State (MI) pursues unpaid taxes on tobacco bought online

Smokers feeling unexpected burn
States demand taxes on sales via Internet

By Tim Jones
Tribune national correspondent
Published March 7, 2005

The one-page greeting from the Michigan Department of Treasury came out of the mailbox, but to Julia Sidebottom it may as well have come from the moon. Tucked amid the legalese was the line that said her boyfriend owed the state $4,797.87 in unpaid cigarette taxes.

"I was totally flabbergasted," Sidebottom said. "At first you don't know what to think. . . . I thought it was some kind of a joke."

Michigan, Illinois and other states are giving smokers who buy cigarettes over the Internet a lot to think about, in the form of letters notifying them that they owe thousands of dollars in taxes on bargain-priced smokes. More than 530 Michigan residents received tax bills in the past two weeks, with the average individual liability being $3,200.

In Illinois, about 1,300 people who bought cigarettes over the Internet are about to be notified that they must pay the state's 98-cent-per-pack tax, an Illinois Department of Revenue spokeswoman said.

The collection effort is part of a stepped-up campaign by states, including New York, Pennsylvania, Ohio and Oregon, to capture millions of dollars of unpaid cigarette tax revenue--as much as $2 billion annually--from hundreds of thousands of people who buy the cheap smokes over the Internet and avoid dramatically higher cigarette taxes in their home states.

In January, New York City's Department of Finance notified about 3,700 people that they had skirted the city's $3-per-pack tax by purchasing over the Internet. Some owed as much as $10,000 in unpaid taxes. Ohio has targeted 1,000 people for non-payment of cigarette taxes.

In Michigan, where thousands more cigarette purchasers soon will be notified, treasury officials referred the names of 121 people to the state police for criminal investigation because they bought more than 300 cartons of cigarettes over the Net tax-free, presumably to resell them.

"We're learning more about this, and we're getting a little better sense of the operation," said state Treasury Department spokesman Terry Stanton, adding that investigators have targeted 13 Internet sites and are obtaining the sales records in pursuit of Michigan residents who avoided the state's $2-per-pack tax.

Tax collection a problem

The collection of taxes for goods sold over the Internet is increasingly problematic for state and local governments. Recent studies project that they are losing tens of billions of dollars annually because many sales evade taxation. Tobacco sales are only a small part of the picture, but they are important because states increasingly rely on cigarette taxes to mend budget holes.

In recent years some states, such as California, tried--to little effect--to recover cigarette tax revenue, shut down Internet operations or prevent the smokes from being delivered. Now, driven by huge state budget deficits, 44 state attorneys general will meet in Washington this month to discuss the problem of tobacco sales over the Net and what they can do about the hundreds of Internet operations with such names as cheapsmokesbymail.com, cigs4free.com and notaxsmokes.com.

By going after the buyers of cigarettes, said Jeff Cohen, assistant chief counsel for the federal Bureau of Alcohol, Tobacco, Firearms and Explosives, the "word is getting out" about big tax liabilities.

"I think most people realize that something must be fishy if they buy something at a fraction of the cost," Cohen said.

Sidebottom, who lives with her boyfriend in the northern Detroit suburb of Waterford, disputes that claim, arguing that she thought the cigarettes were a low-priced deal, as are many items sold on the Internet.

That doesn't matter to Michigan treasury officials; the tax is owed, they say. And they're putting the muscle on cigarette buyers and using them as public examples in efforts to cripple the sale of tax-free cigarettes.

The aggressive enforcement comes as more state legislatures are pushing even higher cigarette taxes to plug budget holes and pay for state programs such as public education and Medicaid.

Illinois Gov. Rod Blagojevich has proposed boosting the state's 98-cent cigarette tax by 75 cents. Iowa lawmakers are weighing an 80-cent increase in the state tax, currently at 36 cents per pack. Indiana lawmakers are considering a boost of as much as 40 cents in the state's 55 1/2-cent tax. In Ohio, the 55-cent tax could rise to $1.

Thirty-four states have raised cigarette taxes since 2002--by as little as 8 cents to as much as 75 cents--and as those levies have jumped, tobacco sales over the Internet have exploded, as have the number of online cigarette sites, estimated to number 800 to 1,000. New York has estimated it loses $500 million to $600 million annually from cigarette sales through the Internet, toll-free phone operations and American Indian reservations.

"As taxes go up, Internet sales go up," said Dana Bolden, a spokesman for Philip Morris USA, the giant cigarette manufacturer. Indeed, online buyers can save 50 percent or more depending on the tax level where they live.

One private study projected that online cigarette sales could reach 14 percent, or more than $5 billion, of total U.S. sales by the end of this year.

