Electronic Cigarettes: Effect on Federal Excise Taxes Collected on Traditional Cigarettes Is Not Currently Evident
Released: 2015-09-14T00:00:00


Highlights: section_title: Why GAO Did This Study
paragraphs: While use of traditional cigarettes in the United States continues to decline, use of e-cigarettes is increasing. Treasury collects FET on cigarettes and other tobacco products manufactured in the United States. The Internal Revenue Code of 1986, as amended, does not specifically define or list a tax rate for e-cigarettes. The decline in cigarette use has led to a decline in cigarette FET revenue, from $15.3 billion in fiscal year 2010 to $13.2 billion in fiscal year 2014. FDA currently regulates four tobacco products. In April 2014, FDA proposed to deem additional tobacco products, including e-cigarettes, subject to its tobacco product authorities.

GAO was asked to examine issues related to the U.S. e-cigarette market. This report examines the extent to which (1) e-cigarette use affects cigarette FET revenue, and (2) data on quantities and prices of e-cigarettes on the U.S. market are available from federal agencies.

GAO conducted a regression analysis to assess the effect of e-cigarette use on cigarette FET revenue from April 2009 through December 2014, using Treasury data on FET revenue from cigarettes. GAO also reviewed agency documents and interviewed agency officials and industry experts.

section_title: What GAO Found
paragraphs: GAO's analysis found no evidence that use of electronic cigarettes (e-cigarettes) has affected federal excise tax (FET) revenue from traditional cigarettes, which has been declining over time (see figure). Possible reasons for the lack of a detectable effect include the small size of the e-cigarette market (estimated at $2.5 billion in 2014) relative to the cigarette market ($80 billion in the same year); lack of comprehensive and reliable data on e-cigarette quantities and prices; and lack of comprehensive and reliable information about the extent to which e-cigarettes substitute for cigarettes. If users consume e-cigarettes instead of cigarettes, cigarette FET revenue would decline as fewer cigarettes are consumed. Data from a recent survey by the Centers for Disease Control and Prevention showing high school students' increasing use of e-cigarettes and decreasing use of cigarettes suggest that these students may substitute e-cigarettes for cigarettes to some extent. If the percentage of high school students using cigarettes continues to decline, cigarette FET revenue could also decrease at a greater rate than the average historic trend observed since April 2009, when FET on cigarettes and other tobacco products was last increased.

Comprehensive data on e-cigarette quantities and prices are not available from federal agencies. The Department of the Treasury (Treasury) and Food and Drug Administration (FDA) do not collect data on e-cigarette quantities comparable to data that they collect for cigarettes and some other tobacco products. According to FDA officials, if e-cigarettes are deemed subject to FDA's tobacco product authorities as a result of a rule proposed in April 2014, the agency could start collecting some data on the types of e-cigarettes on the U.S. market but will not collect data on the quantities of e-cigarettes sold. The Bureau of Labor Statistics began collecting data on e-cigarette prices in September 2014 as part of its data collection for the Consumer Price Index, but these data are limited.

section_title: What GAO Recommends
paragraphs: GAO is not making recommendations in this report.

section_title: Letter
paragraphs: While use of traditional cigarettes in the United States continues to  decline among both adults and adolescents, electronic cigarettes—known  as e-cigarettes—are becoming more popular and widely used. For  example, according to the most recent survey data from the Centers for  Disease Control and Prevention (CDC), from 2011 through 2014, e- cigarette use among high school students increased from 1.5 percent to  more than 13 percent. The Department of the Treasury (Treasury) is  responsible for collecting federal excise tax (FET) on traditional cigarettes  (cigarettes) and other tobacco products manufactured in the United  States, pursuant to the Internal Revenue Code of 1986, as amended  (IRC). The IRC does not specifically define or list a tax rate for e- cigarettes. The decline in cigarette use has led to a decline in FET  revenue from cigarettes, from $15.3 billion in fiscal year 2010 to $13.2  billion in fiscal year 2014.

To reduce tobacco use and protect public health, Congress passed the  Family Smoking Prevention and Tobacco Control Act (Tobacco Control  Act) in June 2009, amending the Federal Food, Drug, and Cosmetic Act  and granting the Food and Drug Administration (FDA) authority to  regulate the manufacture, distribution, and marketing of tobacco  products. The Tobacco Control Act granted FDA immediate authority to  regulate cigarettes, cigarette tobacco, roll-your-own tobacco, and  smokeless tobacco. The Tobacco Control Act also gave FDA the  authority to regulate any other product that the agency deems by  regulation to be subject to its tobacco product authorities, and in April  2014, FDA issued a proposed rule to deem additional products, including  e-cigarettes, to be subject to such authorities.

