Taxes Inducing Black Market Trade for Cigarettes

Reason Foundation has long argued that “sin” taxes on cigarettes are ineffective and regressive; however the latest data shows they are dangerous too. Tax increases at the state level are inducing sharp increases in black market trade for cigarettes, USA Today reports:

A recent wave of state tobacco tax increases, designed to pump revenue into cash-strapped local governments, is inspiring an increasingly dangerous cigarette smuggling industry where big profits lure violent criminal gangs and drug traffickers into the booming illegal market, according to law enforcement officials and court records.

Larrey Penninger, acting director of the tobacco diversion unit of the Bureau of Alcohol, Tobacco, Firearms and Explosives (ATF) tells USA Today:

Everyone out there (involved in trafficking operations) is tapping into tobacco…

  • Last year, ATF reported 357 open cases involving tobacco smuggling, compared with a handful a decade earlier.
  • During FY 2010, the Justice Department reported 71 new prosecutions referred by (ATF), a 39 percent increase from the year before, according to records compiled by the Transactional Records Access Clearinghouse at Syracuse University in New York.
  • Seizures of cash and property also have been rising, from $11 million in FY 2007 to $31.5 million in FY 2009.

ATF’s federal data is noteworthy, however state-level data published in Cigarette Taxes and Smuggling 2010 is even more revealing. Mackinac Center research shows that cigarette smuggling is becoming increasinly common:

The five smuggling destination states with the highest cigarette smuggling rates were Arizona (51.8 percent of the state’s total consumption); New York (47.5 percent); Rhode Island (40.5 percent); New Mexico (37.2 percent); and California (36.3 percent).

With smuggling rates on the rise, the logical question to ask is, “who are the smugglers?” Besides drug dealers, gangs and thrifty (albeit law breaking) individuals, Mackinac Center research finds that higher cigarette taxes induced operatives of the terrorist organization “Party of God”—commonly known as Hezbollah—into black market trade for cigarettes. Hezbollah operatives made hundreds of thousands of dollars purchasing vanloads of cigarettes in North Carolina and smuggling them into Michigan where the difference in price was 75 cents per pack higher. According to the Federal Bureau of Investigation (FBI), profits from black market trade for cigarettes were sent to Hezbollah in Lebanon in the form of cash and equipment ranging from night-vision goggles to laser range finders. This demonstrates how black market trade rewards individuals with dubious motivations who are willing to flagrantly break the law to make money.

Trends in federal and state smuggling data show that it’s time to revisit state taxes on cigarettes. Taxes are inducing black market trade for cigarettes, which creates a more dangerous environment for consumers, diminishes the ability of legitimate businesses to operate and undermines the rule of law. If nothing else, state policymakers should think twice before raising taxes on cigarettes (again) to solve their budget woes.

For more on cigarette sin taxes, see my colleague David Godow’s work here, here and here.