California Board of Equalzation Revenue Estimate

FLAVORED MALT BEVERAGES

Request

The Chief of staff for the 53rd Assembly District made the following request:

In light of the recent amendments to AB 417 (Aghazarian), I am curious what the revenue gain to the state would be if in fact malt beverages were taxed at the higher distilled spirits rate, rather than at the rate assigned to beer products.

Background, Methodology, and Assumptions

Article XX, section 22 of the California Constitution bestows primary jurisdiction to interpret the Alcoholic Beverage Control Act, which contains the definitions for the terms “distilled spirits,” “beer,” and “wine,” on the Department of Alcoholic Beverage Control. The Board does not currently posses the expertise or resources to independently analyze any particular alcoholic beverage to determine its composition. So the Board is not currently able to independently classify alcoholic beverages on its own and cannot determine whether a flavored malt beverage’s composition would require it to be classified as beer or distilled spirits.

The legislature has expressly directed the Board to coordinate its efforts to tax beer and wine with those of the Internal Revenue Service, and the Internal Revenue Service currently classifies flavored malt beverages as beer, just like the Department of Alcoholic Beverage Control.

According to beverage industry reports from calendar year 2001 to calendar 2003, flavored malt beverages account for 2.5% to 2.7% of the US beer market. In fiscal year 2003-04, reported taxable gallons of beer to the Board amounted to 670,944,000 gallons. From this, we estimate that 17,445,000 gallons were for flavored malt beverages (2.6% x 670,944,000).

The current tax rate on beer is $0.20 per gallon, while the current tax rate on distilled spirits under 100 proof is $3.30 per gallon. This would be an increase in the tax rate of $3.10 per gallon. A rate increase this large will cause a decline in consumption. The price elasticity of alcohol is usually very small, in the range of -0.1 to -0.2. Also, the price elasticity is different for off-sale (purchased for consumption off the premises) and on-sale (purchased for consumption on the premises) consumption of alcoholic beverages. The rate increases will increase the off-sale price by about 23.5% and the on-sale price by about 12.5%. Applying the price elasticities to these price increases gives a decline in consumption of 4.7% for off-sale sales and 1.3% for on-sale sales. Overall, the decline in consumption due to the price increase would amount to 3.8% or a decline of 670,000 gallons.

If flavored malt beverages were considered to be distilled spirits rather than beer products, it would limit the number of places that could sell this product. This would impact consumption especially in the off-sale market. We have not found much data on the percentages of these products sold at convenience stores or other retail outlets that have only a license to sell beer and wine. However, what information we have found leads us to believe that the portion is large. If we assume that half of these products are purchased in retail stores having only beer and wine licenses, and if we assume that two-thirds of those purchasers will not take the trouble to go to a store that sells all types of liquor, then there would be a decline in consumption of 4,357,000 gallons.

The above two factors would mean that there would be a decline in consumption from 17,445,000 to 12,418,000 gallons. The current excise tax revenue from flavored malt beverages amounts to $3,489,000. The excise tax revenue from the estimated consumption of flavored malt beverages if they were considered to be distilled spirits would be $40,979,000. This would be a revenue gain of $37,490,000.

If flavored malt beverages were considered to be distilled spirits rather than beer products, the manufacturers of those products might decide to reformulate their products. Or they might continue to produce the current products in a smaller quantity and develop new products that would meet the definition of beer products. There is no way for us to predict the industry’s response.

Revenue Summary

The revenue gain from considering flavored malt beverages to be distilled spirits rather than beer products would include an increase in excise tax revenues as well as an increase in state and local sales tax revenues. The revenue gain would be as follows:

David E. Hayes
State of California
Board of Equalization

August 26, 2005

cc: Mr. David Gau
Mr. Dennis Maciel
Ms. Margaret Shed