The e-cigarette excise tax management challenge
What you don't know about excise tax can hurt you
So far, e-cigarette and vapor products have been able to avoid the regulations and tax obligations required of other tobacco-based products. The tide is turning. The FDA is actively considering regulating e-cigarette development, sales, and marketing similarly to cigarettes. As government regulators recognize that vapor products are displacing traditional tobacco sales, you can expect them to fight the erosion of their tax base.
Regardless of your position on increased regulation and taxation, e-cigarettes and vapor products are now going mainstream, and excise taxes will follow. States currently bring in $16.5 billion each year in cigarette excise tax revenues. Consider the follow two points pertaining to tobacco excise tax.
- Tobacco excise taxes are now a reality for vapor distributors and retailers in three states and Washington, DC. Twenty more states have considered, or are actively considering, excise taxes on vapor sales.1
- Retailers who only deal in vapor products may not be aware, but as traditional tobacco companies well know, the penalties for non-payment of taxes are severe, and ignorance of the law is not an excuse. Now is the time to prepare for compliance with these new excise taxes.2
Vapor taxes expand across the United States
As of October 1, 2015, vapor product excise taxes already apply in the following four states:
- North Carolina
- Washington, D.C.
In most cases, these states have created similar licensing, tax, and filing rules as they use for OTP (Other Tobacco Products). Of course, vapor products are a bit different, and each state has taken somewhat different approaches. See the summary of vapor taxes in the table below.
|Louisiana||Minnesota||North Carolina||Washington, DC|
||5¢ / ml||95% of wholesale price||5¢ / ml||67% of wholesale price|
||Volume of e-liquid containing nicotine||Any product that includes e-liquid containing nicotine, no tax on devices without e-liquid||Volume of e-liquid containing nicotine||Devices that can be used to produce aerosol from nicotine solution and e-liquid containing nicotine|
||First importer (distributor or retailer)||Distributor||First importer (distributor or retailer)||First importer (distributor or retailer)|
||Purchases||Purchases (resident distributor) sales (non-resident distributor)||Purchases or sales||Sales|
||Distributor, retailer||Distributor, retailer||Distributor, retailer||Distributor|
The differences across the states include everything from the tax rate, to how it’s applied, to what products are taxed, to who pays the tax, and how often returns are filed. Only Washington, DC exempts vapor products from sales tax — all others continue to charge retail sales tax on top of the excise tax. Note that the way a product is packaged can affect the tax in Minnesota. For example, a vapor “starter kit” that includes e-liquid is taxed at 95% of the entire price of the kit. If the components of the kit are sold separately, only the e-liquid would be taxable.
If you’re a vapor wholesaler or retailer from a state who purchases products from out-of-state manufacturers or distributors, you will need to pay the excise tax. Since you’re the “first importer,” you pay the tax. Anyone you sell to is purchasing tax-paid product and doesn’t need to pay an additional excise tax.
Out-of-state e-cigarette or vapor manufacturers or distributors can avoid these taxes if they don’t have nexus (a physical presence) in the state. Of course, their customers, as retailers or consumers, will then be liable for the excise tax. Even in this case, manufacturers or distributors need to be aware of the laws in these states to avoid audit liabilities for their customers. For example, Louisiana and North Carolina laws require that purchase invoices include the amount of e-liquid solution in milliliters, to enable proof in an audit that the appropriate tax has been paid.
Alabama vapor sales reporting
Even though new taxes are not yet required, Alabama now requires that all retail sales of vapor products be reported on state sales tax returns. This gives the state the ability to allocate retail sales taxes for vapor products, as well as, evaluate the tax revenue potential for any future vapor excise taxes.
Tax compliance—Why excise taxes are different
If you’re a distributor or retailer of vapor products, you may already be charging state sales tax on your sales. Most invoicing or point-of-sale systems are designed to handle sales tax, so most distributors and retailers have no problems handling these sales taxes.
Excise tax is different from sales tax in a number of ways. First, many excise taxes are volume-based, so in the case of vapor products, there’s a need to track the volume of liquid in each product or SKU. For these states, the excise tax amount is determined by applying the tax rate to the volume of product, not the price paid. Second, excise taxes may be charged on purchases, not sales. This means that you pay the tax when you bring the product into inventory, so you’ll need to track your tax-paid inventory and account for any manufacturer returns or out-of-state sales. In states where vapor products are taxed when sold, and the excise is a percentage of the sales price, the excise tax must be charged first, then standard sales tax is charged on the total, including the excise.
These complexities of excise tax calculation are often not handled well by typical point-of-sale or wholesale back-office systems. Most excise taxes are calculated and filed using time-consuming and error-prone spreadsheet-based processes. Only tax automation systems specifically designed for excise tax can handle these complexities.
The future of vapor taxation—Tobacco tax and reporting complexity
As vapor products become more mainstream and governments look to shore up declining tobacco tax revenues, more tax authorities will decide to incorporate them under their tobacco taxation umbrella. For vapor distributors or retailers doing business in multiple states, compliance with these complex tobacco tax and reporting requirements will be a complicated and evolving challenge.
Tobacco excise taxes are charged at multiple levels, including federal, state, and sometimes even local jurisdictions. Each jurisdiction taxes products (cigarette, cigar, OTP, vapor, etc.) differently, sometimes using an excise tax and sometimes a sales tax. Tax rules, rates, and forms also vary considerably across jurisdictions. In addition, tobacco sales often require Master Settlement Agreement (MSA) reporting, as well as, PACT Act reporting to help combat illegal trafficking of tobacco products.
Conclusion: Get prepared for vapor excise tax management
If you or your business partners do business in Louisiana, Minnesota, North Carolina, or Washington, DC, the time to act is now. If you aren’t collecting and filing excise tax now, you are subjecting yourself to audit liabilities and potential penalties and interest. For example, in Louisiana, you’ll need to pay all back taxes, plus a 5% penalty per month for taxes not filed on-time. Eventually, all states will require tobacco excise tax charges on e-cigarette and vapor sales, so now is the time to consider solutions.
The good news is that there are excise tax compliance solutions that can address these challenges. First, excise tax services can track the changing rules, rates, and forms as they evolve, eliminating the cost of on-going research for each jurisdiction where you do business and reducing the risk of errors and audit liabilities. Second, excise tax software can automate the tax calculation and filing process, avoiding the cost and complexities of manual, spreadsheet-based processes and the risk of missing filing deadlines. By integrating directly with your back-office systems, this software can automatically build out your tax schedules, calculate the taxes due, and complete all the forms for you. This will lower your operational costs and reduce errors.
Don’t hide your head in the sand. What you don’t know CAN hurt you. Increased tax complexity is coming for anyone selling e-cigarettes or vapor products. Prepare now and avoid the problems that come with non-compliance.
1 Federation of Tax Administrators, The Tax Burden on Tobacco, Historical Compilation, Volume 49, 2014. Web.
2 Convenience Store and Fuel News, e-cigarette Tax Bill Update, Thomas A. Briant, 6 May, 2015. Web.