Cigarette Tax Hikes Lead to Unintended Consequences

ORLANDO, Fla. -- In state capitols across the country, legislators continually raise the specter of cigarette tax increases to close budget gaps, fund public health initiatives and even create new programs.

While the reasoning seems sound, these cigarette tax hikes often lead down paths never counted on by those legislators. In fact, such increases can often result in less revenue -- either from consumers who quit smoking because the cost is prohibitive, or from consumers who turn elsewhere to buy their packs or cartons.

"High excise tax rates on cigarettes lead to unintended consequences," Michael LaFaive, director of the Morey Fiscal Policy Initiative at the Mackinac Center for Public Policy, explained at the 2013 American Wholesale Marketers Association (AWMA) Show in Orlando last week.

LaFaive first studied the consequences from higher cigarette taxes in 2008 when he noticed a rise in cigarette smuggling stories in Michigan after state officials hiked the levy from 25 cents to 75 cents. His study, which looked at the effect of the tax in 47 of the 48 contiguous states, was updated in 2010 and again this January.

Cigarette smuggling, he said, falls into two categories: casual and commercial. Casual smuggling occurs when consumers travel to areas where the tax is lower to buy cigarettes for themselves -- this also includes buying cigarettes online for personal consumption. Commercial smuggling, on the other hand, occurs when someone travels to areas where the tax is lower to buy large shipments of cigarettes for broad distribution. LaFaive noted that this mostly involves organized crime.

New York State ranks first among states with the highest incidence of cigarette smuggling. Approximately 60 percent of all cigarette consumption in New York in 2011 was contraband, he said. And it's no surprise given that New York has the highest state levy at $4.35 a pack.

Rounding out the top five high-incidence states are Arizona, New Mexico, Washington State and Rhode Island.

On the other side of the smuggling equation are those states that are the major exporters of cigarettes. Topping that list are Wyoming, West Virginia, Delaware, Virginia and New Hampshire, according to LaFaive.

Notably, he added, Massachusetts moved up 13 spots among the states with the highest percentage of contraband cigarettes from 2010 to 2013 after state officials raised the cigarette excise tax by $1 a pack. On the other hand, New Jersey dropped 12 spots because its neighboring states raised their taxes, making it less appealing to smuggle in cigarettes.

In addition to the increased smuggling, rise in thefts, hijacking of trucks carrying cigarettes, counterfeit tax stamps, counterfeit cigarettes, and violence against people and property are other very real consequences of cigarette tax hikes, LaFaive said, adding the criminals often use the proceeds from cigarette smuggling to fund terrorist activities.

"Despite the best intentions by people who want to increase revenue or promote public health programs, [tax increases] are probably not having the positive impact they think they are having -- and at the same time, they are creating costs and problems," he concluded. "Officials need to ask themselves if a tax hike is worth it."