Austan Goolsbee, an economist at the University of the Chicago who co-authored a study last fall on cigarette taxes and Internet sales, forecast that tobacco tax collections would be diluted by 25 percent to 40 percent as a result of online competition. Goolsbee said the "root of the problem for the states is that it is hard for them to enforce" a 1949 federal law that requires dealers who ship cigarettes across state lines to individuals to report the sale to the buyer's home state.

State enforcement is further complicated because most Internet cigarette operations are based on American Indian reservations, where state jurisdiction often is unclear.

Federal responsibility remains scattered, although the General Accounting Office recommended in a 2003 report that jurisdiction for handling Internet cigarette operations be given to the Bureau of Alcohol, Tobacco, Firearms and Explosives, an arm of the U.S. Justice Department.

States adopt strategy

For now, though, a growing number of states are attacking the problem by subpoenaing the sales lists of Internet operations. In that regard the effort resembles the moves of the recording industry's fight several years ago against Napster, the former pirate music downloading service.

Sidebottom, who said her boyfriend is in the early stages of Alzheimer's disease, complained that there was no warning from the state.

"When there was the big issue with Napster, at least there was some indication so you knew not to do it, so you stopped," she said.

Stanton, the Michigan treasury spokesman, said the state issued warnings after it raised the cigarette tax to $2 a pack in 2002.

Sidebottom argued that smokers are being persecuted while billions of dollars of retail sales over the Internet go untaxed.

"It's not politically correct for anyone to be a smoker right now, so they'll come after us," Sidebottom said.

"And this is just the tip of the iceberg. We're only in the first wave. I know any number of people who have purchased [cigarettes] online, and I tell them to be prepared because they're coming after you. They're scared to death, scared to death."
http://www.chicagotribune.com/

State (MI) pursues unpaid taxes on tobacco bought online
02/18/2005
LANSING, Mich. (AP) - The state has begun billing smokers for the taxes they avoided by purchasing tobacco online.

The Treasury Department so far has sent letters to 533 customers of one online seller, seeking $1.7 million in unpaid taxes. At least 13 online tobacco retailers operate in Michigan.

The rapid growth of Internet cigarette sales prompted state officials to step up enforcement of the tax law, treasury spokesman Terry Stanton told the Detroit Free Press for a Friday story. Although there is no hard evidence, officials say they believe Michigan's $2-per-pack cigarette tax - the nation's third-highest behind New York City and New Jersey - has prompted more smokers to shop for cheaper prices.

State law allows only licensed sellers who pay the appropriate tax to bring cigarettes into Michigan from other states. Penalties are not assessed against people who bring less than $50 in cigarettes into the state.

The targets of the state's collection efforts will face only back taxes, not criminal charges for smuggling, Stanton said.

One of those targets is Diane Germain of Wayne County's Canton Township, who said she received a $2,500 tax bill for online purchases made from early 2003 to August 2004.

"My reaction was shock and `Oh my God, I cannot believe (Gov.) Jennifer Granholm is doing this to everybody,'" said Germain, 37, who smokes a pack a day.

"I guess a part of me knew doing this was probably wrong because I was going around the taxes in Michigan, but another part of me really didn't think it was wrong because it was available on the Internet," she said. "I figured if it was really such a big deal, the state would have put out a few warnings to Internet buyers saying what you're doing is illegal."

Germain said she bought about six to eight cartons of cigarettes at a time, paying about $15 a carton - $5 less than the Michigan tax alone on a carton. She said she probably saved a few thousand dollars by buying cigarettes over the Internet, adding, "I probably saved right around what they're billing me."

Treasury officials are issuing subpoenas to online retailers in other states to obtain the names, addresses and purchase records of Michiganians who bought cigarettes from them. In almost every case, such sales do not include the cigarette tax that must be paid to the state, regardless of who the seller is or the amount purchased.

A 1949 federal law allows the collection of purchasers' names, Stanton said.

Tobacco retailers and wholesalers, who blame both Internet sales and the $2-per-pack tax for a downturn in business, welcome the state's crackdown.

"People are cheating the system. They are hurting Michigan small businesses, and they're very open about it," said Mike Sarafa, president of the Associated Food Dealers of Michigan. "People tell store owners they're buying a pack of cigarettes only because they're waiting for their next shipment (bought online) to come in."
http://www.freerepublic.com/focus/f-news/1345916/posts

On the Net:
Michigan Department of Treasury, http://www.michigan.gov/treasury
Information from: Detroit Free Press, http://www.freep.com

Michigan Resorts to Bullying Smokers
State sends bills to citizens demanding the $2 per pack tax to be paid on internet
cigarette purchases.
February 24, 2005
http://www.atr.org/pdf_feb05/pr-mi-tobacco022205.pdf