State’s Tobacco Revenue Surges

Times Staff Writer

As an epidemic of tobacco tax evasion drains state treasuries across the nation, California is defying the trend with aggressive, high-tech enforcement that has cigarette tax revenue surging.

State officials are reporting an increase of tens of millions of dollars in tobacco taxes for the first time in years, even as smoking in California declines.

California has taken in more than $124 million in new tobacco-tax receipts over the last 20 months. Officials credit a unique new program that includes stamping every cigarette pack sold in the state with a counterfeit-proof sticker.


Investigators, armed with hand-held devices, visit stores and scan the stickers to see whether a package of cigarettes is licensed for sale, where it came from and whether the distributor paid the required taxes. They seize illegal products as they find them and then begin tracking their sources.

The stickers, along with more inspectors and strict new licensing requirements, have helped the state bust scores of smugglers and retailers, seizing millions of illegal cigarettes. At the same time, the federal government has ramped up its sting operations in California, making high-profile arrests that have saved the state millions.

“No other state has done anything like this,” said Eric Lindblom, director of policy research for the Campaign for Tobacco-Free Kids in Washington, D.C. “Everywhere else they are using 1950s technology. We’re hoping other states will follow suit.”

The sale of black-market cigarettes, including counterfeit products made in other countries and legitimately manufactured cigarettes illegally shipped from lower-tax states, has become increasingly attractive to organized crime rings, authorities say. It is more lucrative than ever, now that so many states have raised tobacco taxes.

California has not done so for several years, but its tax of 87 cents per pack is still higher than in most states. And several large healthcare groups have drafted a measure they hope to place on the November ballot that would quadruple the tax on every pack -- to $3.47.

The penalties for trafficking in illicit cigarettes, meanwhile, remain relatively minimal.

It is estimated that, nationwide, more than $1 billion in cigarette tax money is lost each year to crime, a quarter of that in California.


“There is so much money and so much profit, and it is relatively easy to do,” said Jeff Cohen, assistant chief counsel with the federal Bureau of Alcohol, Tobacco, Firearms and Explosives. “You can make the kind of money you would selling drugs, without the risk.”

The leaders of a Southern California ring that defrauded the state out of more than $4.7 million, for example, were sentenced this year to two years in prison. Their scheme was simple: They brought truckloads of cigarettes to California, put counterfeit tax stamps on 5 million packs and sold them to retailers.

Before the state launched its program, counterfeit stamps were widely available and tough to detect. State investigators say millions were produced abroad and smaller quantities were being created domestically on home computers.

Prosecutors have a large backlog of cases. In one, two San Bernardino men being tried in federal court are accused of cheating the state out of $1 million by forging a distributor’s license, buying cigarettes from a warehouse in Florida and selling them with fake tax stamps in California.

Assistant U.S. Atty. Tom Loeser, who is trying the case, said traffickers “drive around in pickup trucks full of cigarettes, walk into gas stations and convenience stores and say, ‘I can sell these cartons to you at a deep discount. How many do you want?’ ”

“The store owner would look at them, see they had stamps and say ‘OK,’ ” said Loeser, adding that it was extremely difficult for law enforcement to prosecute the store owners, who could claim they thought they were buying a legitimate product.


Initially, big tobacco companies appeared untroubled, because they were being paid for the cigarettes they produced. The only loser was the government, which was not getting the tax revenue. Then millions of counterfeit cigarettes designed to look exactly like big American brands began appearing in California from China, Mexico and other countries.

So the industry began lobbying for more aggressive anti-smuggling efforts. California developed the high-tech stamp, hired more inspectors and tightened licensing requirements to help law enforcement track cigarette shipments.

Investigators at the state Board of Equalization, the agency that oversees tobacco sales, go store to store, checking cigarette inventories with their scanners to determine whether cigarettes are legitimate: The yellow, black and white stamps are designed with a California state bear logo that is encrypted with information particular to a pack.

Officials are hoping store owners will purchase scanners, which flash red if the product is not legitimate, but so far only a few have. Most appear to be balking at the $800 price.

State inspectors visited 8,420 shops in the 2004-05 fiscal year, issuing 523 citations, mostly to small convenience and grocery stores. Repeat offenders risk losing their licenses to sell tobacco products, which could easily put a small convenience store out of business.

Repeat offenses, board officials say, have decreased significantly.

“Retailers are being more cautious about what products they sell,” said John Chiang, state Board of Equalization chairman.


Local agencies are working with the board to step up enforcement efforts. Prosecutors for the city of Los Angeles say that in 2001, they had one case involving illegal tobacco sales. This year, they have 76. The cases focus mostly on people selling contraband on the street and to small convenience stores.

Deputy City Atty. Deborah Sanchez said at a recent oversight hearing in Pasadena that her office has detected a “significant underground economy.... We found people with 500 cartons of cigarettes in their cars, $11,000 in their pockets.”

People involved in tobacco trafficking have proved resilient, and some analysts say it is possible they could ultimately replicate the encryption technology. Meanwhile, so many shipping containers of counterfeit cigarettes arrive at state ports from abroad each week, federal officials say, that they have been able to stop only a fraction of them.

Officials are now focusing on illegal Internet sales. Efforts in California to crack down on such sales have been largely ineffective.

The state is considering a program modeled after one in New York. It involves working with major credit card and shipping companies to blacklist online retailers who sell illegal cigarettes.

Meanwhile, the temptation to smuggle cigarettes into California could soon be greater than ever.


“Every time taxes go up,” said Cohen of the ATF, “there is more profit for the smuggler.”



Where it goes

California imposes an excise tax of 87 cents on each pack of cigarettes sold in the state. Here’s how the money is allocated:

Childhood health and education programs : 50 cents

Tobacco-related education and research: 25 cents

The state’s general fund: 10 cents

Breast cancer research: 2 cents

Source: California Legislative Analyst’s Office