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Research & Commentary: Cigarette Tax Hike Won’t Fix Kentucky’s Budget Problems

March 23, 2018

In this Research & Commentary, Lindsey Stroud argues against a cigarette tax increase in Kentucky.

To solve Kentucky’s budget woes, lawmakers recently proposed increasing the state’s cigarette tax. The proposal would increase the state’s cigarette excise tax by $.50 per pack, bringing the total tax to $1.10 per pack.

Kentucky’s current cigarette tax rate is higher than those of two of its seven bordering states. If the excise tax is increased to $1.10, only three of the neighboring states will have higher cigarette taxes than Kentucky, according to the Tax Foundation.

Such disparities drive consumers to purchase cigarettes in neighboring states or on black markets. In 2015, the Tax Foundation ranked Kentucky ranked 37th among the states in cigarette smuggling. Arkansas, with an excise tax of $1.15 per pack, ranked 25th. It is likely an increase in  Kentucky’s cigarette tax will cause an influx of smuggled tobacco, which will reduce tax revenue and worsen the state’s budget problems.

Cigarette taxes are highly regressive and disproportionately impact lower-income persons. From “2010 to 2011, smokers earning less than $30,000 per year spent 14.2 percent of their household income on cigarettes, compared to 4.3 percent for smokers earning between $30,000 and $59,999 and 2 percent for smokers earning more than $60,000” according to a Cato Journal article by Kevin Callison and Robert Kaestner.

Despite Kentucky’s relatively low tax on cigarettes, smoking rates in the state have been dropping, the United Health Foundation reports. Jim Waters, president and CEO of the Bluegrass Institute for Public Policy Solutions, noted teen smoking rates have dropped as well, “revealing that education and cessation campaigns are much-more-effective approaches to help address” cigarette smoking rates.

It is important to note that the revenue raised by the tax increase would not be devoted to public health costs linked to smoking. Instead, it is an attempt to increase revenue to address Kentucky’s growing public employee pension crisis. Kentucky currently uses very few funds for education and tobacco-control programs.

The state was projected to collect more than $100 million in funds from the state’s Master Settlement Agreement (MSA) in 2017. The MSA is the settlement reached in the 1990s after states began suing tobacco manufacturers to recover Medicaid and other costs states allegedly incurred in treating sick and dying smokers. Kentucky uses very little of these funds for education and tobacco-control programs: only $2.4 million in state funds were allocated to tobacco prevention programs in 2017.

Tobacco taxes and sin taxes are an unreliable source of revenue. Although a sin tax may create a short-term increase in revenue, it often leads to a future revenue decrease. In the long term, sin taxes create budget shortfalls. “Between 2008 and 2013, only two out of 40 revenue actions that raised the tobacco tax were followed by  cuts in other taxes, and from 2001 to 2011, just 29 of the 101 tobacco tax  increases in that time met or exceeded revenue projections,” The National Taxpayers Union Foundation reports.

Using tobacco tax increases to ease budget troubles disproportionately harms lower-income individuals and families and is only minimally effective at curbing consumption. The proposed tax hike will do nothing more than boost the illegal market and create additional deficits that will have to be remedied by additional tax increases imposed in the future. Kentucky should consider pension reform and comprehensive tax reform rather than depending upon unreliable tax revenue streams.

 

The following documents provide additional information on tobacco taxes and other “sin” taxes.

Three Reasons to Avoid Tobacco Taxes
http://www.commonwealthfoundation.org/policyblog/detail/three-reasons-to-avoid-tobacco-taxes
Elizabeth Stelle of the Commonwealth Foundation examines Pennsylvania’s proposed tobacco tax hikes. Stelle argues they are the wrong prescription for the state, and she outlines several reasons why they are harmful.

Cigarette Taxes and Smoking
https://www.heartland.org/policy-documents/cigarette-taxes-and-smoking
In this study from the Cato Institute, Kevin Callison and Robert Kaestner suggest future  cigarette-tax  increases will offer relatively few public health benefits, and they say the justification given for future taxes should be based on the public finance aspects of cigarette taxes, such as the regressiveness, volatility, or the rate of revenue growth associated with those taxes.

