Taxes on Smokeless Tobacco Unfair, Ineffective

Taxes on Smokeless Tobacco Unfair, Ineffective
January 1, 2007

In recent years, controversy in many state legislatures has erupted over the right way to tax smokeless tobacco.

Even though the federal government taxes smokeless tobacco at a per-unit rate based on weight, most states tax it based on the sale price, as can be seen in the accompanying table of tax rates on smokeless tobacco across the country.

As the table shows, the lowest tax burdens on smokeless tobacco are found in the tobacco-producing South, which also imposes the lowest tax rates on cigarettes.

Smokeless Tobacco Tax Policy Is Highly Inconsistent
Across States

State

Tax Rate on Moist Snuff Tobacco (MST)

Type of Tax

Alabama

2 cents per typical can1

Per Unit

Alaska

75% of wholesale price

Ad Valorem

Arizona

13.3 cents per ounce

Per Unit

Arkansas

32% of manufacturer’s price

Ad Valorem

California

46.76 percent of wholesale price2

Ad Valorem

Colorado

40% of manufacturer’s price

Ad Valorem

Connecticut

40 cents per ounce3

Per Unit

Delaware

15% of wholesale price

Ad Valorem

Florida

25% of wholesale price

Ad Valorem

Georgia

10% of wholesale price

Ad Valorem

Hawaii

40% of wholesale price

Ad Valorem

Idaho

40% of wholesale price

Ad Valorem

Illinois

18% of wholesale price

Ad Valorem

Indiana

18% of wholesale price

Ad Valorem

Iowa

22% of wholesale price

Ad Valorem

Kansas

10% of wholesale price

Ad Valorem

Kentucky

9.5 cents per unit4

Per Unit

Louisiana

20% of manufacturer’s price

Ad Valorem

Maine

78% of wholesale price

Ad Valorem

Maryland

15% of wholesale price

Ad Valorem

Massachusetts

90% of wholesale price

Ad Valorem

Michigan

32% of wholesale price

Ad Valorem

Minnesota

70% of wholesale price

Ad Valorem

Mississippi

15% of manufacturer’s price

Ad Valorem

Missouri

10% of manufacturer’s price

Ad Valorem

Montana

85 cents per ounce

Per Unit

Nebraska

20% of wholesale price

Ad Valorem

Nevada

30% of wholesale price

Ad Valorem

New Hampshire

19% of wholesale price

Ad Valorem

New Jersey

75 cents per ounce

Per Unit

New Mexico

25% of product value

Ad Valorem

New York

37% of wholesale price

Ad Valorem

North Carolina

3% of wholesale price

Ad Valorem

North Dakota

60 cents per ounce

Per Unit

Ohio

17% of wholesale price

Ad Valorem

Oklahoma

60% of wholesale price

Ad Valorem

Oregon

65% of wholesale price

Ad Valorem

Pennsylvania

No tax

n/a

Rhode Island

$1.00 per ounce

Per Unit

South Carolina

5% of manufacturer’s price

Ad Valorem

South Dakota

10% of wholesale price

Ad Valorem

Tennessee

6.6% of wholesale price

Ad Valorem

Texas

35.213% of manufacturer’s price

Ad Valorem

Utah

35% of manufacturer’s price

Ad Valorem

Vermont

$1.49 per ounce

Per Unit

Virginia

10% of wholesale price

Ad Valorem

Washington

75% of wholesale price

Ad Valorem

West Virginia

7% of wholesale price

Ad Valorem

Wisconsin

25% of manufacturer’s price

Ad Valorem

Wyoming

20% of wholesale price (or 10% of retail)

Ad Valorem

1 Alabama charges 1.5 cents per ounce of chew tobacco, and a varying rate on snuff tobacco per can, depending upon the size.

