Tobacco majors thought they had things under control with the new government. Not quite! Reportedly, the Prime Minister, who built his philanthropic career fighting cancer, has decided to raise the costs smoking. If news reports are credible, the upcoming budget will abolish the controversial three-tier FED regime and impose a ‘health tax’ of Rs10 per cigarette pack.
Until recently, tobacco industry officials sounded satisfied that their lobbying efforts had kept both proposals at bay. Now they must be rushing to Islamabad to get some clarity on what is coming. For the rest of us, though, the smokescreen will clear out by June 11, when the budget is scheduled for release. Whether the top two slabs (which will become tier 1 and tier 2 in the two-tier system) will get further FED hike on top of Rs10 levy is unclear. Previously, an inflation-adjusted hike was anticipated by the industry.
If the two measures indeed did take effect for FY20, the effects would likely disappoint the formal industry, please the health advocates, and boost the treasury.
First, let’s take the health tax, which in December last year was proposed as a ‘sin tax’ by the ex-health minister. If the price of each cigarette pack went up by Rs10 due to this measure, it would net the federal government at least Rs30 billion per annum, assuming sales of at least 60 billion sticks each year. (For more, read: “Sin tax has fiscal virtues,” published December 12, 2018).
A lot depends on how the health tax is introduced in the budget, as it may be contested by the private sector on different grounds. One is the nomenclature of the tax/levy – for instance, will the revenues be part of the federal divisible pool or will they go straight to the federal coffers? The other issue is of ‘discrimination’ – tobaccos might argue that a specific levy from tobacco consumption is being directed towards healthcare schemes in general and not towards tobacco control/treatment initiatives in particular.
On the second measure of reverting to two FED slabs, things get more complicated. A couple of think-tank reports have recently explained how the three-tier regime led to lower cigarette prices, growth in per capita consumption, and tax loss of up to Rs45 billion in FY18. (Refer to “Scale of tax loss in tobacco,” published December 18, 2018). They have argued that a two-tier system will be better for public health and revenues. (Read: “A case against multi-tier tobacco tax regime,” published December 17, 2018).
It looks like it is time to test those assertions. While health activists will be satisfied with the reported rollback of three-tier system, there is also a likelihood that higher effective FED rate under a two-tier regime will hurt formal tobacco companies, as informal, duty-evading local cigarette manufacturers will become more competitive. Falling industry volumes, in turn, may lead to loss of government revenues.
That side of the story has some early evidence. Analysis shows that the three-tier system had helped recover tax revenues in 2018. (Read: “Did tobaccos deliver on taxes?” published March 25, 2019). In all fairness, it is too early to judge the fiscal efficacy and health-related impact of the three-tier system. But by annulling it after a couple of years, one will never know for sure.
https://www.brecorder.com/2019/03/25/482899/did-tobaccos-deliver-on-taxes/
Be that as it may, it appears that the tobacco industry misjudged the Khan government’s intent on tobacco control. Or perhaps fiscal realities of late had a bigger role to play in the government’s change of heart. Let’s wait a couple of weeks to see what the budget actually has in the pack.