Lawsuit Challenges Constitutionality of Tobacco Settlement

Published November 1, 2005

A lawsuit challenging the constitutionality of the Master Settlement Agreement (MSA), entered into between 46 states and the four major tobacco companies, was greeted with applause by those who perceived the settlement as an overstepping of bounds by state attorneys general.

The MSA resolved cases brought by the attorneys general against the tobacco companies, allegedly to recover state expenditures to treat Medicaid recipients for tobacco-related illnesses and to obtain funding for tobacco use prevention in the future.

The suit, filed on August 2 by the Competitive Enterprise Institute, a Washington, DC-based think tank, followed the publication in March 2005 of a study by the U.S. Government Accountability Office (GAO) that examined how the states have been spending their shares of the tobacco settlement funds. The study found less than half of the money has gone for health-related spending, and much of that spending has not been related to smoking prevention.

Taxes May Exceed Jurisdiction

The MSA requires every participating state to enact identical laws taxing cigarette sales nationwide–even sales by non-participants in the settlement. A recent study characterizes this as a national sales tax masquerading as individual state sales taxes. In his study, Jeremy Bulow, a professor at the Stanford University School of Business, notes the tax proceeds of about $4 per carton are not distributed to the states based upon sales within their respective jurisdictions.

The CEI suit is brought against the attorney general of Louisiana and alleges the MSA participant states have entered into a nationwide agreement with one another in violation of Article I, Section 10, of the U.S. Constitution, which prohibits any such “agreement or compact” without the consent of the U.S. Congress. “The States became business partners in establishing one of the most effective and destructive cartels in the history of the Nation,” the complaint alleges.

The Louisiana attorney general’s response to the complaint was due in early October, but a spokesman for CEI said the attorney general’s office has asked the lawyers for the plaintiffs for an extension of several months, most likely because of Hurricane Katrina though a reason was not given.

State Actions Questioned

An August 19 Wall Street Journal editorial commented, “[I]n going after Big Tobacco, state officials took a major industry, wrung previously unimaginable sums out of it, and thus turned the attorney general’s office into a profit center for state government. Thanks to the settlement, states are receiving huge new amounts of revenue each year without legislatures having to raise taxes.” The editorial continued, “We’re glad to say someone is finally asking a court if this wasn’t illegal.”

On September 20, the Colorado state treasurer, Mark Hillman, noted in an op-ed in the Wall Street Journal that the state attorneys general have usurped the role of the state legislatures: “The billions generated by the settlement cloak the pernicious threat that activist AGs pose to the checks and balances on political power that govern our Constitutional system. Regulation and taxation policies are the rightful responsibility of the legislative and executive branches–not the domain of states’ chief law enforcement officers.”

The lawsuit will be an uphill battle, however. According to Hans Bader, CEI’s counsel for special projects, the last time a multistate agreement was challenged in the U.S. Supreme Court under the Compact Clause was in 1978 … and that attempt failed. The court found the terms “agreement” and “compact” were not to be read literally and that agreements and compacts are barred only if they “impermissibly enhance state power at the expense of federal supremacy.”

But Bader believes the MSA does exactly that, pointing out that the cigarette sales tax is effective even in states that did not sign the MSA, a situation not present in the 1978 case.

Spending Not Health-Related

Several other commentators on the CEI suit took notice of the GAO study. The study finds that in 2003, the states received a total of about $6.3 billion in tobacco money. Of that amount, 36 percent went to subsidize budget shortfalls, and 37 percent went to health-related programs.

In 2004, states expected to receive $5.2 billion in tobacco money. They anticipated spending 54 percent of it on budget shortfalls and 17 percent of it on health-related spending. In all, the MSA will result in payments to the state and territorial governments of approximately $205 billion over its first 25 years.

“Prior to CEI’s lawsuit,” said Bader, “there were a few challenges to agreements between states. The Supreme Court upheld one in 1978–the Multistate Tax Commission–although it was a much less harmful agreement. In that case, the Tax Commission implemented California-style unitary taxation of interstate businesses, apportioning their taxes between states in which they did their business rather than just taxing them in their domicile state. But the states could have done that individually, without the Multistate Tax Commission. Indeed, California itself had done so long before the Commission.

“By contrast,” Bader concluded, “the tobacco settlement regulates the tobacco industry everywhere in America, even outside the states that joined it, something no state could manage to do on its own.”

Maureen Martin ([email protected]) is senior fellow, legal affairs, for The Heartland Institute.

For more information …

The March 2005 GAO report, Tobacco Settlement: States’ Allocations of Fiscal Year 2003 and Expected Fiscal Year 2004 Payments, is available online at