A Law Synopsis by the Tobacco Control Legal Consortium August 2012 Strategies to Combat Tobacco Control Illicit Tobacco Trade Legal Consortium Jess Alderman Law. Health. Justice. This synopsis is provided for educational purposes only and is not to be construed as a legal opinion or as a substitute for obtaining legal advice from an attorney. Laws cited are current as of August 2012. The Tobacco Control Legal Consortium provides legal information and education about tobacco and health, but does not provide legal representation. Readers with questions about the application of the law to specific facts are encouraged to consult legal counsel familiar with the laws of their jurisdictions. Suggested citation: Jess Alderman, Tobacco Control Legal Consortium, Strategies to Combat Illicit Tobacco Trade (2012). Tobacco Control Legal Consortium 875 Summit Avenue Saint Paul, Minnesota 55105 USA www.publichealthlawcenter.org www.tclconline.org 651.290.7506 Copyright © 2012 Tobacco Control Legal Consortium Strategies to Combat Illicit Tobacco TradeStrategies to Combat Illicit Tobacco Trade Jess Alderman Introduction Key Points Illicit tobacco trade is a significant global problem. Experts estimate • Illicit tobacco trade in the U.S. includes direct that more than 10 percent of ciga- smuggling of tobacco products into the country; rettes bought around the world are introducing products designated for export only sold illegally,1 and in the United into the American domestic market; manufacturing States alone smuggling costs about tobacco products without a license; buying products $5 billion per year in lost state tax 2 in one state for illegal resale in another; buying revenues. The contraband tobacco cigarettes on Native American territory for illegal trade is one of the most complex to- resale to non-tribal members and buying from bacco control issues because it is in- websites that do not charge taxes. tertwined with so many other politi- cal, legal, and policy concerns. High • Smuggling tobacco products is highly profitable tobacco taxes have a significant posi- and the penalties for smuggling tobacco are lenient, tive impact on public health3 and which makes illicit tobacco trade a low-risk crime. the evasion of tobacco taxes directly • Tax-free tobacco sales in Native American smoke shops undermines the documented abil- are a major problem in the United States. It is illegal ity of these taxes to reduce smoking for Native American tribes to sell untaxed tobacco rates. Other, more indirect effects products on their territory to non-tribal members, include shielding tobacco purchases but states find it extremely difficult to address the from state requirements relating to widespread lack of compliance given their lack of legal customer age verification, licensing, authority over Native American tribes. advertising, manufacturing stan- dards, and record keeping. • Tobacco smuggling operations have been linked to numerous terrorist organizations globally, and This law synopsis focuses on illicit evidence shows that cigarette smuggling profits have tobacco trade within and across financed terrorism around the world. the borders of the United States. It explains how illegal tobacco trade • Key federal laws that address the illegal tobacco trade works and why it is appealing, its im- are the Jenkins Act, Contraband Cigarette Trafficking pact on state revenues, and the past Act, PACT Act, and the Family Smoking Prevention complicity of the tobacco industry and Tobacco Control Act. Multiple federal agencies in illicit trade. It explores the com- are responsible for enforcing these laws. plex role played by Native American • To combat illicit tobacco trade, state, local and tribal lands, tribes, and businesses in tax- governments and health advocacy organizations need free sales and outlines various law to coordinate and cooperate at many different levels enforcement approaches to combat to support federal legislation and also to increase smuggling. It also recognizes the anti-smuggling efforts in their own jurisdictions. growing connection between smug- Tobacco Control Legal Consortium Smuggling tobacco products is highly profitable and the penalties are lenient. gling and national security issues and describes market; manufacturing tobacco products with- the federal agencies and laws that address it. out a license; buying products in one state for Finally, this law synopsis suggests ways in which illegal resale in another; buying cigarettes on state and local governments as well as health Native American territory for illegal resale to advocacy organizations can contribute to the non-Natives; and buying from web sites that fight against illicit tobacco trade. do not charge taxes. Another strategy involves underreporting