You asked us to examine a number of issues related to the U.S. e- cigarette market. This report examines the extent to which (1) e-cigarette  use affects FET revenue from cigarettes and (2) data on quantities and  prices of e-cigarettes on the U.S. market are available from federal  agencies. Although the emergence of e-cigarettes has public health  implications, this report focuses on e-cigarettes’ effects on revenue. We  issued a previous report about e-cigarette imports.

To determine whether e-cigarette use affects cigarette FET revenue, we  examined cigarette FET revenue from April 2009, when the last increase  in the FET rate on cigarettes and other tobacco products took effect,  through December 2014. We analyzed the effect of e-cigarettes on  cigarette FET revenue only, since cigarettes represent about 90 percent  of the tobacco market in the United States. For this analysis, we used  data obtained from Treasury on FET revenue from cigarettes removed  from domestic factories or released from customs custody for distribution  in the United States. We assessed the reliability of the cigarette removals  data by checking the data for inconsistency errors and for completeness,  and we determined that these data were sufficiently reliable for the  purposes of this report. Using these data and testimonial evidence  regarding when e-cigarettes began to have a significant presence on the  U.S. market, we constructed a multivariate model that estimates the effect  of e-cigarette use on cigarette FET revenue. The model controls for a 6- year historical trend in cigarette FET revenue, the presence of e- cigarettes through a time variable, other tobacco products (e.g., cigars,  roll-your-own tobacco, and pipe tobacco), and seasonality effects. To  describe the extent to which federal agencies collect data on quantities  and prices of e-cigarettes, we reviewed agency documents and regulatory  actions. In addition, we interviewed officials from Treasury’s Alcohol and  Tobacco Tax and Trade Bureau and Treasury’s Office of Tax Analysis,  the Department of Health and Human Services’ (HHS) FDA and CDC, the  Department of Labor’s (DOL) Bureau of Labor Statistics (BLS), and the  U.S. Patent and Trademark Office (USPTO) to obtain information and  views about e-cigarette and tobacco trends and regulation. We also  interviewed industry experts, including e-cigarette industry members,  tobacco industry members, financial analysts, researchers, and  representatives of public health organizations as well as representatives  from private companies that collect e-cigarette data. Further details about  our scope and methodology appear in appendix I.

We conducted this performance audit from September 2014 to  September 2015 in accordance with generally accepted government  auditing standards. Those standards require that we plan and perform the  audit to obtain sufficient, appropriate evidence to provide a reasonable  basis for our findings and conclusions based on our audit objectives. We  believe that the evidence obtained provides a reasonable basis for our  findings and conclusions based on our audit objectives.
subsections: section_title: Background
subsections: section_title: Types of E-cigarettes
paragraphs: The term “e-cigarettes” refers to a wide range of products that share the  same basic design and generally consist of three main parts: a power  source (typically a battery), a heating element containing a wick (to  deliver liquid to the heating element), and a cartridge or tank containing  liquid solution. Cartridges and liquid are often sold separately from e- cigarette devices containing the battery and heating element. Liquid  typically contains nicotine, a solvent (e.g., propylene glycol, glycerin, or  both), and flavorings. E-cigarettes heat liquids to deliver aerosol that  usually contains nicotine and other chemical substances to the user by  inhalation. E-cigarettes come in two main forms:

Closed systems that include disposable e-cigarettes or require users  to buy e-cigarette components, including the cartridge with liquid, from  the same manufacturer or brand.

Open systems that enable users to purchase the heating element,  battery, tank, and liquid separately and from different manufacturers  or brands.

section_title: U.S. E-cigarette Market
paragraphs: Industry experts we interviewed estimated that the size of the U.S. e- cigarette market in 2014 was about $2.5 billion. Although there are no  definitive data on the relative proportions of imported and domestically  manufactured e-cigarettes, industry experts we interviewed told us that  the majority of e-cigarettes sold in the United States are imported from  China.

The U.S. e-cigarette market has developed rapidly in the last decade.  U.S. Customs and Border Protection issued a customs ruling for the  classification of e-cigarette imports to the United States as early as 2006.

