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The Public Accounts Committee publishes its 23rd report of this session, Progress in tackling tobacco smuggling.

The Rt Hon Margaret Hodge MP, Chair of the Committee of Public Accounts, today said: 

"Tobacco smuggling is not a victimless crime. Each year it constitutes a theft of revenue to the tune of some £1.9 billion, 20% of the total sum collected through tax. It undermines drives to cut smoking and is also linked to the activities of organized crime.

There is evidence that HMRC has made ground in tackling tobacco smuggling, with estimates indicating a drop for illicit tobacco products between 2000-01 and 2010-11. The expansion of the Department’s network of overseas officers has been particularly successful.

What concerns us is that three of the five HMRC initiatives to further tackle smuggling funded from the 2010 Spending Review had produced nothing by March 2013. The Department and Border Force have been painfully slow in taking forward new proposals to improve performance. That in turn means they missed their target for extra revenue by £200 million in two years.

This Committee welcomes innovative approaches. However, HMRC and Border Force failed to make a realistic assessment of what really could be achieved and by when. We are not convinced that the projects will cut revenue loss by £900 million by March 2015, as predicted by the Department.

HMRC is in the dark about the deterrent effect of its enforcement action. Despite the seriousness of tobacco fraud, in 2012-13 there were only 265 prosecutions for tobacco smuggling and, in the last year, prosecutions for organized crime actually fell from 62 to 51.

The Department has also failed to challenge properly those UK tobacco manufacturers who turn a blind eye to the avoidance of UK tax by supplying more of their products to European countries than the legitimate market in those countries could possibly require. The tobacco then finds its way back into the UK market without tax being paid. The supply of some brands of hand-rolling tobacco to some countries in 2011 exceeded legitimate demand by 240%. HMRC must be more assertive with these manufactures. So far it has not fined a single one of them."

Margaret Hodge was speaking as the Committee published its 23rd report of this Session which, on the basis of evidence from HMRC and Border Force, examined their renewed strategy to tackle tobacco fraud.

Tobacco duties generated £9.9 billion of revenue in 2011-12, but tobacco smuggling represents a significant risk to revenues. It undermines initiatives to reduce smoking and it is linked to the activities of organised criminal gangs. HMRC estimates that duty not paid on tobacco smoked in the UK in 2010-11 resulted in revenue losses of around £1.9 billion. HMRC launched the latest iteration of its tobacco strategy in April 2011. This is a joint strategy with Border Force; HMRC has overall responsibility for delivering the strategy while Border Force is responsible for the seizure of illicit tobacco at the border.

HMRC appears to have used some of the funding from the 2010 Spending Review, earmarked for investment in new initiatives to tackle tobacco smuggling, for business-as-usual funding of its tobacco strategy. HMRC’s 2010 Spending Review settlement included £25 million over four years to invest in new initiatives to tackle tobacco smuggling. However HMRC was also required to find efficiency savings so total spending on HMRC’s tobacco strategy in 2011-12 rose by only £3 million to £68.9 million and fell to £67.4 million in 2012-13. HMRC claims to have made efficiency savings but admitted, for example, that some of the money it earmarked for new initiatives actually funded six overseas intelligence officers already in post.

Recommendation: HMRC should be transparent about the extent to which its Spending Review investment is truly additional to the funding required for business-as-usual and where it has been used to make up any shortfall in funding elsewhere.

By the end of 2012-13, three of the five projects to be funded by investment from the 2010 Spending Review had yielded nothing. One of the projects, designed to tackle the fact that tobacco supplies far in excess of local demand are sent overseas, and are then available for smuggling back in to the UK, was abandoned because of legal concerns. HMRC and Border Force have been painfully slow in implementing new proposals designed to improve performance. HMRC achieved benefits of £328 million from reduced revenue losses by the end of 2012-13 from the five new initiatives, less than two-thirds of the benefit expected by that time (£527 million).The Committee welcomes innovative approaches to delivering benefits; however, HMRC and Border Force did not subject their plans to proper scrutiny or make a realistic assessment of the benefits achievable and their timing.

Recommendation: HMRC and Border Force should encourage innovative solutions to tackle problems, but these must be based on clear, well thought through, evidence-based proposals that can be implemented when funding is available.

We are not convinced that the 2010 Spending Review projects will deliver the £900 million benefit, in terms of revenue loss prevented, that HMRC now predicts they will achieve by March 2015. There are significant weaknesses with some of the data on which HMRC relies to demonstrate its impact. In particular, there are significant inaccuracies in HMRC’s estimates of revenue-loss prevented from criminal investigations work, which limits its usefulness as a performance indicator.

Recommendation: HMRC should include its data sources, and a clear quantitative analysis, when providing its assessment of the financial impacts achieved by March 2015 from its projects funded by the 2010 Spending Review.

HMRC has not yet found the right balance in its use of prosecutions and other enforcement action to deter potential offenders. Tobacco fraud cost taxpayers £1.9 billion in 2010-11, with 9% of cigarettes and 38% of hand-rolling tobacco sold in the UK estimated to be illicit. Yet there were only 265 prosecutions for tobacco smuggling in 2012-13 and prosecutions for organized crime actually fell from 62 to 51 in the last year. A campaign of targeted enforcement action and associated publicity could have a wider deterrent effect, but HMRC does not know what level of enforcement action is required to deter would-be offenders. HMRC has not yet found the right balance in its enforcement action, which can range from prosecutions of organised criminal gangs to imposing fines or referring offenders to licensing authorities for those involved in local, small-scale operations.

Recommendation: HMRC and Border Force should develop a clear and coherent rationale for the use of prosecutions and other enforcement action within the UK, based on good evidence of the deterrent effect. They should also publicise prosecutions and other enforcement action more widely to deter potential offenders. HMRC needs better relationships with Local Authority trading standards officers to achieve this.

HMRC must do more to work with other agencies to tackle tobacco smuggling in the UK. Joint working of this nature will improve enforcement activity, reduce supply and educate the public about the risks of purchasing illegal products. A pilot scheme launched in 2009 to tackle tobacco smuggling, by cutting public use of illicit tobacco in the UK and which involved health, trading standards and police services, produced positive results. However, despite this success the scheme has not yet been rolled out across the UK.

Recommendation: HMRC should implement effective examples of joint-working more quickly across the UK.

There is still a significant problem with the over-supply of hand-rolling tobacco, in particular, to high-risk countries. HMRC is concerned that some UK manufacturers, of hand-rolling tobacco in particular, are greatly over-estimating the size of the legitimate European market for their products and are not co-operating with HMRC to tackle the smuggling of hand-rolling tobacco. HMRC estimated that the supply of some brands of hand-rolling tobacco to some countries exceeded legitimate demand by 240% in 2011. But HMRC has not fined any UK tobacco manufacturer for over-supplying products and failing to control its supply-chain and has issued only one letter of warning. HMRC is focusing on improving cooperation with manufacturers but it must also become more assertive in using its powers where necessary and consider whether it has the full range of powers and tools at its disposal to take action.

Recommendation: HMRC should apply the supply-chain legislation to its full extent. It needs to identify and seek to correct any shortcomings in the legislation to put a stop to the abuse of exports by tobacco manufacturers. It should consider naming and shaming those manufacturers who fail to co-operate fully with the Department.

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