BILL ANALYSIS                                                                                                                                                                                                    Ó



          SENATE COMMITTEE ON APPROPRIATIONS
                             Senator Ricardo Lara, Chair
                            2015 - 2016  Regular  Session

          SB 591 (Pan) - Cigarette and tobacco products taxes: California  
          Tobacco Tax Act of 2015.
          
           ----------------------------------------------------------------- 
          |                                                                 |
          |                                                                 |
          |                                                                 |
           ----------------------------------------------------------------- 
          |--------------------------------+--------------------------------|
          |                                |                                |
          |Version: April 16, 2015         |Policy Vote: GOV. & F. 5 - 2,   |
          |                                |          HEALTH 6 - 2          |
          |                                |                                |
          |--------------------------------+--------------------------------|
          |                                |                                |
          |Urgency: No                     |Mandate: Yes                    |
          |                                |                                |
          |--------------------------------+--------------------------------|
          |                                |                                |
          |Hearing Date: May 11, 2015      |Consultant: Robert Ingenito     |
          |                                |                                |
           ----------------------------------------------------------------- 
          
          This bill meets the criteria for referral to the Suspense File.


          Bill Summary: SB 591 would impose an additional excise tax of  
          $2.00 per package of 20 cigarettes. The bill also would (1)  
          impose an equivalent one-time "floor stock tax" on the  
          cigarettes held or stored by dealers and wholesalers, and (2)  
          indirectly increase the tobacco products tax.

          Fiscal Impact: The Board of Equalization (BOE) estimates that  
          this bill would result in a net cigarette tax revenue gain  
          (nearly all of which would be special funds) of $665 million in  
          2015-16 (a half-year effect), and $1.3 billion in 2016-17. In  
          addition, the higher excise tax would lead to increased sales  
          and use tax revenue. For example, 2016-17 sales and use tax  
          revenues would increase by $39 million. The associated floor  
          stock tax would raise an estimated $86 million. 

          Additionally, though this measure does not directly increase the  
          tobacco products tax, current law triggers an automatic tobacco  
          products tax increase whenever the tax imposed on cigarettes is  
          increased.  Specifically, current law requires BOE to annually  







          SB 591 (Pan)                                           Page 1 of  
          ?
          
          
          determine the tobacco products tax rate at a rate equivalent to  
          the combined rate of all taxes imposed on cigarettes. Thus, when  
          the cigarette tax is increased, the tobacco products tax rate  
          increases as well. BOE estimates the increase associated with  
          this bill to be $96 million (special funds) in 2016-17.

          BOE administrative costs related to this bill are substantial,  
          likely about $10 million annually. These costs include: taxpayer  
          notification, tax return design, computer programming, cigarette  
          tax stamp design and denomination changes, and compliance and  
          audit efforts to ensure proper reporting, and floor stock tax  
          administration. Furthermore, the bill requires enhanced efforts  
          to ensure proper floor stock tax reporting and collection,  
          greater compliance efforts for additional billings and  
          delinquencies, and an increase in BOE program, audit and  
          investigative staff presence related to increased tax evasion.

          Background: Existing federal law imposes a tax of $1.01 per pack  
          of 20 cigarettes with the majority of the funds being used to  
          fund children's health programs.  The federal cigarette tax rose  
          by 62 cents in 2009 to fund the "S-Chip" federal children's  
          health programs. Existing state law imposes a tax on  
          distributors of cigarettes and tobacco products which fund a  
          variety of programs and services including: health education,  
          research, hospital care, fire prevention, environmental  
          conservation, breast cancer research and early detection  
          services, and early childhood development programs.  The excise  
          tax on cigarettes is imposed at a total rate of 87 cents per  
          pack of 20 cigarettes, allocated as follows:
                 10 cents to the General Fund.
                 25 cents to the Cigarette and Tobacco Products Surtax  
               Fund (created by Proposition 99 in 1988).
                 2 cents to the Breast Cancer Fund (created by AB 478,  
               Chapter 660 of 1993).
                 50 cents to the California Children and Families Trust  
               Fund (created by Proposition 10 in 1998).

          The tobacco products tax is imposed at a rate that is based on  
          the combined rate of tax imposed on cigarettes, as determined by  
          BOE.  The 2014-15 tobacco products rate is 28.95 percent.  
          Revenue from the tax imposed on tobacco products is split  
          between the Proposition 99 and Proposition 10 funds.

          California tax-paid cigarette distributions have decreased  








          SB 591 (Pan)                                           Page 2 of  
          ?
          
          
          dramatically over the past 30 years, both before and after  
          passage of Proposition 10. Consequently, revenues for all funds  
          supported by cigarette taxes have declined as well. Based on  
          outcomes from similar tax increases, there is strong evidence  
          that the Proposition 10 tax increase results in greater declines  
          in annual cigarette and tobacco sales than would have been the  
          case had the Proposition not passed. Current law, as added by  
          Proposition 10, requires BOE to determine the effect of  
          Proposition 10 on the consumption of cigarettes and tobacco  
          products and directs that a transfer of funds to Proposition 99  
          and Breast Cancer programs be made to backfill for revenue  
          losses to those programs resulting from consumption changes  
          triggered by Proposition 10. The intent of the backfill is to  
          keep the funding levels of certain Proposition 99 and breast  
          cancer programs from declining any more than they would have  
          decreased without the Proposition 10 tax increase. These  
          determinations do not affect the amount of taxes paid by  
          taxpayers. The Proposition 10 backfill determination is strictly  
          an issue of the magnitude of funds allocation from one set of  
          funds to another.

