The Case Against A Tobacco Tax Increase

California lawmakers have proposed an increase in cigarette taxes by $1.50 a pack, estimated to raise $1.2 billion in annual revenues. Given the state’s massive fiscal deficit, such an increase may appear to be a sensible part of a longer-term budget solution.

Appearances can be deceiving. An increase in the tobacco tax should be resisted for two reasons, the first political and the second economic.

The political: American constitutional democracy is designed to protect unpopular political minorities from the whims and discrimination wrought by majorities, and smokers and tobacco companies are unpopular minorities to the hilt.

Notwithstanding the casual assertions of some, no evidence shows smokers impose disproportionate demands or costs upon the public sector.

Accordingly, the true rationale for imposing high tobacco taxes by the majority is because it can.

But as the Founding Fathers recognized, a because-it-can world is a dangerous place. Members of the majority today can find themselves in the minority tomorrow, yielding a potential for significant long-term conflict.

Also, a shift of disproportionate tax burdens onto a minority has the effect of hiding the true cost of public services from large numbers of voters, creating a distortion in voting decisions and long-term budget outcomes.

The economic: Increases in tobacco taxes almost never raise the revenues projected, because consumers find ways to buy the products while avoiding the taxes. That is the basic conclusion of a study by the Mackinac Center for Public Policy on the experience of California and other states after they increased tobacco taxes.

New Jersey saw revenues from its tobacco tax fall after it was increased to the second highest in the nation. When the tax on a pack of cigarettes reached $2.57, incentives became strong for New Jersey smokers to buy cigarettes over the Internet, on Indian reservations or from any number of states within a day’s drive, where taxes were as low as 7 cents per pack.

Similarly, the consumption of untaxed cigarettes in California soared as tobacco taxes rose over the years. In 1967, California tripled its tax to 10 cents per pack; legally taxed sales declined 7%, while cigarette sales on military bases rose sharply to the equivalent of 725 packs a year per service member, compared with 123 packs per person off military bases.

In 1999, the California Board of Equalization (BOE) noted that the tax increase mandated by Proposition 99 in 1988 significantly increased smuggling in the state. The BOE estimated that during fiscal 1990, 183 million to 377 million packs of cigarettes illegally entered California.

Smuggling increased again in 1999 after Proposition 10 and the national Tobacco Master Settlement Agreement raised cigarette prices by 45 cents a pack. In 2003, the BOE surveyed the cigarette inventories of 1,300 retailers and found untaxed cigarettes in more than 25% of them. By 2006, one of every three cigarettes consumed in California was untaxed.

The BOE estimates that $182 million in cigarette taxes is lost annually due to tax evasion, plus $94 million in taxes on other tobacco products. Sources of tax-exempt or low-tax cigarettes include military bases, Indian reservations, other U.S. states and foreign nations, particularly China and Mexico. With the exception of military bases, vendors in these locations process orders over the Internet and rarely pay taxes.

These revenue losses are not surprising because the potential for illegal profits from smuggled cigarettes is enormous. According to the Department of Alcohol, Tobacco, Firearms and Explosives, smugglers can net as much as $34,000 from a single carload of cigarettes, $170,000 from a vanload and $680,000 on a U-Haul transported from a low-tax state to a high-tax state.

Whatever the habit-forming effects of cigarettes, tobacco taxation truly is addictive. And it’s doubly dangerous, in that the growing problem of cigarette smuggling has been tied to a number of serious crimes.

Examples are truck hijackings, theft of state tax stamps, counterfeiting of tax stamps, counterfeiting of name-brand cigarettes, and violence against police officers and innocent citizens.

Convenience stores have become more attractive targets for armed robbers due in part to the value of stolen cigarettes.

With respect to increases in tobacco taxes, “Just say no” is the appropriate response.

Nothing contained in this blog is to be construed as necessarily reflecting the views of the Pacific Research Institute or as an attempt to thwart or aid the passage of any legislation.

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