USPTO issued a registration for a trademark applied to e-cigarettes as  early as May 2008 and had recorded more than 1,600 U.S. trademark  registrations for e-cigarette devices, parts, liquid, and services as of  March 2015. Hundreds of e-cigarette companies participate in the U.S. e- cigarette market. Large tobacco companies began entering the U.S. e- cigarette market in 2012 and now manufacture some of the leading  closed system e-cigarette brands, according to industry experts we  interviewed. Some industry experts we spoke with predict that the U.S. e- cigarette market will continue to grow, although factors such as the extent  of federal and state regulation create uncertainty about the rate of growth.

E-cigarettes are sold in multiple types of outlets, including traditional retail  stores, such as convenience stores and grocery stores, as well as at  “vape stores” and over the Internet. According to industry experts,  closed system e-cigarette products are mainly sold in traditional retail  outlets, while open system e-cigarette products are often sold online and  at vape stores. Private companies collect point-of-sale data on the  quantities and prices of e-cigarettes sold at traditional retail stores,  according to documentation from these companies; however, these data  do not cover online sales or “vape store” sales. Financial analysts from  one firm estimate that 40 to 60 percent of e-cigarettes are sold online or  at vape stores.

section_title: E-Cigarette Use among U.S. Adults and Adolescents
paragraphs: In 2014, CDC reported a statistically significant increase in the  percentage of U.S. adults who had used e-cigarettes in the preceding 30  days, from 1 percent in 2010 to 2.6 percent in 2013. Past-month e- cigarette use was especially prominent among current adult cigarette  smokers and grew in this population, at a statistically significant level,  from 4.9 percent in 2010 and 2011 to 9.4 percent in 2012 and 2013. Past- month e-cigarette use by former adult cigarette smokers also rose, from 1  percent to 1.3 percent during the same period, although the increase was  not statistically significant.

The National Youth Tobacco Survey by CDC and FDA showed a  statistically significant increase in high school students’ past-month e- cigarette use, from 1.5 percent in 2011 to 13.4 percent in 2014. In  addition, the survey found that in 2014, high school students’ past-month  e-cigarette use surpassed their use of cigarettes and other tobacco  products at a statistically significant level (see fig. 2). The survey further  found a statistically significant increase in past-month e-cigarette use  among middle school students.

section_title: Proposed Rule to Subject Additional Products, Including E-cigarettes, to FDA’s Tobacco Regulation
paragraphs: In April 2014, FDA issued a proposed rule to deem e-cigarettes and other  products meeting the Tobacco Control Act’s definition of “tobacco  product” to be subject to the agency’s regulation. FDA received more  than 135,000 comments about the proposed deeming rule during the  public comment period, which ended in August 2014. FDA announced its  intent to issue the final rule in June 2015 in the spring 2015 semiannual  regulatory agenda. The final rule had not been issued as of August  2015.

The Tobacco Control Act aimed to, among other things, promote  cessation to decrease health risks and social costs associated with  tobacco-related diseases. According to the act, FDA can, by regulation,  require restrictions on the sale, distribution, advertising, and promotion of  a tobacco product if the agency determines that the proposed regulation  is appropriate for the protection of public health, based on a consideration  of the risks and benefits to the population as a whole, including users and  nonusers of tobacco products. In the act, Congress recognized that  virtually all new users of tobacco products are under the age of 18.

In the proposed deeming rule, FDA stated that it was researching the  effect of e-cigarette use on public health. FDA noted that e-cigarettes  could have a positive net impact if using them resulted in minimal  initiation by children and adolescents and in significant numbers of  smokers’ quitting. The FDA also noted that e-cigarette use could have a  negative net impact if it resulted in significant initiation by young people,  minimal quitting, or significant dual use of combustible products, such as  cigarettes, and noncombustible products, such as e-cigarettes.

section_title: Taxation of E-cigarettes
paragraphs: The IRC, which defines tobacco products subject to FET and sets rates of  tax, does not specifically define or list a tax rate for e-cigarettes.  However, two states—Minnesota and North Carolina—have imposed an  excise tax on e-cigarettes or vapor products containing nicotine. The  Minnesota Department of Revenue issued a notice in 2012 stating its  position that e-cigarettes are subject to the tobacco products tax; the  current tax rate is 95 percent of the wholesale price of the nicotine- containing liquid or, if the liquid cannot be sold separately, of the  complete e-cigarette. North Carolina has taxed vapor products at 5 cents  per milliliter of nicotine-containing liquid or other material since June  2015. In addition, at least 18 states and the District of Columbia have  proposed legislation to tax e-cigarettes, vapor products, nicotine vapor  products, or e-cigarette cartridges since 2013. For example, a bill in  Maine proposed to include e-cigarettes in its definition of cigarettes and to  apply the same tax rate to cigarettes and e-cigarettes, and a bill in  Montana proposed a tax on vapor products, such as e-cigarettes, that  would be partially based on the weight in milligrams of the nicotine  present in the product.

