Jequetta Byrd and Laura Lieberman are state tax law editors at Bloomberg BNA's Arlington, Va., office.
Marijuana, both medical and recreational, has been a constant feature of legislative and legal controversy over the past few years. More than 20 states and the District of Columbia have legalized medicinal usage, and four states—Colorado, Washington, Alaska and Oregon—now regulate sales for recreational purposes. All the while, these states are in major conflict with federal law enforcement. Understanding the states’ tax regimes and regulatory structures is vital for companies involved in the marijuana trade and the companies with which they associate.
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Under federal law, marijuana is an illegal substance. The federal government originally banned it in 1937, Marijuana Policy Project Communications Manager Morgan Fox told Bloomberg BNA June 3. In 1970, the Controlled Substances Act classified marijuana as a Schedule I drug, meaning that it is legally considered to have no medical use and has a high risk of abuse.
Even though federal law prohibits marijuana possession and commerce, some legislators in Congress are attempting to make changes. In Congress, Rep. Jared Polis's (D-Colo.) H.R. 1013, introduced Feb. 20, proposes removing marijuana from the Controlled Substance Act (CSA) schedules. The legislation would also require federal permits for importing, manufacturing and selling cannabis for interstate or foreign commerce. Jurisdiction over marijuana enforcement would transfer from the Drug Enforcement Administration to the Bureau of Alcohol, Tobacco, Firearms and Explosives; the Alcohol and Tobacco Tax and Trade Bureau would be renamed the Alcohol, Tobacco and Marijuana Tax and Trade Bureau. Rep. Earl Blumenauer (D-Ore.) introduced H.R. 1014, the Marijuana Tax Revenue Act of 2015, which would impose an excise tax on marijuana products. For the first two years, the tax rate would be 10 percent. The tax would be 15 percent the third year, and in the fourth and fifth years, the rates would be 20 and 25 percent, respectively. The bill would exempt medical marijuana and marijuana purchased for further production under certain circumstances.
Both bills were referred to House committees earlier this year, but no action has since been taken.
In 1996, California became the first state to legalize medical marijuana. Since then, 23 other states and D.C. have legalized medical marijuana. Colorado, Washington, Alaska and Oregon have legalized the sale of retail marijuana.
In November 2014, a D.C. ballot initiative to legalize possession and cultivation (but not sales) passed. After a 30-day period of congressional review, Initiative 71 became law Feb. 26. Fox said that D.C. tried to pass legislation to regulate and tax retail marijuana, but Congress prevented this from happening. In Congress’s omnibus spending bill that passed in December, a rider does not allow D.C. to use either federal or local funds for activities regarding D.C. retail marijuana legalization.
This spending bill has forced D.C. to get creative in its efforts to legalize marijuana. Originally, the council prepared for a hearing on retail legalization, excise tax and regulatory legislation but had to settle for a roundtable discussion in February. The D.C. attorney general, Karl Racine, had notified the council that a hearing would violate federal law.
An inevitable consequence of the conflict between the federal government and the states has been litigation throughout the past ten years. In 2005, the U.S. Supreme Court ruled in Gonzales v. Raich, 545 U.S. 1 (2005) that congressional prohibition of marijuana cultivation, possession and use, even for intrastate, noncommercial purposes, was legal under the commerce clause. Previously, the Court had determined in United States v. Oakland Cannabis Buyers' Coop., 532 U.S. 483 (U.S. 2001) that there were no medical necessity exceptions to the CSA's ban on marijuana and reversed the U.S. Court of Appeals for the 9th Circuit's ruling that the District Court for the Northern District of California consider medical necessity exemption criteria on remand.
On July 9, the Ninth Circuit released an opinion, Olive v. Comm'r, No. 13-70510 (9th Cir. 2015), upholding the U.S. Tax Court’s decision that a medical marijuana dispensary could not make deductions under I.R.C. § 280E. The Tax Court had ruled against the deductions on the grounds that I.R.C. § 280E prohibits deducting expenses from illegal business activities.
The taxpayer in Olive pointed out similarities to another case, C.H.A.M.P. v. Comm'r, 128 T.C. 14 (T.C. 2007), but the 9th Circuit made important distinctions. In C.H.A.M.P., the taxpayer ran a counseling and caregiving service which offered a variety of therapeutic services and provided its members with medical marijuana. The customers paid membership fees for both the services and the marijuana. The Tax Court's Judge Laro ruled that the taxpayer could not deduct expenses related to medical marijuana on their taxes due to I.R.C. § 280E. However, expenses relating to costs of goods sold were deductible. In Olive, the 9th Circuit stated that the taxpayer only charged the customers for the marijuana, and the other activities offered, such as food and massages, were free. Thus, the only business the taxpayer engaged in was selling marijuana, and I.R.C. §280E prohibited expenses for that business from being deducted.
In Beck v. Comm'r, No. 25842-10, T.C. Memo. 2015-149, (T.C. 2015), the Tax Court determined that business owners could not deduct seizures of substances and marijuana-related income by law enforcement as losses. The ruling took I.R.C. § 280E into consideration, because Beck's entire business activities involved trafficking controlled substances (he owned a marijuana dispensary).
