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MANAGEMENT UPDATE.

A SIN TAX THAT INCENTIVIZES CRIME

It has long felt to us that so-called “sin taxes,” like those on cigarettes, liquor and gambling, are generally good things as they combine sources of revenues for cities and states while potentially providing a disincentive for people to engage in harmful activities. 


But nothing is as simple as it seems, a point that was made explicitly clear in a report by the Tax Foundation’s Adam Hoffer last month that explored the correlation between cigarette taxes and cigarette smuggling.


Some of the major findings of this research were that:


  • “Excessive tax rates on cigarettes induce substantial black and gray market movement of tobacco products into high-tax states from low-tax states or foreign sources.”

  •  “New York has the highest inbound smuggling activity, with an estimated 54.5 percent of cigarettes consumed in the state deriving from smuggled sources in 2021. New York is followed by California (44.0 percent), New Mexico (38.3 percent), Massachusetts (37.6 percent), and Washington (37.3 percent).”

  •  “The annual forgone revenue from untaxed cigarette packs in states that experience net inbound smuggling exceeded $5.2 billion in 2021.”



As the report stated, “Higher tax rates lead to more smuggling because people respond to incentives. As tax rates increase, consumers and suppliers search for ways around these costs . . . consumers tend to shop across borders where the tax rates are lower and dealers develop black and gray markets to sell illegally to consumers, paying little or no tax at all. Growing cigarette tax differentials have made cigarette smuggling both a national problem and a lucrative criminal enterprise.”


As the report points out this smuggling hasn’t gone unnoticed by states and localities which spend millions of dollars to clamp down, including heightening law enforcement activity on interstate roads and cracking down on tribal reservations that sell cigarettes tax free.


While the loss of tax dollars from states with high cigarette taxes may be a serious economic problem for them, the report highlights the dangers that emanate from counterfeit cigarettes that look and feel like legitimate American brands but are brought in illegally from overseas. This poses a dramatic health hazard. As the report states, “Researchers have found that counterfeit cigarettes can have as much as seven times the lead of authentic brands and close to three times as much thallium, a toxic heavy metal.


Last August, a bi-partisan group of five U.S. Senators expressed their concern about the threats that this illicit trafficking presents in a letter they sent to U.S. Secretary of State Antony Blinken.


As they wrote, “In 2015, the State Department cited activity by terrorist groups and criminal network who have used tobacco trafficking operations to finance other crimes including ‘money laundering, bulk cash smuggling, and the trafficking in humans, weapons, drugs, antiquities, diamonds and counterfeit goods.”


Scary stuff, and very difficult to control. We’re not suggesting that states and localities eliminate cigarette taxes in order to avert this alarming effect, but it’s critical that they be aware of these perverse impacts when considering their use.


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