How the illicit cigarette industry has beaten Sars

During the past few weeks, several newspapers have been running advertisements under the banner #takebackthetax, with slogans such as “Petrol will be cheaper if we take back our R7 billion” and “VAT doesn’t have to increase if we take back our R7 billion”. Another alludes to the fact that the distressed school system could employ thousands of more teachers.

The R7 billion refers to tax avoidance – every year – by the manufacturers and distributors of illicit and illegal tobacco products in SA, says the Tobacco Institute of Southern Africa (Tisa), which has embarked on a campaign to highlight the problems facing legal and tax-compliant cigarette manufacturers in SA.

“The legal industry must compete against an organised illicit cigarette industry that sells cigarettes for as little as R10 per packet, although the minimum tax payable per packet of 20 cigarettes amounts to R17.85. It is obvious that due taxes are not paid,” says Francois van der Merwe, CEO of Tisa.

In 2015, a judgment in the Eastern Cape High Court found that tobacco products selling for prices less than the minimum collectable tax must be illegal. In that matter, relating to sales of Gold Leaf Tobacco Company’s Savannah brand at R8 per packet – even then well below the tax owed to the South African Revenue Service (Sars) – the judge found that “the logical inference to be drawn is that no excise duty was paid in respect of the cigarettes in question.”

In total, brands selling for less than the payable tax have gained a share of nearly 27% of the total cigarette market in South Africa. Tisa calculates that tax avoidance will cost the SA Treasury around R7 billion in lost revenue in the current financial year and a total of nearly R30 billion since 2015, when Sars stopped policing dubious manufacturers.

Sars acknowledges the problems and associated dangers of illicit cigarettes. A policy statement on the Sars website states: “Illicit cigarettes are not just harmful to the economy, but often also to smokers who consume them with low-quality dangerous substances. A large number of illicit cigarettes are consumed in South Africa every year. That means we lose in excise revenue every year. That sort of revenue would build quite a few more schools, roads and houses, which we need.”

With the introduction of a new Sars compliance programme in 2013, the then commissioner of Sars, Oupa Magashula, said “we believe that if you are making your fair contribution and doing the right thing, you deserve to know that everyone else is doing so too!”

The programme listed the illicit cigarette industry as one of the big problem areas with regards to tax avoidance.

“We are aware that a significant number of illicit cigarettes are consumed in SA each year, amounting to a considerable loss of revenue,” according to the policy document (published in 2013). Unfortunately, soon after Sars enforced its plans for stricter enforcement against a number of transgressors, minister of finance Pravin Gordhan was replaced and senior personnel at Sars were moved aside in what seemed like a pertinent strategy to make life easier for tobacco smugglers.

In one of several parliamentary investigations into the mismanagement of government institutions and state enterprises, Gene Ravele, the former chief enforcement officer at Sars, testified that cigarette manufacturers had not been inspected since at least 2015.

In addition to the loss of much-needed tax revenue, illicit cigarettes pose a health risk.

The Economics of Tobacco Control – an authoritative study of the industry by economists Iraj Abedian, Rowena van der Merwe, Nick Wilkins and Probhat Jha of the Applied Fiscal Research Centre at the University of Cape Town published in 1998 – features research done in collaboration with 34 international experts into the effect of taxation on the consumption of tobacco.

The study found that the best tool for reducing smoking is to levy a substantial tax on tobacco products and enforce compliance. One of its conclusions was that excise duty is a potent mechanism for reducing consumption in SA because consumers in developing countries tend to be more price-sensitive.

“Optimal taxation policy on cigarettes will maximise revenue generation, while at the same time constraining consumption and promoting public health.”

Sars did not respond to questions from Moneyweb, save for an email to acknowledge that they received our enquiries (three weeks ago).

Meanwhile, illicit cigarette factories are raking in billions. A recent report by Ipsos, the third largest research agency in the world, found that one of the suspicious brands has grown to be the second biggest cigarette brand in SA. The report found that RG, a Gold Leaf Tobacco Brand selling for an average of just more than R10 per packet, is now the second largest selling brand in SA after Peter Stuyvesant.

The question remains: how it is possible to sell packs for less than the payable tax, year after year?

According to Google Maps, the Sars office in Randburg is 18.9 km from Gold Leaf Tobacco’s head office in the Meadowview Office Park in Sandton. A tax inspector can literally stop by on their way to work tomorrow morning to ask how they are able to sell cigarettes for way below the minimum tax payable and still remain in business.

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