As of January 2015, three countries—Italy, Portugal, and South Korea— imposed national-level taxes on e-cigarettes that contain nicotine, and  each of these countries applies its tax to nicotine-containing e-cigarette  liquid, according to an industry expert. In addition, according to research  by the Law Library of Congress, Serbia recently enacted legislation to  introduce an excise tax on e-cigarette liquid, which went into effect in  August 2015.

section_title: Effect of E-cigarette Use on Cigarette Federal Excise Tax Revenue Is Not Currently Evident
subsections: section_title: No Current Evidence That E-cigarette Use Has Affected Cigarette FET Revenue
paragraphs: Our analysis of Treasury data on cigarette FET revenue found no current  evidence that e-cigarette use has affected the historical decreasing trend  in FET collections over the past 6 years. We used a time series  regression to determine the change in cigarette FET revenue from April  2009, when the last increase in FET on cigarettes and other tobacco  products became effective, through December 2014. Variables in the  model control for (1) historical decreases in cigarette FET revenue over  the last 6 years; (2) quantities of cigars, pipe tobacco, and roll-your-own  tobacco removed from domestic factories or released from customs  custody for distribution in the United States; and (3) monthly seasonality  effect. Our model tests for the inclusion of e-cigarettes at different points  in time and tests for any significant changes from the historical trend.  We found no significant evidence that e-cigarettes have decreased the  collection of FET revenue from cigarettes at a rate greater than the 6-year  historical trend.

Specifically, we found that, when other variables in the model are held  constant, the 6-year historical trend of cigarette FET revenue decreased  at a rate between $4.4 million and $5.5 million per month (see fig. 3).  However, we found no significant evidence of a decrease in FET revenue  from cigarettes at a rate greater than the 6-year historical trend during the  time frame when e-cigarettes have been on the U.S. market. We  estimate that cigarette FET revenue would need to decrease by an  additional $2 million to $3 million per month to signal a significant effect  from e-cigarettes.

Several factors may explain why our analysis did not detect an effect of e- cigarette use on cigarette FET revenue. First, the e-cigarette market— estimated at $2.5 billion in sales in 2014—is relatively small compared  with the cigarette market, which had $80 billion in sales in the same year.  As a result, without a substantial increase in the e-cigarette market, any  effect on the cigarette market would be too minor to significantly affect  cigarette FET revenue. Second, comprehensive and reliable data on e- cigarette sales and prices—which would enable us to corroborate the size  of the e-cigarette market and accurately identify when it became  significant—are not available. Third, comprehensive and reliable data  about the extent to which e-cigarettes are used as substitutes for  cigarettes are also not available. Without such data and information,  estimating the effect of e-cigarette use on cigarette FET revenue will be  difficult, even if the e-cigarette market continues to grow.

section_title: Relationship between Use of E-cigarettes and Cigarettes Could Determine E-cigarettes’ Effect on Cigarette FET Revenue
paragraphs: How consumers’ use of e-cigarettes relates to their use of cigarettes— whether e-cigarettes are substitutes, complements, or unrelated—may  determine any effect of e-cigarette use on cigarette FET revenue. The  relationship between the use of e-cigarettes and cigarettes is currently  unknown, according to public health officials. Table 1 describes these  three possible relationships and summarizes their potential revenue  effects.

The most recent data from the National Youth Tobacco Survey by CDC  and FDA showing high school students’ increasing use of e-cigarettes  and decreasing use of cigarettes (see fig. 2), suggest that cigarette FET  revenue could decline further if these trends continue. If the percentage  of high school students using cigarettes continues to decline, and if other  factors such as current levels of regulation remain constant, the number  of cigarette smokers could dwindle further in the coming years as the  current cohort of high school students ages. A continued decline in  cigarette smoking among high school students—which could be due, in  part, to increased use of e-cigarettes—would reduce cigarette FET  revenue at a greater rate than the average historical trend.

