CRS Report Examines Excise Tax Rates on Tobacco

                       CRS REPORT FOR CONGRESS

[1] This report examines increases in excise tax rates on tobacco products contained in the Balanced Budget Act of 1997 (Public Law 105-33). The new rates become effective in two stages. The first scheduled increase in rates occurs on January 1, 2000, while the second increase in rates is scheduled two years later on January 1, 2002.

[2] The increased rates apply to all tobacco products. In addition, the legislation includes a new excise tax on roll-your-own tobacco which becomes effective January 1, 2000. Also included in the Act were expanded compliance measures designed to ensure collections of tobacco excise tax monies. As a result of payments to be made by tobacco companies under the Master Settlement Agreement, projected federal tobacco revenues are expected to decline when compared to prior estimates of federal tobacco receipts. This report will be updated as legislative developments warrant.

Tax Rates

[3] A brief history of the federal tax rates on cigarettes shows that the rates remained unchanged at 8 cents per pack from 1951 to 1982. ¹ Since 1982 the rate has been increased by three federal acts. The rate was increased to 16 cents per pack as part of the Tax Equity and Fiscal Responsibility Act of 1982 (TETRA; Public Law 97- 248). In the General Explanation of the Revenue Provisions of the Tax Equity and Fiscal Responsibility Act of 1982 the Joint Committee on Taxation indicated that the reason for this increase was that since the tax was imposed as a set amount, rather than as a percentage of sales price, inflation had caused the effective level of the tax to decline by more than 70 percent in constant dollars. The doubling of the tax rate did not increase the per-pack tax, in real terms, above the 1951 level. Also, Congress felt that the broad-based increase in revenue required by the fiscal outlook through 1985 mandated an increase in the cigarette excise taxes through fiscal year 1985.

[4] Next, the rates were increased in two stages under the Revenue Reconciliation Act of 1990 (RRA90; Public Law 101-508). One half the increase (4 cents per pack) took effect on January 1, 1991 with the second half (an additional 4 cents) becoming effective on January 1, 1993. This raised the rates from 16 cents per pack to 24 cents per pack -- the current tax rate. The rates were increased because of large continuing federal budget deficits and the need for additional federal revenues.

[5] The most recent increase in tax rates occurred in the Balanced Budget Act of 1997 (BBA97; Public Law 105-33). Like the increases provided under the RRA90, the rates on all tobacco products are scheduled to increase in two stages. The rates are scheduled to increase first on January 1, 2000 and then two years later on January 1, 2002. In the case of cigarettes, the rates will rise 10 cents a pack to 34 cents and then an additional 5 cents to 39 cents per pack. In addition, the act established a tax rate for roll-your-own tobacco. Table one (which appears on the following page) provides details on the rate increases imposed on all tobacco products from 1990 to 2002. ²

            Table 1. Comparison of Tobacco Excise Tax Rates

[6] The actual revenue yield from federal tobacco excise taxes has remained stable in recent years. After the last statutory rate increase in 1993 the revenue yield jumped from just over $5 billion in fiscal year 1992 to $5.875 billion in fiscal year 1993. Fiscal year revenues over the 1993 to 1997 time period have ranged from a low of $5.691 billion to a high of $5.878 billion. The Joint Committee on Taxation estimates that the BBA97 Act's increase in tobacco tax rates will increase revenues beginning in fiscal year 2000. For that fiscal year, the Joint Tax Committee has estimated that additional revenues of $1.175 billion will be collected due to the rate increases. Further, the committee estimates that the increased rates will by fiscal year 2002 exceed $2 billion in additional revenue per year. A detailed breakdown of actual and estimated tobacco tax receipts is provided in Table 2, which appears on the final page of this report.

   Table 2. Tobacco Excise Tax Estimates and Actual Revenue Receipts

/b/ U.S. Congress. Joint Committee on Taxation. General Explanation of Tax Legislation Enacted in 1997. Washington, U.S. Govt. Print. Off., 1997. p. 546.

