a particular good or activity. Excise taxes can be levied on a variety of items, including cigarettes, alcohol, soda, gasoline and insurance premiums. They also apply to amusement activities and betting.
revenue.
Conversely, 15 states have experienced net outbound smuggling since 2007, as some businesses have been driven to consistently low-tax states (we don’t include Alaska and Hawaii in our analysis, and North Carolina is used as the basis for our smuggling estimates, so we only analyze 47 states). These states generated an extra $3.97 billion in excise revenue over this time period. New Hampshire generated the largest amount of revenue from net cigarette smuggling. It generated $955 million from cigarettes purchased in New Hampshire and consumed elsewhere. The next largest gains were experienced by Indiana ($787 million), Virginia ($511 million), and Delaware ($356 million).Cross-border shopping tends to be a zero-sum economic activity since domestically produced cigarettes are still being purchased legally. While it undermines some of the intended consumption discouragement of high excise taxes by lowering the effective tax rate and disrupts the funding meant to address any externalities from cigarette consumption by decoupling the state generating revenues from the state suffering the effects of consumption, all the gains from trade stay within the US, and the total tax burden on the market is lowered.Larger problems, both to public health and state revenues, are introduced by international smuggling and counterfeiting. In 2022, it was estimated that more than 369 millions packs of cigarettes had been smuggled from abroad into the US. Counterfeit cigarettes are more dangerous for consumers, as they often contain high levels of lead, other heavy metals, or even human feces and insect eggs. The risk is low, but the profit margins are high. This is largely because of the market share that prohibitions and high taxes have given the black market. Cigarette smuggling generates billions in annual profits, some of which gets funneled to criminal enterprises that also engage in much more dangerous activity, like money laundering and even global terrorism.
Cigarette consumption has been steadily decreasing for decades, which means that state tax revenues tend to decrease if kept at the same rate. Many states raise their tax rates periodically to compensate for the loss from lower consumption. This can lead to a temporary increase in revenue, but it also tends to push legal consumption further down, not necessarily all consumption. It ultimately leads to lower revenues over time, both because of the naturally dissuasive effect that higher taxes on consumption have, and because more business is driven to the black and gray market. States that have historically tried to chase revenues with large tax increases seem to be the ones that suffer most from cigarette smuggling.
While taxes and flavor bans have been minimally effective at encouraging smokers to quit their habit, one important innovation that has promoted smoking cessation has been the introduction of vaping and alternative tobacco products (ATPs). These products allow smokers to consume nicotine with less harm than traditional cigarettes. Many states have imposed taxes on ATPs as they have gained in market share. Smuggling is also used to avoid taxes and prohibitions. The vaping industry is a particularly striking example of how prohibitions are avoided. Most of the vaping done in the US is done with illegal products imported directly from China. Taxes on cigarettes and other products are too high, which opens the door to illicit market operators. The result is a predictable shift from legally sold products. Cigarette tax evasion costs states billions in lost excise taxes and requires them to spend more public money to enforce ineffective policies. Policymakers should consider the unintended consequences, both to public health and public coffers, of the excise taxes and regulatory regimes for cigarettes and other nicotine products.
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