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New Tax, Smoking Ban Haven't Hurt Cash Flow: State Expects $35 Million Extra in Tax Revenue; No Spike Detected in Black Market

Posted on: Tuesday, 9 May 2006, 12:03 CDT

By Brad Shannon, The Olympian, Olympia, Wash.

May 9--People who thought they knew what would happen when Washington's cigarette taxes went up were wrong.

Nearly a year after Washington raised its cigarette tax to more than $2 a pack and five months after a tough ban on indoor public smoking took effect, sales of legally taxed smokes appear to be up slightly -- failing to decline as industry officials had warned and some state officials expected.

Typically, consumers react to tax increases by resorting to the Internet's black market, crossing state lines or buying at Indian reservations, or by quitting smoking. With the third-highest cigarette tax in the country, the state always has assumed one in three cigarettes smoked was contraband.

But state Department of Revenue figures show the sales of legally taxed cigarettes are up slightly for the first three months this year. The number of legal, state-taxed packs of cigarettes sold was nearly 52.5 million packs, compared with almost 52.4 million in the first three months of 2005.

Figures for the past nine months since the tax increases also are up when compared with corresponding months in 2004-05. If the trend continues, the state would collect $438.2 million -- or $35 million more than expected -- for the first year of higher cigarette taxes.

The steady taxable sales have confounded experts with the Revenue Department, who say overall smoking typically declines by a percentage point or two, and a switch to Internet sales or other black markets often accompanies higher tax rates. So with an indoor smoking ban giving more people a reason to quit, everyone expected slower sales of legally taxed cigarettes.

"It's a 'we're still not sure what it means' kind of thing," Revenue spokesman Mike Gowrylow said.

There are a couple of theories that might explain why state-taxed sales are firm: One is that tougher enforcement against untaxed Internet sales is cutting into the black market. Another is that tribal tax compacts -- which the Squaxin Island, Nisqually and 17 other tribes have entered into -- require tribes to collect cigarette taxes at about the same rate as nonreservation sales.

"That's one of the working theories -- that a combination of cigarette compacting with the tribes and tougher enforcement of Internet sales are combining to offset any reduction we would otherwise see,"

Gowrylow said. "The tougher enforcement is just a working theory. But nobody knows."

Richard Wells, administrator of the Nisqually tribe near Yelm, said his reservation's sales have been level since the state tax increase, which led to his tribe raising its rate of taxation as is spelled out in its compact with the state. "We're making more money but we're selling about the same," Wells said.

Harbor Wholesale, a Tumwater-based grocery distributor that also affixes state tobacco-tax stamps onto packs of smokes, also is seeing a steady rate of taxable sales. Carton after carton of reopened cigarettes made their way down an assembly line one evening last week, as a crew of three fed in the cartons and an automated machine heated the tax stamps and pasted them onto each pack, pushing the cartons down the assembly line for gluing and resealing.

Scott Erickson, CEO and co-president of the company that is one of the few in the state to attach tax stamps, said they typically affix up to $300,000 of stamps each day they fire up the machine.

The Department of Health, which uses surveys to track smoking rates, has no evidence that smoking is reversing its steady decline, agency spokesman Tim Church said. Surveys each year show a steady decline in smoking rates from 22.4 percent of the adult population in 1999 to 19.2 percent in 2004, Church said.

"In that time we've gone from 20th in the country in smoking rates down to ninth," Church said. "So we're making good progress, and our progress has been ahead of national progress. But we're always looking at that because things can change.

"We're hopeful that the numbers are going to continue to go down in Washington. There's no reason to think that is not going to continue," Church added.

The state's next smoking survey is due out late this year, probably October.

Gov. Chris Gregoire said last week before leaving on a trade mission to New Zealand that she does not think Washington's cigarette tax increase was enough to have a big effect on smoking rates.

If the state's effort to identify and block the black market is the reason for greater-than-expected legal sales, state tobacco enforcement agents with the Washington State Liquor Control Board or tax agents at Revenue have not seen the proof yet.

In the weeks after Washington added 60 cents a pack to its tax rate last July, the agency's tobacco-enforcement agents saw more Washington vehicles swinging into parking lots of outlets in Oregon, where the per-pack tax is $1.18, and at Idaho's Coeur d'Alene and Stateline outlets, where the tax is 57 cents. This coincided with lower sales in Washington outlets near the borders, said Carter Mitchell and Bob Burdick, spokesmen for the liquor agency.

But because of other priorities, the agency has not looked recently at the trend.

In early 2005, when Washington lawmakers were considering an 80-cent-a-pack increase in the tobacco tax, a spokeswoman for Philip Morris visited the Capitol to warn that higher taxes could spur the black market. The spokeswoman, Jamie Drogin, also warned that terrorists had been implicated in some illicit cigarette trafficking elsewhere in the country -- sending an obvious message that the state could nurture enemies by raising the tax.

But lawmakers, backed by Democratic majorities in the Legislature and the fierce anti-tobacco position of Gregoire, brushed aside the warnings. They raised the tax to $2.021/2 per pack, among the highest rates in the country.

Last week, Philip Morris USA's spokesmen refused to back away from their earlier claims.

"We believe that excessive increases can provide an incentive for people to travel to neighboring states where excise taxes are lower," spokesman Bill Phelps said. He added that only in six of 32 states that raised cigarette taxes in 2003-04 did the states meet or exceed revenue projections.

As for Washington, he said, "I'm going to decline to comment. We feel it's too early to do so."

If Internet sales are down, it is the result of efforts of attorneys general nationwide to halt sales via credit card. That is the result of major credit card companies agreeing not to allow card use for cigarettes, forcing purchasers to use checks; other efforts with shippers have curtailed deliveries, Gowrylow said.

States also have tried to enforce the federal Jenks Act from 1949, which lets state revenue agencies get lists of customers from out-of-state sellers. Washington was the first state to sue over that, and other states followed, Gowrylow said. Washington revenue agents follow up on the lists.

"Essentially," he said, "the first time we see their name on a list, we send them a letter saying 'you owe tax. In the future, if we see your name on a list, we'll ding you with penalties.' "

Gowrylow said he cannot release names of people who have been sent warning letters. But customers at Olympia-area discount cigarette shops said price is affecting how they shop.

David Venegas, a 28-year-old musician, said he bought a machine and now rolls his own cigarettes, paying off his machine with his first batch.

"I spend $12.89, and I make at least half a carton," Venegas said last week, picking up a box of paper tubes and a plastic sack of shredded tobacco at Cigarettes, the discount store near Pacific Avenue and Fones Road.

By contrast, a carton of Marlboros was selling at a discount for $46.46, once sales tax was added.

Clerk Filicia Root said a rolling machine costs about $30, and she's seen more sales of "make-your-own" equipment and materials in her two months at the store.

Other stores reported sales are steady since the tax increase. At Picasso Brothers in Lacey, manager Nicole Blocker reported "little or no drop" in cigarette sales, balanced by a surge in cigar sales helped by a cut in the cigar tax rate last year.

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Copyright (c) 2006, The Olympian, Olympia, Wash.

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Source: The Olympian, Olympia, Wash.

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