2 Adjusted annually by the California Board of Equalization.

3 Connecticut charges a tax of 20 percent on other tobacco products besides snuff.

4 Kentucky charges a tax of 7.5 percent on other tobacco products besides snuff.

Source: Federation of Tax Administrators; various updates compiled by Tax Foundation

But it is not immediately clear why some states outside the South tax smokeless tobacco so heavily and some so lightly, nor why some base their tax on weight and others on price.



Why Tax It?

Assuming the role of government is to prevent individuals from harming one another, and not to prevent individuals from harming themselves, then special taxes on tobacco products should exist only if those products impose significant costs on third parties.

A frequently cited example is the health care costs to other taxpayers associated with tobacco consumption. Another often cited external cost of tobacco products, cigarettes in particular, is secondhand smoke, both in public places and in homes where children reside.

Smokeless tobacco, however, imposes no such harm.

Other costs supposed to be unfairly imposed on society from tobacco consumption have been cited, such as the unattractiveness of witnessing certain behavior associated with chewing tobacco, and the message children receive as a result of viewing adult tobacco consumption.



How Tax It?

To the extent tobacco imposes undue costs on society, specific taxation of the product may be warranted. But a government official who merely desires to influence individual consumption decisions because of his own anti-tobacco sentiment cannot justify it as sound tax policy.

There are two methods of levying an excise tax on any product. The first and most common type is a per-unit tax. In this case, the tax is independent of the price of the product.

The other type of excise tax is an ad valorem tax, which is akin to a typical general sales tax where the tax is a percentage of the sale price.

Regardless of the rationale for the government's attempt to limit tobacco consumption via taxation--whether through the proper framework of controlling for negative costs imposed on others or through the authoritarian method of trying to control individual decisions--tobacco products should be taxed via a per-unit tax.

The harm caused by a unit of tobacco is essentially unrelated to its price. A $5 pack of cigarettes would not impose any cost to society or harm any individual more than a $2 pack of cigarettes would. With respect to cigarettes, most tax-levying officials have properly understood this--every state imposes the tax based on the number of cigarettes, not based upon the sale price.



Why Ignore Quantity?

But with respect to smokeless tobacco, most states have gone in the opposite direction of sound tax policy and have imposed ad valorem taxes, which are based on the sale price of the smokeless tobacco.

Only nine states impose the tax on a per-unit basis, even though the federal government taxes moist smokeless tobacco based on weight, which is essentially a tax on quantity and is the proper way of taxing the product.

It is not logical to base the tax on the value of the product. A $6 can of premium smokeless tobacco does no greater harm to the user or to society than a $2 brand of generic smokeless tobacco, but under the current system in most states, the premium brand is charged a tax three times that of the generic brand.

Much of the effect of this ad valorem tax is merely to encourage more consumption of inexpensive brands, thereby making irrelevant much of the government policy designed to limit the quantity of tobacco consumed.



How Heavily Tax It?

In standard economic theory, a tax designed to compensate for a negative externality imposed on society should be levied on a per-unit basis and should equal the difference between the social cost of the good (the cost to society at large) and the private cost (the cost to individual consumers).

Therefore, if the social cost of tobacco consumption is greater than the total private cost, then the tax should be set at a level that will make the two costs equal, thereby improving overall societal well-being.

The problem that governments face is calculating the social cost of tobacco and comparing it to the private cost. Often, those with certain agendas try to overstate the difference between the private cost and the social cost of tobacco in order to impose their principles of morality on everyone else.

What constitutes a true cost to society is therefore always a subject of disagreement and should be carefully calculated. Policymakers should be clear about the factors involved in their calculations when they recommend a level of taxation.

As noted, this can be accomplished only with per-unit excise taxes, because the dollar value of the tobacco consumed is irrelevant to the social costs and to the goal of reducing overall consumption of tobacco.


Gerald Prante (prante@taxfoundation.org) is a staff economist at the Tax Foundation in Washington, D.C. A version of this article appeared in the Tax Foundation's Fiscal Fact No. 65, published September 22. Used by permission.