Ohio Budget Tax Changes: Cigarette Tax Revenue

Today, fewer Americans smoke than at any point in the past 80 years. The decline in smoking rates spans almost all demographic groups, with younger people at the forefront of this social movement.

While this should be a banner-hanging win for public policy countrywide, the shrinking taxA tax is a mandatory payment or charge collected by local, state, and national governments from individuals or businesses to cover the costs of general government services, goods, and activities.
revenue from diminishing cigarette consumption has prompted Ohio Governor Mike DeWine (R) to pack the state budget with higher taxes on tobacco products. Unfortunately for the governor, increasing reliance on a dwindling tax baseThe tax base is the total amount of income, property, assets, consumption, transactions, or other economic activity subject to taxation by a tax authority. A narrow tax base is non-neutral and inefficient. A broad tax base reduces tax administration costs and allows more revenue to be raised at lower rates.
will not bridge revenue shortfalls. If the state is focused on continuing to improve public and fiscal health, Ohioans deserve healthier, more sustainable fiscal policy than what Gov. DeWine is proposing.

Like many states with fewer smokers, Ohio’s cigarette tax excise collections have plummeted, falling almost in half in real dollars since the state’s last tax increase in 2015. In response to this decline, the governor has proposed to nearly double both the state’s cigarette tax and tax rate on vapor products. This would be a hike from $1.60 to $3.10 per pack and 10 to 20 cents per mL, respectively. The governor’s budget also includes an increase of the cigar tax cap from $0.64 to $1.58 per cigar and a 150 percentage-point increase in the state’s tax on other tobacco products (OTP).

Doubling down on a declining tax base—fewer people smoke cigarettes each year and tax revenues continue to decline—is an effort at kicking the can down the road, temporarily boosting revenues only to see them fall again. But more than that, dramatically higher cigarette taxes shift many smokers to black and gray markets, denying revenue to the state while pushing consumers to illicit products. Smugglers’ business booms when cigarette tax rates increase because tax evasion becomes much more profitable. Historical evidence shows that consumers don’t seem to worry about whether taxes have been paid on their lower-priced cigarettes.

Bolstering this illicit market may be even more threatening to tax coffers than the shrinking base. Tax Foundation research found that over a 16-year period, from 2007 to 2022, the total loss from net cigarette smuggling exceeded $79.4 billion for the US, amounting to an average annual loss of $4.96 billion for the country. New York’s exorbitant rates alone cost the state $21.2 billion in revenue over the same period.

A key factor propelling these illicit cigarette markets can be attributed to the differences in state tax rates. The larger the variation between states, the more money everyday smokers can save and large smuggling organizations stand to earn simply by driving across state lines to purchase products in lower-tax jurisdictions.

It doesn’t take a crystal ball to predict that imposing a $3.10 per pack tax rate in Ohio would make it a prime target for smuggling from neighboring Indiana, Kentucky, and West Virginia, where cigarette tax rates range from 99.5 cents to $1.20 a pack. While Ohio purchasers currently face a lower tax than in neighboring Pennsylvania and Michigan, that would reverse with the proposed tax increase, giving Ohio the highest tax rate amongst all its neighbors. We estimate that increasing Ohio’s cigarette tax rate to $3.10 per pack will increase net smuggling by more than 13 percentage points. This would triple net smuggling, so that nearly one in every five packs of cigarettes smoked in Ohio would not have been lawfully purchased in Ohio.

An equally troubling aspect of this proposed tax hike is its disproportionate penalization of vaping products, which have been widely established as an effective harm reduction tool for existing smokers. Vapor products enable users to inhale only nicotine while bypassing the combustion and tar inherent to traditional cigarettes. Research is still in its early years, but the evidence to date points to vapor products as representing a substantial harm reduction compared to combustible tobacco products. For example, the English Ministry for Health concluded that vaping is 95 percent less harmful than smoking cigarettes. Unfortunately, if Ohio implements a substantial tax hike on legal vaping products, this will make it much less likely that existing cigarette smokers will make the switch.

The good news is that it’s still possible for Ohio policymakers to recognize that their overdependence on tobacco taxes is unsustainable and shouldn’t be propped up further. Instead of doubling down on a shrinking tax base, Ohio lawmakers should instead look towards ways to wean Ohio off outdated fiscal tobacco policies and towards tax solutions that secure the state’s long-term fiscal health.