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Cigarette Taxation, Regulation, and Illicit Trade in the United States

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Abstract

Tobacco products are highly taxed and regulated in the United States to deter consumption and raise revenues. These restrictions, especially differences in taxation by jurisdiction, invite an illicit trade in tobacco products (ITTP), particularly in cigarettes (illicit retail trade in cigarettes or IRTC). This IRTC amounts to billions of dollars annually in lost tax revenues, reduces the efficacy of smoking reduction efforts, and imposes the other attendant costs of a black market. Stricter controls may invite further evasion, presenting challenges to enforcement.

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Notes

  1. 1.

    The tobacco tax pass-through to consumers is slightly more than dollar for dollar (Keeler et al. 1996; Sullivan and Dutkowsky 2012; Prieger and Kulick 2016).

  2. 2.

    ITTP is a standard term in the tobacco control literature. Since cigarettes are the most heavily consumed tobacco product in the United States and they account for an even larger share of illicit trade, this chapter focuses on cigarettes and IRTC, and references to other tobacco products will be explicit.

  3. 3.

    Tax avoidance involves legal methods of circumventing tobacco taxes, while tax evasion relates to illegal methods. Tax avoidance is mostly due to individual tobacco users and includes some cross-border, tourist, and duty-free shopping. For example, in New York state, up to 400 cigarettes can be legally brought into the state for personal consumption without use tax being required in lieu of the excise tax on cigarettes (refer to tobaccopolicycenter.org/tobacco-control/new-york-state-law/new-york-state-tax-laws-related-to-tobacco-products). Internet sales to avoid excise taxes are not legal anywhere in the United States. Tax evasion is the purchase of smuggled and illicitly manufactured tobacco products, in both small and large quantities, and is more likely to involve criminal offenders (International Agency for Research on Cancer 2008).

  4. 4.

    State and local sales taxes also apply to cigarettes (the United States has no federal sales or value-added tax).

  5. 5.

    For the federal excise rate, see ttb.gov/‌main_pages/‌schip-summary.shtml. For state rates, see taxadmin.org/‌assets/‌docs/‌Research/‌Rates/‌cigarette.pdf

  6. 6.

    This estimate is not necessarily at odds with the Euromonitor (2014) global ITTP estimate of less than $40 billion. Black-market cigarettes are priced much lower than licit products; if demand is highly inelastic and if illicit tobacco was (surprisingly) unavailable, most consumers would continue purchasing licit products at much higher (taxed) prices, generating a large amount of additional tax revenue.

  7. 7.

    This is not to say that illicit importation is unknown. A recent operation involved 53,740 cartons of fake Newport cigarettes smuggled into Miami, at a black-market wholesale price of about<Footnote ID=”Fn7”><Para ID=”Par022”>This is not to say that illicit importation is unknown. A recent operation involved 53,740 cartons of fake Newport cigarettes smuggled into Miami, at a black-market wholesale price of about$0.5 million and a street value of over $1 million (USDOJ <CitationRef aid:cstyle=”CitationRef” CitationID=”CR120”>2015</CitationRef>). An equal number of legitimate Newport cigarettes would sell for about $1.8 million in Florida.</Para></Footnote>.5 million and a street value of over $1 million (USDOJ 2015). An equal number of legitimate Newport cigarettes would sell for about $1.8 million in Florida.

  8. 8.

    Other estimates are even higher. The ATF (cited in VSCC 2012) estimates that a single truckload of cigarettes smuggled from Virginia to New York City would yield $4 million (based on a difference of $8.50 in the prices per pack between the states).

  9. 9.

    As of June 1, 2013 (New York State Department of Taxation and Finance 2013).

  10. 10.

    As of January 18, 2014 (New York City Council 2013; New York City Department of Finance 2015).

  11. 11.

    As of 2013, the city devoted only five sheriff’s deputies, two fraud investigators, and a lieutenant to tobacco control (Caruso 2013). In 2014, this complement was increased to an undersheriff, a lieutenant, eight deputies, four investigators, and an intelligence unit with two investigators, an analyst, and a financial auditor (New York City Sheriff’s Office 2014).