FDA and CDC are undertaking efforts that, over time, may enable them to  better understand e-cigarettes’ relationship to cigarettes and other  tobacco products, according to agency officials. For example, FDA and  CDC are refining survey instruments that they use to measure adults’ and  youths’ use of e-cigarettes, cigarettes, and other tobacco products, such  as the National Health Interview Survey and the National Youth Tobacco  Survey. In addition, FDA, in collaboration with the National Institutes of  Health, is funding a longitudinal cohort study, the Population Assessment  of Tobacco and Health, which asks detailed questions about adults’ and  youths’ use of e-cigarettes, cigarettes, and other tobacco products. FDA  officials said that they expect to receive the data from the first year of the  study in the summer of 2015. Further, according to FDA and CDC  officials, other national surveys, state-level surveys, results of National  Institutes of Health and other studies currently under way, and, if  available, e-cigarette quantity data could help researchers analyze trends  and observe statistical relationships.

section_title: Comprehensive Data on E-cigarette Quantities and Prices Are Not Available from Federal Agencies
subsections: section_title: Treasury and FDA Do Not Collect Data on E- cigarette Quantities Comparable to Data Collected for Cigarettes and Other Tobacco Products
paragraphs: Treasury and FDA do not collect data on quantities of e-cigarettes on the  U.S. market, and we did not identify any other federal agencies that do  so. However, Treasury collects data on quantities of domestically  manufactured tobacco products that are subject to FET to ensure that the  proper FET amount is paid. FDA collects data on quantities of tobacco  products that it regulates under its tobacco product authorities to calculate  user fees that fund FDA’s tobacco regulation activities.

Treasury and FDA collect data on quantities for different sets of tobacco  products because their authorities to regulate tobacco products stem from  different statutes:

Treasury’s authorities stem from the IRC. The IRC defines “tobacco  products” as cigarettes, roll-your-own tobacco, smokeless tobacco,  cigars, and pipe tobacco and sets FET rates for these products. The  IRC defines each of these products as containing or consisting of  tobacco.

FDA’s tobacco product authorities stem from the Federal Food, Drug,  and Cosmetic Act as amended by the Tobacco Control Act. The  Tobacco Control Act defines “tobacco product,” in part, as any product  made or derived from tobacco. The act granted FDA immediate  authority over cigarettes, cigarette tobacco, roll-your-own tobacco,  and smokeless tobacco. The act also gave FDA authority to deem by  regulation any other product meeting the Tobacco Control Act’s  definition of tobacco product to be subject to FDA’s tobacco product  authorities. Under this authority, in April 2014 FDA proposed to  deem additional products, including e-cigarettes, to be subject to its  tobacco product regulation.

Treasury collects data on quantities of cigarettes and other federally  taxed tobacco products from domestic manufacturers of these products,  but does not collect such data for e-cigarettes, because the IRC does not  define or list a tax rate for e-cigarettes. According to Treasury officials, on  the basis of definitions of the tobacco products enumerated in the IRC,  Treasury’s ability to tax e-cigarettes—and collect data for them—depends  on whether e-cigarettes contain tobacco. Treasury officials said that for e- cigarettes that do not contain tobacco, Treasury could not assert federal  taxation and any related data collection by regulation; instead, such  authority would require an act of Congress. As of August 2015, Treasury  had not collected any FET or data associated with e-cigarettes, according  to Treasury officials.

FDA does not collect data on quantities of e-cigarettes sold on the U.S.  market. FDA’s preliminary economic impact analysis accompanying the  proposed deeming rule states that when the deemed products become  subject to FDA’s tobacco product authorities, the agency can begin  collecting data to determine the number of regulated entities and to  monitor the number and type of unique products sold to the public.

At present, FDA collects data on quantities of four tobacco products  (cigarettes, cigarette tobacco, roll-your-own tobacco, and smokeless  tobacco) that it regulates under its tobacco product authorities to apply  the legally mandated method for allocating user fees among the domestic  manufacturers and importers of those products. In July 2014, FDA  stated that if additional products are deemed subject to its tobacco  regulation, the agency would conduct a new rulemaking to make  appropriate changes to the user fee regulation. FDA also stated that it  recognized that the issue of whether it had authority to assess user fees  on some deemed products was controversial and that it intended to solicit  public comment to further explore issues related to user fee assessments  on tobacco products that may be deemed subject to FDA’s tobacco  product authorities. According to FDA officials, if e-cigarettes become  subject to user fees, FDA would likely need data on quantities of e- cigarettes sold on the U.S. market, comparable to data that the agency  collects for the four products currently subject to user fees.

