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Health-Care Loophole Exploited by Tobacco Makers


Renaming a product allows companies to avoid paying millions in taxes.

When Daniel Morris, an employee at the Oregon Department of Health, first saw the numbers, he was sure that something was wrong.

Looking at tobacco production figures for April 2009, he noticed that pipe tobacco production had more than doubled in a month. He called the federal Alcohol and Tobacco Tax and Trade Bureau, which collects the data, to ask about the apparent spike.

They assured him that there was no mistake.

From there, Morris watched as tobacco pipe production grew by leaps and bounds. In August, it reached 1.7 million pounds. Before April, and going back several years, production had averaged 270,000 pounds per month.

Were record numbers of Americans ditching cigarettes in favor of old fashioned pipes? Not at all. The massive increase in pipe tobacco production corresponded with a huge drop in the roll-your-own industry, which in early 2009 was hit with 2,000% tax increase.

Under a law passed by President Barack Obama and Congress, the extra tax revenue would help pay for expanded health insurance coverage for children. See also Glaxo and Nabi Team Up for Nicotine Vaccine.

Many believed the new law would destroy the roll-your-own industry, which saw product taxes go from $1.10 to $24.78 per pound. But tobacco companies found a way around the dilemma: They simply started rebranding their roll-your-own products as pipe tobacco, which is taxed at only $2.83 per pound. Many makers were able to make the switch seemingly overnight.

"It really shows how the industry is able to respond to changes in the tax environment," Morris said.

Pipe tobacco is normally coarser and moister than cigarette tobacco, but doesn't have to be. If the increase in pipe tobacco is just cigarette tobacco under a new name, it could cost the government's child health insurance plan about $32 million a month in lost taxes.

Small tobacco companies have defended their actions, saying they're just trying to find a way to stay in business, especially given the federal tax hike.

For the most part, the roll-your-own industry is dominated by small, independent companies, whose concerns are often overshadowed by the huge, publicly held cigarette companies, like Philip Morris, a subsidiary of Altria Group (MO), and R.J. Reynolds (RAI).

Anti-tobacco groups are enraged by the move. They point out that the same tax loophole also allows companies to sell flavored "pipe tobacco" destined to be used in cigarettes, even though flavored cigarette tobacco has been banned in effort to reduce its appeal to children.

"This is a direct challenge to the federal government," said Matthew Myers, president of the Campaign for Tobacco Free Kids.

According to a spokesperson for the Obama administration, the government is working on issuing a clearer definition of pipe tobacco versus roll-your-own.

No doubt tobacco executives are already putting together a workaround plan.

Copyright 2009 Minyanville. All rights reserved. This material may not be published, broadcast, rewritten, or redistributed. AP contributed to this report.

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