California's Gift to Its Neighbors: Expanded Cigarette Smuggling Opportunities

They even opened the door to tax-avoiding e-cigarettes!

Thank you, California!

For too many years, Arizona has led the pack—or at least taxed the hell out of it—with among the higher cigarette taxes in the West. "A cigarette tax higher than in neighboring states and cheaper prices on American Indian reservations have helped fuel a growing black market for cigarettes in Arizona," the Cronkite News Service reported in 2014.

It's true that few of us actually paid that $2.00 per pack tariff for a pack of smokes; with every single state bordering us stealing less from smokers and a long, handy border with Mexico, half of all of the cigarettes sold in the state are smuggled from elsewhere, according to research by the Mackinac Center for Public Policy and the Tax Foundation. Many Arizonans avoid getting mugged by enjoying life on the receiving end of smuggling routes. But we could be benefiting by running goods in the other direction.

And then Californians went to the polls on Election Day and hiked their cigarette taxes by $2.00 per pack. Business opportunities, here we come.

California will rake in "[a]dditional net state revenue of $1 billion to $1.4 billion in 2017-18, with potentially lower revenues in future years" according to the state Legislative Analyst's Office. Potentially lower revenue? The analysis acknowledges that "revenue losses would occur due to lower consumption of tobacco products due to the higher excise taxes" although the decline in smoking "appears to have stalled in recent years."

So legislative analysts acknowledge that a dramatic tax hike from 87 cents per pack to $2.87 is high enough to depress revenue over time.

Actually, that's kind of a feature to the hike's sponsors, who sold it as a social-engineering measure to "save lives" by "getting people to quit or never start this deadly and costly habit" (which they deliberately make more costly, of course). That's a goal that inherently works against any promises of billions of dollars in raised revenue.

But "revenue losses" might also result from Californian smokers purchasing cigarettes on the black market where higher taxes don't apply. After all, even at the old 87 cents per pack tax, a third of cigarettes consumed in the state have been smuggled in from elsewhere. There's no particular reason to assume that the black market in affordable smokes is going to shrink now that voters have self-righteously increased the cost of every pack by two bucks. And when that black market grows, it really should come as no surprise to state officials or California voters.

"If Proposition 56 passes, California may open itself up as a more desirable cigarette smuggling destination as neighboring Oregon, Nevada, and Arizona all impose cigarette tax rates nearly $1 lower than the proposed California rate," the Tax Foundation's Morgan Scarboro warned before the measure's passage.

"While California is no stranger to cigarette smuggling," noted Bloomberg BNA's Audryana Camacho after the election "the upcoming $2 increase may spur more activity as neighboring states have tax rates more than $1 lower than California's new tax."

It's really not that hard to figure out. At a tax of 87 cents per pack, one-third of California's cigarettes are smuggled. At $1.66 per pack, 46 percent of New Mexico's cigarettes are smuggled. At $2.00 per pack, half of Arizona's cigarettes are smuggled. At a whopping $4.35 tax per pack of cigarettes, 58 percent of New York's smokes come from the black market where sticky fingered politicians can be avoided.

It's almost like there's some sort of pattern here.

California officials aren't entirely in the dark on the issue. "[T]he measure would provide additional funding…to support increased enforcement efforts to reduce tax evasion, counterfeiting, smuggling, and the unlicensed sales of cigarettes and other tobacco products," according to the legislative analysis. But using tax money to enforce compliance with the tax to raise more tax money isn't a new idea—it's occurred to lawmakers and tax collectors elsewhere. New York actually has a dedicated multi-agency Cigarette Strike Force that regularly boasts of arrests and confiscations. And still, "smuggled, untaxed cigarettes are everywhere," as a Village Voice headline trumpeted, while cigarette tax collections dropped by about $400 million in the five years after the state raised taxes on smokes in 2010.

Good luck with those "increased enforcement efforts," California.

That's even before we get to the big growth industry in tobacco-related (by a very loose definition) products: e-cigarettes. Californians doubled down on the creation of business opportunities for neighboring states by extending the tax hike to all tobacco products, and also to e-cigarettes. E-cigarettes, it should be noted, deliver nicotine to users in a manner so much safer than smoking actual tobacco that the U.K.'s Royal College of Physicians says that "e-cigarettes are likely to be beneficial to UK public health" and that policy should "enable and encourage smokers to use the product instead of tobacco."

"[E]-cigarette use among California adults was about 4 percent in 2013, nearly doubling compared to the prior year," according to the Legislative Analyst's Office, while cigarette smoking has stalled at 12 percent after declining over the years. Instead of encouraging this development, California shuffled e-cigarettes into the category of "other tobacco products" and "would raise the tax on other tobacco products also by $2—from $1.37 (the current level of tax on these products) to an equivalent tax of $3.37 per pack of cigarettes."

So California's e-cigarette users will have every incentive in the world to join their traditional tobacco-consuming neighbors in flocking to tax-avoiding sources.

For those of us in neighboring, lower-tax jurisdictions, this is truly a gift. Thank you, again, California.