Tobacco executives find tax loophole in child health law

By Matt Apuzzo
Associated Press / November 18, 2009

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WASHINGTON - With a simple marketing twist, tobacco companies are avoiding hundreds of millions of dollars a year in taxes by exploiting a loophole in President Obama’s child health law.

Obama and Congress increased taxes on tobacco products earlier this year to pay for expanded children’s health insurance, but tobacco for roll-your-own cigarettes saw a disproportionate leap, from $1.10 to $24.78 per pound. Some predicted the tax would kill the roll-your-own industry, which offered a cheaper alternative to packaged cigarettes.

But tobacco companies quickly adapted. The Associated Press found that as soon as the tax was on the books, companies all but shut down their roll-your-own brands and reinvented them under a less-restricted, less-taxed category: pipe tobacco. It’s still destined to be rolled and smoked, but it is taxed at barely a tenth the rate, $2.83 per pound.

Normally, pipe tobacco is coarser and moister than cigarette tobacco. But nothing says it has to be.

In fact, the federal government says the only distinction between the two is how it is labeled. That effectively gives tobacco marketing executives an opportunity to shape the company’s tax rate.

Nearly overnight, roll-your-own brands like Criss Cross and Farmers Gold came off the shelves, replaced by pipe tobacco with the same names.

The cuts may be slightly different, but they’re suitable for rolling.

Knowing this, retailers steer customers to the new products, sometimes with a wink and a nod, sometimes with outright advertising.

“They tried to make a product within the elements of the law that they could, in fact, market as pipe tobacco,’’ said Scott Bendett, owner of Habana Premium Cigar Shoppe in Albany, N.Y., which advertises the new pipe tobacco for hand-rolled cigarettes.

Tobacco companies say they are just trying to find a legal way to stay afloat after being saddled with an enormous tax increase.

Because the small, independent companies in the roll-your-own market are often overshadowed by the huge, publicly held cigarette companies, the sudden shift toward pipe tobacco caught researchers by surprise.

Daniel Morris, who tracks tobacco production data at the Oregon Department of Health, thought he had made a mistake when he saw April’s figures.

Pipe tobacco production had more than doubled in a single month. After years of producing about 270,000 pounds per month, companies put more than 566,000 pounds of pipe tobacco on the market in April.

Morris called the federal Alcohol and Tobacco Tax and Trade Bureau, which collects the data.

There was no mistake.

“It really shows how the industry is able to respond to changes in the tax environment,’’ Morris said.

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