Tobacco industry and tax evasion

According to Pakistan Bureau of Statistics, cigarette production increased at an unprecedented pace during Covid-19

Pakistan has been a signatory to the World Health Organisation’s (WHO) Framework Convention on Tobacco Control (FCTC) since 2004. The FCTC, has 182 parties representing almost 90 percent of the world population. It is a comprehensive document aimed at controlling the increase in the number of smokers. The signatory countries agree to abide by the guidelines provided by the WHO and to enact laws/regulations supporting the suggested guideline. A breach of the clauses raises questions on the national commitment.

The WHO says that the tobacco industry is unique in that it sells products that kill almost 50 percent of its users. It seeks to lure young consumers who will continue to smoke for decades.

Low-and-middle-income countries are considered easier targets. The advertisements make these products attractive to the youth. According to a 2017 report by the US Federal Trade Commission, the tobacco industry was spending $940,000 an hour on promoting its products. The Guardian reported last month that the British American Tobacco (BAT) is spending $1 billion on social media influencers with the main focus on two countries: Kenya and Pakistan (the softest targets).

These influencers are paid to sell tobacco and tobacco replacement products. The BAT and Philip Morris are the two international giants making the most money in Pakistan. This gives these two tobacco the largest market share - almost 98 percent as reported by the Organised Crime and Corruption Reporting Project (OCCRP).

Holding 98 percent of the market share also makes them liable for a proportionally large share of taxes. The tobacco industry has a well-reported history of conniving with governments to evade taxes, prevent tax increases and diverting the attention away from the core issue. The Sustainable Policy Development Institute (SDPI) has reported earlier that tobacco industry consistently feeds misinformation for local consumption and tries to divert attention away from the fact of its products killing over 160,000 Pakistanis each year.

Article 6 of the FCTC recommends that tax should make 75 percent of the price of a pack of cigarettes. The WHO says adopting such policies has helped several countries reduce consumption by forcing many smokers to quit. It also prevents initiation of new users and results in reduction in several non-communicable diseases and cancer related deaths. It is also an additional source of source of revenue a major portion of which should be spent in the health sector. Pakistan has yet to impose the recommended level of tax on tobacco products and its expenditure on health is one of the lowest in the world in terms of a fraction of the GDP.

Many countries around the globe continue to follow contextually applicable tobacco taxes. The FCTC recommends single-rate specific taxation, which is ideally suited to raising the price of tobacco products and reduces the share of cheaper brands.

Pakistan had a two-tier tobacco taxation system. However, the tobacco industry was able to persuade the government in 2016 to introduce a third tier. The intended purpose was to increase the tax revenue. However, after the introduction of the third tier the tobacco tax revenues declined from Rs 107 billion in 2014-15, and Rs 114.27 billon in 2015-16 to Rs 83.76 billion in 2016-17. According to the financial statements of Philip Morris Pakistan and British American Tobacco, their profits went up by 160 percent and 105 percent, respectively, during 2017-18.

This prompted the Public Accounts Committee to order an inquiry to ascertain the causes of drop in tax revenue and the increasing profitability of tobacco companies. It was learnt that a portion of the top tier tobacco products was moved to the second tier. This lowered the price as well as tax revenue while the sales went up due to the reduction in the price resulting in record profits. Syed Khursheed Shah, the PAC ruled that the big tobacco was to blame for the almost Rs 30 billion loss to the national exchequer. The third tier was abolished in 2019.

It has been reported recently in the national newspapers that under recommendations of the tobacco industry the government is again considering introduction of a third tier. Such a move can have adverse effects on the national exchequer.

“Forestalling” and “frontloading” are the two terms used for stockpiling the cigarettes at cheaper prices to evade taxes. The tobacco industry over-produces cigarettes before a budget and maintains excessive stocks. When (and if) the taxes are raised in the budget, the carryover stock continues to be sold cheaper, paying less taxes. In the subsequent year the national tax revenue falls due to forestalling. The tobacco industry then claims that an increase in taxes has actually been counter-productive.

According to the Pakistan Bureau of Statistics, cigarette production increased at an unprecedented rate during Covid-19. Immediately after the budget was announced, the industry started forestalling and produced 21.4 billion sticks during July-Nov 2020, an increase of 3.5 billion sticks compared to the same period in 2019. The growth compared to the previous year was 76 percent in July, 22 percent in August and 18 percent in November.

The increase in production continued during the first quarter of 2021 when the production witnessed 24 percent increase compared to the same time period in 2020. These are clear signs of forestalling to argue that its track-and-trace taxation system or an increase in tobacco taxation will case a drop the revenue.

Giving consideration to the tobacco industry’s recommendations for an increase in tobacco taxes or sharing information on the likely increase in taxes are breaches of the government’s FCTC obligations. Article 5.3 of the FCTC says no government entity can share such information or be influenced by recommendations of the tobacco industry while making taxation decisions. Recommendations should more appropriately come from the Ministry of National Health Services Regulation and Coordination.

The tobacco industry succeeded in fooling the government in the past to get the third tier. A repetition of the mistake by the government will amount to being fooled twice.

Syed Ali Wasif Naqvi heads the Centre for Health Policy and Innovation at Sustainable Development Policy Institute (SDPI), Islamabad.  

 Waseem Janjua is a PhD scholar at NUST, Islamabad

Tobacco industry and tax evasion