Table 2 summarizes information about Treasury’s and FDA’s collection of  data on quantities of cigarettes, other tobacco products, and e-cigarettes.

section_title: Bureau of Labor Statistics Has Begun to Collect Limited E-cigarette Price Data
paragraphs: The Department of Labor’s Bureau of Labor Statistics (BLS) began  collecting limited e-cigarette price information in September 2014 as part  of its ongoing data collection for the Consumer Price Index. The  Consumer Price Index provides monthly data on changes in the prices  paid by urban consumers for a representative “basket” of goods and  services. The index is divided into more than 200 categories representing  the goods and services that an urban consumer might typically buy. BLS  collects e-cigarette price information, under the category “tobacco  products other than cigarettes,” for disposable e-cigarettes, starter kits,  liquid refills, and e-cigarette replacement cartridges. These items may or  may not contain nicotine and may have any flavor.

According to BLS officials, the number of observations on e-cigarette  prices is too small to calculate a reliable national average price or reliable  state-level prices. According to the officials, U.S. consumers’ e-cigarette  expenditures, while increasing, represent a small share of total  expenditures in the representative basket of goods and services.  Additionally, BLS officials explained that the Consumer Price Index  sample for “tobacco products other than cigarettes” is refreshed over a 4- year cycle; the length of time it takes to fully replace samples causes  Consumer Price Index sample shares (the percentage of the sample  composed of the prices of a given product) to lag real-world percentages  for items for which consumers’ expenditures are changing rapidly. The  Consumer Price Index sample included 10 e-cigarette price observations  as of June 2015 and, according to the BLS officials, will increase to 14 e- cigarette price observations by October 2015. BLS would require more  resources in order to collect substantially more data on e-cigarettes,  according to BLS officials.

section_title: Concluding Observations
paragraphs: Our analysis shows no current effect of the growing e-cigarette market on  FET revenue from cigarettes. Given the limited information about the e- cigarette market, it is difficult to accurately estimate this market’s size or  analyze its potential effect on FET revenue from cigarettes and other  tobacco products. The increased regulation of tobacco products at the  federal and state level, among other things, has contributed to a decline  in cigarette use and FET revenue. Recent CDC studies show that e- cigarette use has significantly increased among high school students,  while cigarette use has significantly declined. As the regulation of e- cigarettes unfolds and the market develops, e-cigarette use patterns may  change. Federal agencies’ efforts to develop a better understanding of  the relationship between e-cigarette and cigarette use will help analysts  and government officials develop a more complete understanding of the  e-cigarette market and its effect on cigarette FET revenue.

section_title: Agency Comments
paragraphs: We provided a draft of this report to DOL, HHS, and Treasury. We also  provided relevant portions to U.S. Customs and Border Protection and  USPTO. We received technical comments from DOL, HHS, and Treasury  and incorporated the comments as appropriate.

We are sending copies of this report to the appropriate congressional  committees; the Secretaries of Health and Human Services, Labor, and  the Treasury; and other interested parties. In addition, the report is  available at no charge on the GAO website at http://www.gao.gov.

If you or your staff have any questions about this report, please contact  me at (202) 512-3149 or gootnickd@gao.gov. Contact points for our  Offices of Congressional Relations and Public Affairs may be found on  the last page of this report. GAO staff who made key contributions to this  report are listed in appendix III.

section_title: Appendix I: Objectives, Scope, and Methodology
paragraphs: This report examines the extent to which (1) use of electronic cigarettes  (also known as e-cigarettes) affects federal excise tax (FET) revenue  from cigarettes and (2) data on quantities and prices of e-cigarettes on  the U.S. market are available from federal agencies.

