The shot in the tributary foot
Article published in the Correio Braziliense newspaper on 07/03/2017
When it comes to tax burden - the level of taxes paid in relation to the country's wealth -, the latest information available, referring to the year 2016, indicates that it amounted to 32,38% of the Gross Domestic Product (GDP). In other words, of all that the country produced, 32,38% ended up in the coffers of governments in the form of taxes, in its various forms (taxes, fees, contributions, etc.). The year 2016 marked a sequence of three consecutive annual increases for this indicator.
The result is actually a photograph of very different situations, consolidating an average. In some sectors, taxes rise more, others even reduce them at different times. It is true that a wide-ranging transformation of the tax system, so demanded by the productive sector, is perhaps the most difficult to be accomplished, so many are the interests of the municipalities, states and the Union involved in the issue. The great difficulty is being able to articulate a consensus to move forward.
While Congress is not doing its part, some cases call attention to the disastrous effects that raising taxes can have. With the eagerness to raise more, the government often does not realize that it is shooting itself in the foot, reducing the collection and fostering the illegal market.
This is the case of the tobacco market in Brazil. Currently, the tax burden on the formal cigarette industry is 71% on average, reaching, in some cases, almost 90%, a rare rate for any type of product.
If the government's idea is to tax to reduce consumption, for the sake of public health, it is a shot in the foot. And if the intention was just to increase the collection as a whole by heavily taxing a “superfluous” product, it is a shot in the other foot. In both cases, the reason is the same: the increase has not even reduced consumption, nor has it contributed to the increase in revenue.
To understand why the effect did not correspond, until today, to what the government imagined, it is necessary to go back in time.
Over the past few years, there have been disproportionate tax increases in the formal cigarette industry: from 2011 to 2017, the IPI for cigarettes rose 140%, compared to inflation of only 44%, by the IPCA. In the same period, 19 state governments increased the ICMS tax rate on cigarettes, with an average increase of five percentage points in the rates practiced.
And what was the effect? The disproportionate tax increases contributed to increase the difference between the average prices practiced in the formal and illegal markets, encouraging smuggling and the installation of tax evasion industries in Brazil.
Quickly, a significant part of the consumption that existed from the formal industry migrated to the illegal market. Contraband and the illegal cigarette produced here dominate 48% of the Brazilian market. In other words, there was no big reduction in cigarette consumption, only the “share” changed - smuggled cigarettes, cheaper, started to be consumed more and their brands are the leaders of our market. And this is just one side of the issue: on the other we have that the tax collection base was severely deteriorated, in 2017 tax evasion reached levels close to 45%.
In real numbers, an evasion of 45% can be estimated at around R $ 9,7 billion. This resource accounts for 1.6 times the budget of the Federal Police, which is responsible for fighting crime.
Today, among the three most commercialized cigarette brands in Brazil, two are from Paraguay. And why Paraguay? First, because the neighboring country is a major producer of the commodity - it produces twenty times more than domestic consumption, without, however, exporting legally to any country. But there is another answer to the Paraguayan question. There is a tax asymmetry between Brazil and the neighboring country that certainly encourages trade in illegal brands and puts the sustainability of Brazilian industry at risk. If the tax burden, as we have seen, is 71% in Brazil, in Paraguay it is no more than 16%.
Shot in the foot, shoulder and back: currently, Brazil is already the largest illegal cigarette market in the world. And it will continue to be so long as the Brazilian government does not understand that it is not by further increasing product taxes that we will have a reduction in consumption or an increase in revenue.
* Edson Vismona, president of ETCO - Brazilian Institute of Competition Ethics