Ten Principles of State Fiscal Policy
https://heartland.org/policy-documents/ten-principles-state-fiscal-policy
This Heartland Institute booklet provides policymakers and civic and business leaders a highly condensed yet easy-to-read guide to state fiscal policy matters. It presents the 10 most important principles of sound fiscal policy, from “Above all else: Keep taxes low,” to “Protect state employees from politics.” 

Research & Commentary: Top Ten Reasons Not to Raise Tobacco Taxes
https://heartland.org/policy-documents/research-commentary-top-ten-reasons-not-raise-tobacco-taxes
Heartland Institute Government Relations Director John Nothdurft argues targeted tax increases serve only to push sound fiscal policies and real budget reforms to the public policy back burner. Legislators concerned about the public health effects of tobacco should encourage the use of readily available smoking cessation products and services instead of supporting bad tax policy.

Five Things to Consider Before Raising Tobacco Taxes: A Review of the Research
https://heartland.org/policy-documents/five-things-consider-raising-tobacco-taxes-review-research
This Heartland Institute Policy Brief argues, “Tax increases above current levels are not justified by appealing to the costs smokers impose on nonsmokers. Smokers already pay more than this measure could justify.”

Poor Smokers, Poor Quitters, and Cigarette Tax Regressivity
http://www.budgetandtax-news.org/article/19564
Dr. Dahlia Remler of the Department of Health Policy and Management at Columbia University demonstrates cigarette taxes are regressive, burdening poor individuals more than other groups.

Debunking the “Tax Thee, But Not Me” Myth: Five Reasons Why Non-Smokers Should Oppose High Tobacco Taxes
http://www.ntu.org/main/press_issuebriefs.php?PressID=1001&org_name=NTU
The nonpartisan National Taxpayers Union observes, “The per-capita state and local tax burden in high-tobacco tax states is 8 percent above the national average, while the general tax bill for residents of low-tobacco tax states is 15 percent below the national average.”

Cigarette Taxes and Smoking: Will Higher Taxes Yield a Public Benefit?
http://heartland.org/policy-documents/cigarette-taxes-and-smoking-will-higher-taxes-yield-public-benefit
Kevin Callison and Robert Kaestner of the Cato Institute summarize their study focusing on the effect of recent, large cigarette-tax increases on the smoking behavior of adults ages 18–74. The data suggest the association between cigarette taxes and either smoking participation or number of cigarettes smoked is small, negative, and not usually statistically significant.

Cigarette Taxes and Smuggling: A Statistical Analysis and Historical Review
http://heartland.org/policy-documents/cigarette-taxes-and-smuggling-statistical-analysis-and-historical-review
The authors of this study consider cigarette smuggling from two angles. First, they employ a statistical model to estimate the degree to which cigarette smuggling occurs in 47 of the 48 contiguous U.S. states. Second, they review the historical experiences of three states – California, Michigan, and New Jersey – known to have cigarette-smuggling problems. The findings suggest state policymakers should reassess the value of cigarette taxes as a revenue source and public health tool.

 

Nothing in this Research & Commentary is intended to influence the passage of legislation, and it does not necessarily represent the views of The Heartland Institute. For further information on this subject, visit Budget & Tax News at http://news.heartland.org/fiscal, The Heartland Institute’s website at http://heartland.org, and PolicyBot, Heartland’s free online research database at www.policybot.org.

The Heartland Institute can send an expert to your state to testify or brief your caucus; host an event in your state, or send you further information on a topic. Please don’t hesitate to contact us if we can be of assistance! If you have any questions or comments, contact John Nothdurft, Heartland’s director of government relations, at jnothdurft@heartland.org or 312/377-4000.

Author
Lindsey Stroud joined The Heartland Institute in 2016 as a Government Relations Coordinator. In 2017, Lindsey was named State Government Relations Manager.
lstroud@heartland.org