Cannabis

Study Warns Sky-High Marijuana Taxes Drive Consumers Back to the Black Market

State governments eager for cannabis revenue need to remember the people who have sold pot tax-free for years are still in business.
Study Warns Sky-High Marijuana Taxes Drive Consumers Back to the Black Market
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How governments levy taxes on the marijuana industry is not only affecting how businesses structure themselves, but also may have an impact on the cannabis black market, a new report has found.

While a boon for private enterprise, marijuana also has been a significant revenue opportunity for governments. Many already have raked in millions in tax dollars and fees.

Colorado alone has taken in more than $500 million in taxes and fees since recreational marijuana became legal in 2014. California governments are projected to take in as much as $1 billion annually in taxes and fees with recreational marijuana sales starting this year.

However, tax policy on marijuana varies between the states. Taxes range from a 37 percent excise tax (Washington) to a 3.75 percent excise tax (Massachusetts). A new study from the National Bureau of Economic Research has found that tax policy has a dramatic impact on businesses and, if raised too high, could drive consumers to the black market.

Related: These 4 States Legalized Recreational Marijuana but Each Is Doing It (or Not) in Its Own Way

Gross Receipt Tax

The National Bureau of Economic Research study looked at Washington, where recreational marijuana sales started in July 2014. The state initially charged a gross receipts tax, which the study found led to inefficient vertical integration among many businesses.

Here’s why. The gross receipts tax levied a 25 percent tax on marijuana at every step along the supply chain. Cultivators, producers and retailers all were hit with the tax. While state law did not allow retail to integrate with businesses in the other two areas, many cultivators merged with producing operations, attempting to skip one level of taxation.

Recognizing the issue, Washington lawmakers reformed the state’s taxes and began charging the 37 percent excise tax on marijuana sales. With the tax incentive removed, companies can organize however is the most efficient operation based on their specialization.

However, the report also noted that “consumers bear 44 percent of the additional retail tax burden.” Which raises another issue.

Related: Is the Legal Marijuana Industry Sustainable for Entrepreneurs? What You Need to Know

Price-elastic

Price-elastic -- or its inverse, price-inelastic -- is a term that describes consumer sensitivity to price changes. At what price point will consumers in large numbers stop buying a product?

With 44 percent of Washington's excise tax burden passed on to consumers, the report found that in the short term, there was not much of a change. However, after a period of a few weeks, sales dropped. The Tax Foundation, in an opinion piece on the report, said the drop “could indicate that marijuana still faces significant competition from black market sales.”

The foundation has long warned about raising taxes too high on marijuana (or anything, really). They noted that Colorado found a 30 percent tax rate “did not sufficiently reduce the black market.” Most governments, watchful of events in Colorado, now aim for an excise tax rate between 10 and 25 percent. Colorado currently charges a 15 percent excise tax rate, in addition to the 2.9 percent sales tax levied on all sales in the state.

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