To address these objectives, we reviewed documents and interviewed  officials from the Department of the Treasury’s (Treasury) Alcohol and  Tobacco Tax and Trade Bureau and Treasury’s Office of Tax Analysis,  the Food and Drug Administration (FDA), the Centers for Disease Control  and Prevention (CDC), the U.S. Bureau of Labor Statistics (BLS), and the  U.S. Patent and Trademark Office (USPTO) to obtain information and  views about e-cigarette and tobacco sales and revenue trends and  regulation. We determined the reliability of USPTO e-cigarette trademark  registration data by interviewing cognizant USPTO officials. We also  interviewed industry experts, including e-cigarette industry members,  tobacco industry members, financial analysts, researchers, and  representatives of public health organizations. We interviewed  organizations and companies that represent a range of perspectives. We  spoke with industry associations that represent small and midsized e- cigarette companies; we also spoke with representatives of leading  companies that produce e-cigarettes, as measured by dollar share from  available data, including an independent e-cigarette company and  tobacco companies. The views expressed by these representatives are  not generalizable and do not represent the views of the entire e-cigarette  industry. We also attended an e-cigarette industry conference as well as  three FDA public workshops featuring current research on e-cigarette  product science and implications of e-cigarette use for individual health  and population health.

To determine whether e-cigarette use affects cigarette FET revenue, we  examined cigarette FET revenue from April 2009 through December  2014. For this analysis, we used monthly data obtained from Treasury on  FET revenue from cigarettes removed from domestic factories or  released from customs custody for distribution in the United States. In  addition, using these removals data and testimonial evidence, we  constructed a multivariate model that estimates the effect of e-cigarette  use on cigarette FET revenue. In particular, we regressed cigarette FET  revenue on a number of variables, including other tobacco products, a  trend, presence of e-cigarettes on the market, and seasonality. We  assessed the reliability of the data by checking the data for inconsistency  errors and for completeness. We determined that the cigarette removals  data were sufficiently reliable for the purposes of this report. See  appendix II for more explanation of our analysis.

To examine the extent to which data on quantities and prices for e- cigarettes on the U.S. market are available from federal agencies, we  interviewed cognizant officials from Treasury, FDA, CDC, BLS, and the  Congressional Budget Office, as well as industry experts. To describe  Treasury’s collection of data on quantities of federally taxed tobacco  products, we reviewed documents and interviewed officials from  Treasury’s Alcohol and Tobacco Tax and Trade Bureau. To describe  FDA’s collection of data on quantities of tobacco products regulated by  the agency, we examined FDA’s regulatory actions, including its April  2014 proposed rule to deem additional products, including e-cigarettes, to  be subject to the agency’s tobacco product authorities, and the July 2014  final user fee rule, and we interviewed cognizant FDA officials. To  describe BLS’s collection of data on e-cigarette prices, we reviewed  documents and interviewed BLS officials.

We conducted this performance audit from September 2014 to  September 2015 in accordance with generally accepted government  auditing standards. Those standards require that we plan and perform the  audit to obtain sufficient, appropriate evidence to provide a reasonable  basis for our findings and conclusions based on our audit objectives. We  believe that the evidence obtained provides a reasonable basis for our  findings and conclusions based on our audit objectives.

