Senate Finance Committee Examines Impact of CHIP Tobacco Tax Hikes

 Recently, the Senate Finance Committee convened to discuss an important but often controversial topic: tobacco taxes.

Committee chairman Senator Ron Wyden opened the hearing by accusing the tobacco industry of tax evasion, citing  more than $2 billion in tax revenue that supposedly should have been raised since the Child Health Insurance Program Reauthorization Act (CHIPRA) was passed in 2009.

You might recall these measures as going against President Obama’s promise not to raise taxes on anyone making less than $250,000 per year.

CHIPRA provides health insurance for roughly 8 million uninsured children, and it has intended to fund this health insurance by ramping up excise taxes on tobacco products.

While taxes normally just burden and slow markets, the post-CHIPRA taxes are uneven; some products such as cigarettes, light cigars, and “roll-your-own” (RYO) tobacco are taxed at dramatically higher rates than pipe tobacco and large cigars.

Much of the alleged tax evasion Senator Wyden referred to is found in companies changing how they sell tobacco to take advantage of different tax rates. For example, the sale of pipe tobacco was ten times higher very soon after CHIPRA’s passage, and companies began adding grams of tobacco to light cigars in order to make them qualify as heavy cigars.

One of the underlying questions of the hearing was whether these actions qualify as “tax evasion” or “tax avoidance” as Senator Hatch put it. Arbitrary changes in taxation may just incentivize private firms in an unintended manner?

This question became more and more relevant as Senator Wyden pressed John Manfreda, Administrator of the Alcohol and Tobacco Tax and Trade Bureau (TTB), to explain why the TTB hadn’t enforced some of these cases of mislabeling, to which Manfreda responded that it simply isn’t the TTB’s jurisdiction to govern how private companies make their products.

Senator Wyden mentioned several times that tobacco companies were supposedly burdening American taxpayers, which is an odd accusation considering Congress started this process in the first place with ill-advised levy hikes.

Like other so-called “sin taxes,” high taxes on tobacco products hurt low-income Americans the most. But high cigarette taxes have also created a booming black market for smuggling..

Scott Drenkard of the Tax Foundation spoke of the “effective prohibition” on cigarettes in the most tax-heavy states; a situation that leads to smuggling and counterfeiting tobacco products.

Currently 57% of cigarettes in New York City, where a pack of smokes costs $14,are smuggled from different states, and one smuggler was found to be using the proceeds to fund the terrorist group Hezbollah. In addition the international trade of untested, unregulated counterfeit cigarettes is growing, with black markets like China’s producing 400 billion possibly dangerous cigarettes each year. 

As the hearing neared its conclusion, and the mass of information surrounding this issue became clearer, proposals were offered up.

Senators Wyden and Hatch pressured the TTB to begin enforcing taxes on these firms alleged to be guilty of evasion, while Dr. David Gootnick of the Government Accountability Office suggested making all taxes of all tobacco products equal. A third answer to the problem seems obvious, yet it was only really mentioned by the Tax Foundation’s Scott Drenkard: Why not follow historical principle and ease government restrictions on tobacco products? Why not simply lower taxes across the board? Tax parity would be the first step so that all products are equal in the eyes of the law.

When the market is restricted, dangerous black markets develop, and unpredictable negative externalities emerge. With the health effects of tobacco products well-known to the general public and warning labels on every pack of cigarettes, American consumers should be allowed to make their own decisions and buy these products free of excessive and confused taxes.

Politicians dealing with these challenges would also do well to learn of the unintended consequences of constantly relying on an “easy target” like cigarette taxes.