/c/ U.S. Office of Management and Budget. Budget of the United States Government, Historical Tables, Fiscal Year 2000. February 1999. p. 38-39.

[8] In addition to the excise taxes on various tobacco products there is also an occupational tax. A manufacturer or exporter of taxable tobacco products with gross receipts of less than half a million dollars in the preceding taxable year must pay a tax of $500 a year. For those whose gross receipts exceed that amount, the tax is $1,000 a year per business premise. While the occupational taxes brought in approximately $106 million in fiscal year 1998, the tax applies to alcohol and firearms as well as tobacco, and it is believed that tobacco accounts for only a small part of the revenue. Occupational taxes collected from those dealing in alcohol and firearms make up the bulk of collection revenues. No breakdown of occupational taxes is available.

[9] Tobacco excise taxes are paid into the General Fund of the U.S. Treasury. There continues to be no direct relationship between federal tobacco excise tax collections and any particular federal program. In those cases where other excise taxes are directly linked with spending programs (as through trust funds), there is usually a relationship between the taxed products (such as the gasoline excise tax and the Highway Trust Fund) and a program financed by the funding. In some cases, excise taxes may be imposed in situations where those actually responsible for damages cannot be held directly accountable (such as the .01 cent excise tax on gasoline used for cleaning up underground leaking storage tanks). In those cases, taxes are levied on current production of a product associated with causing the damages that the government program is trying to rectify.

[10] In recent years, it has been suggested that the revenues collected from tobacco excise taxes be used to help fund the Medicare/Medicaid Trust Funds as well as other health programs[.] ⁵ In the case of Medicare/Medicaid Trust Funds proposals, the rationale argued has been that the use of tobacco products early in life may lead to health-related problems such as emphysema, heart disease, or lung cancer which bring claims upon those trust funds for health expenditures. ⁶ Suggestions have also included the idea that revenues be used to fund tobacco treatment withdrawal programs. ⁷

² As originally enacted, increased revenue collections were to be credited against the total payments to be made under the tobacco industry settlement agreement. However, this provision was repealed under section 519 of the Fiscal Year 1998 Appropriations for Labor, Health and Human Resources (P.L. 105-78).

³ For additional information see the CRS Tobacco Briefing Book at [http://www.congress.gov/brbk/html/ebtob 12.html].

⁴ For a discussion of the MSA effects on price, workers, suppliers, consumption, and income distribution see CRS Report 97-995 E, The Proposed Tobacco Settlement: Effects on Prices, Smoking Behavior, and Income Distribution by Jane G. Gravelle.

⁵ In the current Congress, Senator Bob Graham has introduced an amendment to S. Con. Res. 20 that expresses the sense of the Senate that funds recovered from any federal tobacco-related litigation should be set aside for the purpose of first strengthening the Medicare trust fund and second to fund a Medicare prescription drug benefit. See also H.R. 1200 introduced by Representative Jim McDermott which calls for the establishment of a state-based American Health Security Program with comprehensive and preventive benefits as well as benefits for long-term care. Under his bill a portion of the revenues would come from increased taxes on tobacco products.

⁶ The health costs of smoking are covered in CRS Report 97- 1053 E. The Proposed Tobacco Settlement: Who Pays for the Health Costs of Smoking by Jane G. Gravelle.

⁷ See Representative Hansen's bill H.R. 2764 (introduced in the 105th Congress) which calls for the establishment of the PHAER Trust Fund into which shall be deposited amounts equivalent to the increase in revenues (from tobacco excise taxes) as a result of tobacco rate increases imposed under his bill. The bill requires that 75 percent be distributed to a number of state programs including a Children's Health Insurance Program and the American Stop Smoking Intervention Study for Cancer Prevention. The remaining 25 percent goes to federal programs which include tobacco control and prevention, the National Institutes of Health, and the Centers for Disease Control and Prevention.