Excise European integration of Ukraine: smoking is not only harmful, but also expensive

In Ukraine, as early as July 1, excise taxes on cigarettes may be increased, which will inevitably lead to an increase in retail prices for tobacco products. The increase in excise taxes is due to the need to harmonize domestic tax legislation with European ones, but there are other reasons.

Through thorns to Europe

The Verkhovna Rada adopted in the first reading bill No. 11090 on revising excise tax rates on tobacco products. According to the explanatory note signed by Finance Minister Sergei Marchenko, this document is aimed at bringing excise taxes into line with European standards. In particular, the amount of this tax will no longer be calculated in national currency, but will be denominated in euros. Thus, the excise tax will be automatically indexed with each subsequent devaluation of the hryvnia.

And, of course, the law provides for an increase in excise taxes to European levels.

“Since Ukraine strives to become a member of the European Union, we will have to harmonize our own legislation with European legislation, including the directive regulating excise taxes,” explains CASE Ukraine expert Vladimir Dubrovsky. “After all, if after Ukraine joins the EU, tobacco products remain much cheaper in our country than in other countries, this will lead to the fact that cigarettes will be brought there from Ukraine, and this will collapse their budget revenues from excise taxes. Of course, such a situation will not suit anyone.”

Meanwhile, excise taxes in Ukraine continue to remain at a fairly low level. As the head of the Ministry of Finance Sergei Marchenko notes, according to the European directive, “the general excise tax on cigarettes in EU member countries must be at least 60% of the weighted average retail price of cigarettes issued for consumption, and should not be less than 90 euros per 1000 cigarettes. , regardless of the weighted average retail selling price. For comparison, as of 01/01/2024, the minimum tax liability on cigarettes in Ukraine is 2516.54 hryvnia (approximately 60 euros) per 1000 pieces.”

Therefore, in accordance with the European directive, the government proposes to raise the minimum tax liability for payment of excise tax on tobacco products (it consists of two parts: a specific rate established per 1000 products, and an ad valorem rate calculated as a percentage of the cost of these products) to 90 euros for 1000 pieces.

Of course, such a tax increase will also cause cigarette prices to rise. However, according to the bill, it is not planned to carry it out simultaneously. A transition period of 3.5 years is expected. Thus, the excise tax will reach the target of 90 euros per 1,000 cigarettes only at the beginning of 2028.

With the beginning of the transition to new excise taxes, the Cabinet of Ministers proposes not to delay and begin the process of increasing them as early as July 1 of this year. And, most likely, the parliament will meet the government halfway and pass the law by this date.

Therefore, from the beginning of the third quarter, the minimum tax liability for excise duty will increase. However, not too much - from the current 60 euros to 63.45 euros per 1000 pieces. From the beginning of 2025, the excise tax will increase to 78 euros. In 2026 it will be 82 euros. In 2027 – 86 euros. And finally, at the beginning of 2028, it will reach the target of 90 euros per 1000 pieces.

However, the harmonization of Ukrainian legislation with European legislation is clearly not the main goal of this bill, since it is part of the government’s efforts to find new sources of income for the budget. According to various estimates, by the end of this year alone the government needs to collect an additional 300-500 billion hryvnia to cover budget expenses. This is precisely what the latest initiatives to increase various taxes are aimed at - VAT, military taxes, excise taxes on fuel and tobacco.

“To finance military expenditures, we definitely need to increase budget revenues,” says Ilya Neskhodovsky, head of the analytical department of the ANTS network, in a conversation with the publication. – And increasing excise taxes is a more correct approach than increasing taxes on personal income (personal income tax or military duty). This measure has always led to an increase in revenue."

True, the Cabinet of Ministers does not expect an immediate effect from this law. In 2025, tax revenues from tobacco products should increase by only 612 million hryvnia (the Ministry of Finance did not announce a plan for this year at all), in 2026 - by 5 billion hryvnia, in 2027 - by 9.4 billion. And finally, in 2028, when the excise tax reaches its maximum, an additional 13.9 billion hryvnia is expected to be received.

Raising taxes does not always mean increasing income

However, reality may differ from expectations. After all, raising taxes does not always lead to a proportional increase in budget revenues.

“Economic theory says that an increase in tax above a certain limit leads not to an increase, but to a reduction in budget revenues, since an overburdened business either closes or goes into the shadows,” says Vladimir Dubrovsky. “Therefore, there is a certain optimal tax level that gives maximum revenue. And its further increase makes no sense.”

According to the specialist, although the harmonization of Ukrainian tax legislation with the European one is indeed necessary, there is no point in rushing too much, since Ukraine will not join the EU in three years. Therefore, the increase could be extended over a longer period. And thanks to this, price shocks for consumers and businesses can be avoided.

“There has already been a case in Ukraine when excise taxes on tobacco were raised too quickly,” recalls Dubrovsky. “As a result, the share of counterfeit products very quickly grew from 6% to 23%, which resulted in significant losses for the budget. And there is a significant risk that a similar situation could now happen again.”

As for the impact of increasing excise taxes on economic growth, it will not be too significant.

“The most harmful thing for economic development is an increase in labor taxes (personal income tax, military duty),” says Vladimir Dubrovsky. — Taxes on property (land, real estate) have the least impact. Excise taxes occupy an intermediate position - they slow down the economy, but not too much.”

At the same time, the expert reminds, the main purpose of excise taxes is not the generation of tax revenues, but the creation of incentives for correct behavior.

Increasing prices for tobacco products should encourage citizens to choose a healthy lifestyle. Thus, a person deprives the state of part of the tax revenue, but due to higher labor productivity, he increases the amount of other taxes, and also reduces budget expenses on medicine. Therefore, in this regard, increasing excise taxes on tobacco can be useful for both the state and its citizens. It is only necessary that the Bureau of Economic Security be able to prevent the mass exodus of producers to the “shadow” market.