Despite the extra £25 million of funding set aside in 2011 to help tackle the smuggling of legitimate tobacco brands in the country, PRA chairman Brian Madderson said HMRC has yet to get a grip on the situation.

The report from the NAO stated that HMRC failed to meet any of its operational targets in 2012-13 and is unlikely to achieve its plan to prevent £1.4bn in revenue being lost to tobacco smuggling.

HMRC said it was committed to tackling tobacco smuggling and had invested an extra £25m from 2010 to 2015, but conceded that it lacks a good understanding of the volume of prosecutions and other sanctions needed to deter the trade in illicit tobacco.

The illicit tobacco trade cost the legitimate trade £1.8bn in lost revenue in 2010-11. HMRC estimates that 11% of all tobacco sales are not duty paid.

Amyas Morse, head of the National Audit Office, said: “Tobacco smuggling is a significant threat to tax revenues, as well as making illicit tobacco cheaper and more accessible, which has implications for public health. HMRC’s renewed strategy for tackling tobacco smuggling sets out the right measures but, two years on, the Department’s performance on the ground is disappointing. It has not capitalised on extra reinvestment funding available under the 2010 spending review settlement. And it still cannot properly assess how effective its strategy is in tackling tobacco smuggling and the trade in illicit tobacco products in the UK."

Madderson said: “Not only does the illicit trade of tobacco significantly undermine the tax revenues in this country, it also represents a significant loss of sales to legitimate, honest retailers,” he stressed.

“A poll, carried out by Populus at the end of last year, shows just how many PRA retailers are currently impacted by the trade of illicit tobacco. Nearly two-thirds (62%) believe illicit trade in tobacco products, a product category they view as essential to their bottom line, has an impact on their business.

“In addition, nearly half (47%) believe it is easy for people to buy illicit tobacco products and a huge 43% believe the government isn’t doing enough when it comes to enforcement of illicit trade.

“We remain deeply concerned the Government’s proposal on plain packaging of tobacco products will only exacerbate this issue which, as NAO state, HMRC are already seriously struggling to tackle.”

Meanwhile the Association of Convenience Stores has called for stronger enforcement against tobacco smuggling on the ground.

ACS chief executive James Lowman said: “The National Audit Office has shone a light on a black market in tobacco products that is blighting retailers across the country. When HMRC misses its targets tens of thousands of legitimate retailers will suffer as they are undercut by unregulated unscrupulous criminals.

“These findings are a wakeup call to Ministers. It is time to stop treating the illegal tobacco trade as simply a duty avoidance issue. It is a multi-billion pound trade, run by dangerous criminal gangs, that is flooding our most deprived communities with unregulated tobacco products undermining any progress the Government seeks to make it reducing smoking related health harms.

“Government must immediately make more resources available to Police, Trading Standards and Health Officials working in communities to identify and prosecute those individuals who are profiting from selling illegal cigarettes and hand rolling tobacco to smokers of all ages.”

Ken Parsons, chief executive of the Rural Shops Alliance, said, “In recent years, legitimate retailers have put a lot of effort into implementing government policies to reduce tobacco smoking, for no additional financial reward. Alongside their efforts, they then see criminal gangs undercutting significant parts of their trade through the sale of illegal tobacco in their neighbourhood. Not only does this deprive the government of tax revenues, it also totally undermines the control of sales to underage people.

"An obvious conclusion from this report is that more effective enforcement actions to control tobacco smuggling is not just an issue concerning lost revenue, but is also a top priority in preventing young people from getting easy access to tobacco. This report should be a wake-up call to government to put far more resources and effort into combating this massive illegal industry”.