States Illogically Looking to Cigarette Taxes as Deficit Panacea

by Capitol Confidential

Across the country, states big and small are facing significant budget gaps.  In California, the worst case by far, candidates for state office are debating how to close a $19 billion budget deficit.  In Florida, meanwhile, another multi-billion dollar budget hole is on the cards, and looks set to grow with oil drilling off the Florida coast now off the table.  Still other states are facing similar situations, if on a less disastrous scale.  While many serving in statehouses nationwide will advocate for spending cuts, as opposed to tax increases, in some states, tax hikes are already being put on the table, with so-called “sin taxes” demonstrating renewed appeal.

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Washington State recently increased taxes on beer and cigarettes in an effort to stop its own fiscal bleeding (though left-leaning figures in the state have also been arguing for a state income tax).

In Illinois, a proposal to increase cigarette taxes that went nowhere last year has now been resuscitated.

In Florida, where ongoing budget woes are anticipated, concern exists that legislators could jack up cigarette taxes again.  Last year, the State Senate—including its Republican members, led by Senate President Jeff Atwater and budget committee chief J.D. Alexander—unanimously voted to increase cigarette taxes by $1 a pack.  The House ultimately played ball, too, and Gov. Charlie Crist gave a thumbs up to the tax hike, which was expected to bring in anything from $700 million to $1 billion.

In New York, where cigarettes are already extensively taxed and can sell for as much as $9 per pack, further increases could be on the agenda, too.

At the end of the day, taxing those with a hard-to-break habit looks like easy pickings to those on the search for easy money.  But, critics say, revenue from cigarette tax increases is more akin to Fool’s Gold than anything else, and those attempting to close state budget deficits should be wary of relying on them.

According to experts at the Reason Foundation, as of 2009, out of the 57 cigarette tax increases instituted by states since 2003, only 20 had delivered the projected amount of revenue (so, cigarette tax hikes for the relevant period had a stunning 68 percent failure rate).  In what taxpayer rights groups say may be the most egregious instance of failure, New Jersey boosted its cigarette tax in 2006, hoping the hike would bring in an extra $30 million.  In actual fact, the Garden State saw tax revenue derived from cigarette taxes plummet by over $20 million leaving the state without $50 million it had banked on.

Those studying the matter say there are various reasons why cigarette tax increases represent a risky gamble for cash-strapped state governments looking for a quick revenue hit.  One is that when smokers see their costs go up, many of them quit.  In the wake of Florida’s $1 per pack hike last year, Florida media was saturated with reports of smokers flooding stop-smoking helplines in an effort to avoid shelling out more on taxes.  Another is that when a state surrounded by low (or lower) tax jurisdictions raises its taxes, smuggled cigarettes on which the higher taxes are not levied become a heavily-purchased item.

Some opponents of cigarette tax increases say it is ironic that discussion continues in Illinois about a possible further cigarette tax increase, given reports that Chicago, where $4.67 in taxes were being levied per pack of cigarettes last year, has already experienced a loss of revenue apparently as a result of smokers in the city traveling to Indiana, where cigarette taxes are lower, to stock up.

Indeed, it was recently reported that Chicago could be losing $10 million a year as a result of its high taxes versus Indiana’s low taxes—and related smuggling.  Professor David Merriman, chairman of the Economics Department at the University of Illinois, in a not-so-routine research exercise, undertook a study of discarded cigarette packs from 100 Chicago neighborhoods. 75 percent of the discarded cigarette packs he examined in fact bore no Chicago cigarette tax stamp; furthermore, most of the untaxed, discarded cigarette packs were found close to the Indiana border, or counties that levied lower taxes than Chicago.  Professor Merriman has reportedly since concluded that were a proposed $1 per pack tax hike pushed through in Illinois, it would lead to even more smuggling.  This is a conclusion shared by Michael LaFaive, the executive director of the Mackinac Center for Public Policy, who said on the topic last year that “the proximity of Chicago to other cities could lead to an increase in smuggling in Chicago if taxes are raised.”

Other opponents of cigarette tax hikes espouse different reasons for their position, of course.  For example, in Florida, one of the groups leading the charge last year against the $1 per pack hike was a collection of gas station owners.  According to Jim Smith, president and CEO of the Florida Petroleum Marketers & Convenience Store Association, “If you’re a customer and you’re not going in for cigarettes, you’re not going to go in at all. And a lot of sales at convenience stores are impulse buys. That cuts into the bottom line.”  Smith also commented that “Any time you reduce [cigarette] sales by big percentages, you eliminate a significant portion of profit that retailers use for things like payroll and rent,” something that retailers think represents an important consideration, given persistent high unemployment across the country.

Smokers, meanwhile, object to cigarette tax increases as backdoor nanny-state initiatives, and say they feel targeted, and unfairly so, given that smokers are disproportionately poorer.  After last year’s SCHIP cigarette tax hike went through, CNN reported that Larry Jukes, a 65 year-old Coloradan, complained that ”They’re picking on us poor people, the ones that smoke… They have been for years.”  Americans for Tax Reform, a staunch opponent of cigarette tax increases on principle, published data last year demonstrating that 55 percent of smokers qualify as “working poor,” and that 25 percent of smokers lives below the poverty line.

Whether the trend that Mr. Jukes identified will continue remains to be seen; smokers, convenience store owners’ groups and fiscal responsibility advocates can however be expected to argue hard against further increases in the coming months.


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Posted Jun 7th 2010 at 11:52 am in Economics, State Politics, taxes | 149 Comments