          Proposed Law: SB 591 would (1) impose an additional excise tax  
          of $2.00 per package of 20 cigarettes, and (2) indirectly  
          increase the tax on other tobacco products.  The bill would also  
          impose a one-time "floor stock tax" on the cigarettes held or  
          stored by dealers and wholesalers.  Except for payment of  
          refunds and backfill transfers, the bill would require BOE to  
          deposit all revenues into the Tobacco Tax Act Fund, which this  
          bill would create. The bill would require the Tobacco Tax Act  
          Fund monies to be transferred in unspecified percentages to  
          three subaccounts: (1) the Tobacco Prevention and Education  
          Account, (2) the Tobacco Disease Related Health Care Account,  
          and (3) the Tobacco Law Enforcement Account. The bill would only  
          become operative if AB 1396 (Bonta) is also enacted. 

          AB 1396 would require BOE to determine the effect of the  
          additional cigarette tax and indirect tobacco products tax on  
          cigarette and tobacco products consumption and to backfill the  
          existing cigarette tax funds to offset the revenue decrease  
          resulting from this measure's additional cigarette and indirect  
          tobacco products tax increase. That bill also includes revenue  
          allocation provisions, which currently are not specified. 

          Related Legislation: SB 768 (de León, 2013) would have imposed a  








          SB 591 (Pan)                                           Page 3 of  
          ?
          
          
          $2.00 increase per one pack of 20 cigarettes. The bill was held  
          on this committee's suspense file.

          Staff Comments: According to BOE estimates, this bill is  
          expected to raise total of 
          approximately $1.4 billion in revenues related to the excise tax  
          increase of $2.00 per pack of cigarettes. The assumed increase  
          in the retail price of cigarettes and tobacco products as a  
          result of this bill would also have an impact on sales and use  
          tax revenues.  State and local sales and use tax revenues are  
          expected to increase by $39 million in 2016-17, of which $20  
          million is General Fund.  

          Furthermore, SB 591 would impose a one-time "floor stock" tax on  
          existing inventories of cigarette dealers, wholesalers, and  
          distributors in an amount equal to the difference between the  
          old tax rate and the new tax rate.  This is intended to equalize  
          the excise tax paid by these entities on their inventory (which  
          was purchased before the effective date of the tax increase) and  
          those products purchased after the effective date.  The floor  
          stock tax mitigates the windfall profits that would occur  
          otherwise. The floor stock tax would generate about $86 million.  
          BOE would incur additional administrative costs associated with  
          the administration and enforcement of the floor stock tax, but  
          these costs would be offset by the proceeds from the tax.

          BOE would incur non-absorbable costs related to the  
          administration and collection of the additional cigarette and  
          tobacco products tax proposed by this measure.  These costs  
          would be related to notifying taxpayers, developing returns,  
          programming computers, developing and carrying out compliance  
          and audit efforts to ensure proper reporting, and administering  
          a floor stock tax.  BOE identified preliminary costs associated  
          with a similar measure in 2009 to be estimated at $11.4 million  
          for fiscal year 2009-10 and $8.8 million for fiscal year  
          2010-11, and each fiscal year thereafter. The bill imposes the  
          new tax on January 1st, 2016. Consequently, BOE would need to  
          implement and administer the bill in 2015-16. However, current  
          2015-16 budget proposals for BOE do not contain funding for  
          administrative expenses associated with this bill's start-up  
          costs. Typically, BOE seeks administrative cost reimbursement  
          from the account or fund into which tax proceeds are deposited.  
          However, this fund this bill would create lacks funding to  
          reimburse the BOE prior to collection of the tax. Upfront BOE  








          SB 591 (Pan)                                           Page 4 of  
          ?
          
          
          implementation costs would need to be addressed, most likely as  
          a loan from another eligible state fund. 

          BOE (1) indicates that 871 million tax-paid cigarettes packs  
          were distributed in 2013-14, and forecasts that a long seen  
          3-percent rate of decline in cigarette consumption will  
          continue, suggesting that consumption could decline to 795  
          million packs by 2016-17. The decline reflects both the  
          long-term decline in cigarette consumption that has occurred  
          over the last 30 years, and well as reduced demand in response  
          to this bill's $2.00 per pack increase. Finally, BOE research  
          suggests that a tax rate increase as large as the one imposed by  
          this bill is likely to cause both a decrease in actual  
          consumption and an increase in tax evasion. BOE staff recently  
          estimated an annual revenue loss of $126 million stemming from  
          evasion. Evasion losses would likely increase, given the bill's  
          proposed excise tax increase; however, the magnitude is unknown.


                                      -- END --