  12. 12.

    In New York, a convicted tobacco trafficker turned informant stated in 2007, “We do not fear law enforcement. They will pull us over, seize the load, and maybe we get arrested; but most likely we do not…. A small fish like me can make $50,000 a month working only a few hours each week” (US House 2008).

  13. 13.

    In studies of global tobacco markets, Joossens et al. (2010) argued that cigarette taxes have less impact than other factors (such as corruption and per capita income) on illicit trade, and Merriman et al. (2000) concluded that higher cigarette taxes create more tax revenue and lower consumption. Prieger and Kulick (2016) found that the data used by Joossens and collaborators in many publications, in fact, show that within-country increases in cigarette taxes in Europe are positively associated with ITTP.

  14. 14.

    Data on cigarette excise taxes are as of January 1, 2012, from the Tax Foundation (2013).

  15. 15.

    For example, in November 2009, 14 people connected to a contraband cigarette ring were arrested in Virginia. Members of the ring had asked undercover investigators to murder two of their competitors (Johnson 2010). See Green (2015a) for an account of actual violence.

  16. 16.

    Green (2015c) quotes an ATF officer in Richmond, Virginia, as claiming that “the violence is increasing. There’s always been a degree of it, to a much smaller degree.”

  17. 17.

    Canada’s high federal and provincial cigarette taxes prompt smuggling from the United States, particularly from reservations that straddle the border (RCMP 2008). Illicit cigarettes have an estimated 17 percent market share in Canada, compared to a 7.3 percent market share in the United States (Euromonitor 2015). Perhaps the largest cigarette smuggling operation in North America entailed the shipment of more than 2 million kg of tobacco from the United States into Canada, at a tax revenue loss, according to the Canadian authorities, of 530 million Canadian dollars (NCACT 2016).

  18. 18.

    Due to differences between the countries in consumer tastes, cigarettes currently sold legally in Mexico may find few buyers in the United States. However, if price differentials grow large enough, Mexican drug trafficking organizations may attempt to enter markets in the United States, since Mexico already has a thriving black market in cigarettes that is largely controlled by the drug cartels (Zinsmeister 2015).

  19. 19.

    Pub. L. 111–31, 123 Stat. 1776.

  20. 20.

    While legally the FDA cannot ban tobacco products but instead regulate ingredients, prohibiting the addition of menthol to cigarettes effectively removes the product from the licit market.

  21. 21.

    FD&C §387f (d)(1).

  22. 22.

    FSPTCA, op. cit., Sec. 3(10).

  23. 23.

    78 Fed. Reg. 44,485 (July 24, 2013) Sec. II.C.3.

  24. 24.

    This phenomenon is an example of social desirability bias in survey responses (Krumpal 2013).

  25. 25.

    This may be due to inattention or counterfeit tax stamps on the product.

  26. 26.

    Trade gap analysis compares total recorded exports and imports of cigarettes marked “for export only”; the difference between exports and imports is attributed to illicit diversion in transit.

  27. 27.

    Jenkins Act: 5 U.S.C. §375–378; CCTA: 18 U.S.C. 2341–2346; PACT (Prevent All Cigarette Trafficking) Act: 5 U.S.C. §376; FSP&TCA: 21 U.S.C. §301.

  28. 28.

    For instance, operations Smoking Dragon and Royal Charm, led by the FBI over several years, tracked counterfeit cigarettes and other illicit goods from Chinese to US ports.

  29. 29.

    See, for example, silive.com/news/index.ssf/2015/11/sheriffs_raid:staten_island_de.html, for recent raids.

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  1. Marron Institute of Urban Management, New York University, New York, NY, USA

    Jonathan Kulick

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    Ernesto U. Savona

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    Mark A.R. Kleiman

  3. Transcrime, Università Cattolica del Sacro Cuore, Milan, Italy

    Francesco Calderoni

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Kulick, J. (2017). Cigarette Taxation, Regulation, and Illicit Trade in the United States. In: Savona, E., Kleiman, M., Calderoni, F. (eds) Dual Markets. Springer, Cham. https://doi.org/10.1007/978-3-319-65361-7_16

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