Black market blues: why the UK must close the tax gap on tobacco, fuel and alcohol

As long as taxes on tobacco, fuel and alcohol are high, the Government will fail to tackle the serious and growing problem that is the illicit market

Are smokers being forced into opting for dodgy cigarettes?
Emma Boon
On 10 April 2012 14:37

A few weeks ago nearly 50,000 illegal cigarettes and 50kg of hand rolling tobacco worth £19,000 were seized by HM Revenue and Customs (HMRC) in a series of raids on shops in Derby. That haul represents just one small part of a huge illicit market operating in Britain. It’s a constant battle for HMRC to try and stay one step ahead of the smugglers and their activities, which are costing taxpayers billions.

The latest research by the TaxPayers’ Alliance suggests that no less than £28.5 billion in tax revenue has been lost to the black market in spirits, beer, cigarettes, hand rolling tobacco and diesel in the last five years.  Not so much an excise gap as a tax gulf; it’s enough money to fund a penny cut in the basic rate of Income Tax for all UK earners. 

Not only does the black market cost taxpayers money, it has a devastating impact on retailers selling legitimate products, who cannot compete with those who are breaking the law. George Osborne could do something about all of this, and help struggling families at the same time by cutting the duty on tobacco, fuel and alcohol. Yet instead he actually used Budget 2012 to increase duty on tobacco, fuel and alcohol, despite the fact that we already have amongst the highest tobacco and fuel duties in the world – and despite the fact that those on relatively low incomes are the most likely to smoke, drink and depend on their cars, making these probably the most regressive measures in the Budget.

Smokers and drinkers can, at least, give up if they choose to. For politicians sitting in Westminster it is easy to forget that filling up the car is not an optional extra for many people around the country, but an absolute essential.  Fuel Duty is now so high that most of what you pay at the pump goes straight to the taxman. Those who live outside major cities, who don't have the option to take the tube or a bus or a train, will have less money in their pockets thanks to the Fuel Duty rise laid out in Budget 2012. They have no option but to use their cars to get to work, to drive the children to school or to go to the shops for a pint of milk. 

In 2004 the BBC reported  that fuel fraud was "one of the fastest growing parts of the black market costing British taxpayers billions of pounds a year". It is largely diesel that is sold on the black market with farmers paying just 11 pence a litre in tax on the fuel, compared to the almost 58 pence paid by regular motorists. Criminals set up plants designed for large scale removal of the red dye from agricultural diesel, meaning it can be sold on to unsuspecting motorists without their fuel tanks becoming dyed red - evidence that diesel intended for agriculture has been used. £6.4 billion in tax revenue has been lost to the illicit market in diesel alone in the five years since 2005.

It's not just fuel where duty is so high that there is an enormous incentive to try to avoid paying it by using the black market. Cigarette smuggling is also a huge problem, with illegal products accounting for 16 percent of the entire smokes market. The picture is even worse for tobacco, with half of the entire hand rolling tobacco market being swallowed by illicit trade. The Chancellor put 37 pence on a packet of 20 cigarettes in March, which is unlikely to improve the situation. It also means that those who smoke a pack a day will receive practically no benefit from the changes to Income Tax Osborne made as it almost wipes out the entire value of the rise in the Personal Allowance. 

This is not the first time that tobacco taxes have been increased substantially above inflation and a World Health Organisation (WHO) report  in 2004 found that when taxes were increased by 5 percent over inflation in 1998 and 1999, revenues declined “because of continuous growth in smuggling”. The report stated “by 1999, the revenue lost through tobacco smuggling was estimated to be about 25 per cent of all tobacco revenue”.

The social implications of high taxes are thrown into stark focus by what is happening with alcohol, fuel and tobacco. Ordinary, law abiding citizens are driven to engage in illegal behaviour by purchasing goods from the black market. The smugglers are getting richer from their activities and it's taxpayers who are losing out. Most smokers would rather buy legitimate products than risk their health on dodgy cigarettes, but if the Chancellor makes it more expensive for them to smoke, then they will respond, probably by buying on the black market.

The WHO report also found that the equivalent of two people simply switch to the illicit market for every one person who stops smoking because of higher prices. Politicians cannot ignore behavioural responses when contemplating the effects of taxes and regulations.

As the government tries to restore the public finances to order and cut the deficit, it is imperative that this tax gap is closed.  As long as taxes on tobacco, fuel and alcohol are high, the Government will fail to tackle the serious and growing problem that is the illicit market. They need to give struggling families a better deal and put the smugglers out of business by cutting duties on alcohol, tobacco and fuel.

Emma Boon is Campaign Director at the Taxpayers' Alliance. She tweets at @emmaboon

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