production or sales to the state Q: How does the illicit tobacco trade to avoid taxes.6 work, and how is smuggling related to tobacco tax avoidance and evasion? Tobacco tax rates in the United States have been rising for more than a decade. For example, A: The term “smuggling” means illegal trade the average state tax increase between 1998 4 across borders, while “illicit trade” is a broader and 2002 was 90 percent.7 Higher tax rates term that encompasses “any practice or conduct lead to both tax avoidance (taking advantage prohibited by law and which relates to produc- of legal loopholes or exemptions from tax) and tion, shipment, receipt, possession, distribu- tax evasion (illegally avoiding paying a required 5 tion, sale or purchase.” There are numerous tax).8 Differences in tobacco tax rates among methods of contraband tobacco trade in the states can create an incentive to transport to- United States: direct smuggling of product into bacco products from low-tax jurisdictions to the country; introducing products designated higher ones. To purchase cheaper cigarettes for for export only into the American domestic personal use, individuals might cross state lines 2 Strategies to Combat Illicit Tobacco Trade to patronize stores in lower-tax states, or they a specific area: the presence of organized crime might go to commissaries on military bases or networks; the level of political corruption in to smoke shops on Native American reserva- the area; the severity of the penalties they face; tions where they can avoid paying state taxes. the extent to which the local tobacco industry “Bootlegging” occurs when individuals or small facilitates smuggling; etc.20 groups purchase a threshold amount of tobacco products in a low-tax state for illegal resale in In the United States, tax-free individual pur- a high-tax state.9 For example, there is a high chases for personal use and bootlegging are small problems compared to larger-scale organized bootlegging rate between Virginia, which has 21 very low tobacco taxes, and New York, which smuggling. Small-scale evasion of tobacco has among the highest.10 taxes tends to spike after a tax increase and then gradually fade, likely because smokers prefer the Internet sales of tobacco products also play a convenience of local purchases to cheaper but less role in tax evasion. The sites traditionally have convenient purchases that require pre-planning not charged applicable taxes, offering products and/or buying in bulk.22 at much lower prices and undermining states’ Q: Why smuggle a product that can be public health efforts.11 It is also difficult to purchased legally around the world? verify a customer’s age on the Internet, increas- ing minors’ access to tobacco.12 The number of A: There are two primary reasons: websites selling tax-free cigarettes to Ameri- cans mushroomed from 88 in 2000 to 772 in Smuggling tobacco products is highly profitable. 13 2006. Frustrated by states’ lack of ability to Unlike those who run smuggling operations in- directly stop the flow of untaxed merchandise, volving illegal or highly regulated products like in 2005 the National Association of Attorneys drugs and weapons, tobacco smugglers’ primary General (NAAG) reached agreements with motivation is to avoid paying taxes. Smuggling credit card companies to refuse to process illegal has a very high profit margin if taxes can be 14 Internet sales, and later that year several mail avoided anywhere along the supply chain.23 For delivery services agreed to stop cigarette deliver- example, a wholesaler can profit from selling tax- ies to individual Americans under pressure from free tobacco products to retailers and distribu- 15 NAAG. In 2008 California made a similar tors. A retailer can boost revenue by buying tax- agreement with a bank that had been processing free cigarettes from smugglers and then selling 16 a large volume of illegal Internet sales. them to customers at regular rates.24 In 2011, Maryland’s Field Enforcement Director noted Variations in tax rates are only one of the factors that “the amount of money is phenomenal. It’s that drive smuggling. Illicit trade and tax evasion tens of thousands of dollars in any particular occur even when tax rates in the involved areas 25 run.” Even small-time smugglers can make as are similar, and in fact countries with the lowest 26 much as $7,000 per day. Smuggling a truck- cigarette prices tend to have higher smuggling load (48,000 cartons) of cigarettes purchased rates.17 Large-scale smuggling tends to involve in Virginia for illegal resale in New York City organized crime and sophisticated local distribu- 27 can net a profit of $2 million. Similarly, it tion systems.18 While bootleggers rely on tax costs about $100,000 to manufacture a shipping differences