section_title: Appendix II: Results of Regression Analysis Testing the Effect of Electronic Cigarette Use on Federal Excise Tax Revenue from Traditional Cigarettes
paragraphs: We constructed a multivariate model to estimate the effect of electronic  cigarette (e-cigarette) use on federal excise tax (FET) revenue from  traditional cigarettes. The model uses monthly data obtained from the  Department of the Treasury’s (Treasury) Alcohol and Tobacco Tax and  Trade Bureau and controls for a 6-year historical trend in cigarette FET  revenue, from April 2009 through December 2014; the presence of other  tobacco products (cigars, roll-your-own tobacco, and pipe tobacco); and  seasonality effects. The model also includes a time variable that tests for  the presence of e-cigarettes. We used five different dates during the  period January 2012 to October 2013 for the time variable, and we  estimated regressions for each date. In particular, the model uses the  following equation:  and imported cigarettes collected in period t;  𝐶𝐶𝐶𝐶𝐶𝐶_𝑟𝑟𝑟𝑟𝑟𝑟𝑡𝑡=𝛼𝛼+𝛽𝛽𝑐𝑐𝐶𝐶𝐶𝐶𝑐𝑐𝑟𝑟𝑐𝑐𝑡𝑡+𝛾𝛾𝑟𝑟𝛾𝛾𝛾𝛾_𝑝𝑝𝐶𝐶𝑝𝑝𝑟𝑟𝑡𝑡+𝛿𝛿𝑡𝑡𝑟𝑟𝑟𝑟𝑡𝑡𝑡𝑡𝑡𝑡+𝜃𝜃𝑟𝑟𝑐𝑐𝐶𝐶𝐶𝐶_𝑐𝑐𝑠𝑠𝛾𝛾𝑝𝑝𝑟𝑟𝑡𝑡 𝐶𝐶𝐶𝐶𝐶𝐶_𝑟𝑟𝑟𝑟𝑟𝑟𝑡𝑡= the amount of FET revenue, in nominal dollars, from domestic where  𝛼𝛼 = an intercept;  𝑐𝑐𝐶𝐶𝐶𝐶𝑐𝑐𝑟𝑟𝑐𝑐𝑡𝑡 = the sum of small and large cigar removals in number of sticks  𝑟𝑟𝛾𝛾𝛾𝛾_𝑝𝑝𝐶𝐶𝑝𝑝𝑟𝑟𝑡𝑡 = the sum of roll-your-own and pipe tobacco removals in in period t;  𝑡𝑡𝑟𝑟𝑟𝑟𝑡𝑡𝑡𝑡𝑡𝑡 = a monthly trend that controls for the historical changes in pounds in period t;  𝑟𝑟𝑐𝑐𝐶𝐶𝐶𝐶_𝑐𝑐𝑠𝑠𝛾𝛾𝑝𝑝𝑟𝑟𝑡𝑡 = a dummy variable that equals one for each month on or cigarette revenue at period t;  after the date that indicates the presence of e-cigarettes in the market  (because there is no clear indicator of this presence, we selected five  different dates to indicate the beginning of this presence);  monthly seasonality, with June as the reference month; and  𝑚𝑚𝛾𝛾𝑡𝑡𝑡𝑡ℎ𝑠𝑠𝛾𝛾_𝐶𝐶𝑡𝑡𝑡𝑡𝐶𝐶𝑐𝑐𝑐𝑐𝑡𝑡𝛾𝛾𝑟𝑟𝑐𝑐𝑡𝑡 = a set of eleven dummy variables controlling for  µ𝑡𝑡  = an error term assumed to be heteroskedastic and possibly  autocorrelated.

section_title: Appendix III: GAO Contact and Staff Acknowledgments
subsections: section_title: GAO Contact
paragraphs: David Gootnick, (202) 512-3149 or gootnickd@gao.gov.

section_title: Staff Acknowledgments
paragraphs: In addition to the contact named above, Christine Broderick (Assistant  Director), Christina Werth, Sada Aksartova, Pedro Almoguera, Grace Lui,  and Srinidhi Vijaykumar made key contributions to this report. In addition,  Tina Cheng and Reid Lowe provided technical assistance.


Question-summary annotations: questions: question: What did GAO's analysis find about e-cigarettes?
answer: GAO's analysis found no evidence that use of electronic cigarettes (e-cigarettes) has affected federal excise tax (FET) revenue from traditional cigarettes, which has been declining over time (see figure).
child_questions: question: What explanations are there for GAO's finding?
answer: Possible reasons for the lack of a detectable effect include the small size of the e-cigarette market (estimated at $2.5 billion in 2014) relative to the cigarette market ($80 billion in the same year); lack of comprehensive and reliable data on e-cigarette quantities and prices; and lack of comprehensive and reliable information about the extent to which e-cigarettes substitute for cigarettes.

question: What does data from a study by Centers for Disease Control and Prevention suggest?
answer: Data from a recent survey by the Centers for Disease Control and Prevention showing high school students' increasing use of e-cigarettes and decreasing use of cigarettes suggest that these students may substitute e-cigarettes for cigarettes to some extent.
child_questions: question: What could happen if this data trend continues?
answer: If the percentage of high school students using cigarettes continues to decline, cigarette FET revenue could also decrease at a greater rate than the average historic trend observed since April 2009, when FET on cigarettes and other tobacco products was last increased.

questions: question: How is the use of cigarettes in the United States changing?
answer: While use of traditional cigarettes in the United States continues to decline, use of e-cigarettes is increasing.
child_questions: question: What does the Treasury collect regarding cigarettes?
answer: Treasury collects FET on cigarettes and other tobacco products manufactured in the United States.

question: What is the result of decline in cigarette use?
answer: The decline in cigarette use has led to a decline in cigarette FET revenue, from $15.3 billion in fiscal year 2010 to $13.2 billion in fiscal year 2014. FDA currently regulates four tobacco products.

question: What did the FDA propose in April 2014?
answer: In April 2014, FDA proposed to deem additional tobacco products, including e-cigarettes, subject to its tobacco product authorities.