The federal government has not been the only entity seeking legal redress, however. States are now litigating against each other as well. Oklahoma’s and Nebraska’s attorney generals filed a motion for leave to submit a bill of complaint against Colorado in the U.S. Supreme Court in December 2014 (Oklahoma and Nebraska v. Colorado, No. 220144 (U.S.)).
Nebraska and Oklahoma argue that the two states have suffered as a direct result of marijuana legalization in Colorado. In particular, the motion states that their resources have been spent and law enforcement authorities are overworked enforcing state and federal prohibition rules as marijuana from Colorado has come into their jurisdictions. They seek a declaratory judgment ruling that the supremacy clause renders Colorado’s Amendment 64 unconstitutional.
Washington and Oregon have rallied to Colorado’s defense and have filed an amicus brief supporting the defendant. One of their arguments is that Nebraska and Oklahoma have no standing because there is not a dispute over states’ sovereignty and that by declaring Colorado’s enforcement policies unconstitutional, there would be more illegal activity spreading out beyond its borders.
On May 4, U.S. Solicitor General Donald B. Verrilli Jr. was invited to file a brief explaining the federal government’s view of the matter. The Court has not announced yet whether it will hear the case.
While legalization of recreational marijuana has grabbed the headlines, a strong regulatory structure is infinitely important to effective legalization and thus, critical to the industry’s survival. In Colorado and Washington, where legal recreational sales began in 2014, the ballot initiatives—Amendment 64 in Colorado and Initiative 502 in Washington—that ushered in the recreational marijuana age in those states mandated strict regulation. Ironically, the federal bank regulatory structure has resulted in limited access to the banking system for marijuana businesses. This has posed significant constraints on their ability to operate efficiently and threatens their long-term viability.
In Colorado, Amendment 64 mandated that the state Department of Revenue adopt regulations necessary to implement legalization. This mandate led to the creation of the Marijuana Enforcement Division to regulate retail marijuana, which includes issuing licenses for the cultivation, manufacture, distribution, sale and testing of retail marijuana and retail marijuana products in the state. The available licenses are a) Retail marijuana store license, b) Retail marijuana cultivation facility license, c) Retail marijuana products manufacturing license, d) Retail marijuana testing facility license, and e) various occupational licenses required for owners and staff with access to restricted areas of the licensed premises. As part of its regulatory function, the division established fees and renewal intervals for each of the retail marijuana licenses offered under Colorado law.
Amendment 64 also required that the state create and maintain a seed-to-sale tracking system that tracks retail marijuana from the seed or plant stage until it is sold at retail. Colorado requires that marijuana licensees closely track their products as they move through the revenue cycle. Specifically, retail marijuana cultivation facility licensees must track their marijuana from seed or immature plant to its purchase at wholesale, and retail marijuana products manufacturers must track their marijuana until it is transferred to a licensed retail marijuana store.
To effectuate this requirement, the Department of Revenue enacted regulations that require the licensees to use a Web-based inventory tracking system, formally called Marijuana Inventory Tracking Solution (MITS) and now known as Metrc. According to company data, Metrc has registered more than 11,000 users and tracked more than 3 million plants and 2 million packages. Licensees are required to have an active account before engaging in any licensed privileges. Retail marijuana licensees in Colorado are also required to maintain comprehensive records of their business transactions and make them available for inspection by the Marijuana Enforcement Division. They must allow access to their licensed premises during business hours for inspection or investigation by state or local officials.
In Washington, the Liquor and Cannabis Board is responsible for issuing licenses for the retail marijuana industry. Initiative 502 created three licenses—marijuana producer’s license, marijuana processor’s license and marijuana retailer’s license—each of which must be renewed annually. The producer’s license authorizes the holder to produce marijuana and sell it at wholesale to processors and other producers. The processor’s license authorizes the holder to process, package and label marijuana concentrates, usable marijuana and marijuana products for wholesale to other marijuana processors and retailers. The retailer’s license permits the holder to sell marijuana and marijuana-infused products at retail in retail outlets approved by the board. While a licensee is permitted to hold both a producer’s and a processor’s license, the holder of a retailer’s license is not permitted to hold either of the other marijuana licenses. Also, in deference to the U.S. Department of Justice's enforcement guidelines, which require states to tightly regulate their marijuana markets to prevent the drug from being diverted to the black market in other states, the board decided to limit producer licenses to one per applicant to lessen the possibility of over-supplying the marketplace.
Initiative 502 also requires that the state Liquor and Cannabis Board track marijuana throughout the supply chain. Unlike Colorado, which requires licensees to use a tracking system designated by the state, Washington permits its licensees to utilize their preferred inventory tracking system provided they are able to collect and submit the information mandated by the board.
Under the Controlled Substances Act, codified in Title 21 of the U.S. Code, it is illegal to manufacture, distribute or dispense, or possess with intent to manufacture, distribute or dispense a controlled substance, and marijuana is classified as a Schedule I, controlled substance. The statutory criteria for a Schedule I designation are as follows: 1) The drug or substance has a high potential for abuse; 2) The drug or substance has no currently accepted medical use in treatment in the U.S.; and 3) There is a lack of accepted safety for use of the drug or substance under medical supervision. The classification of marijuana under Schedule I seems, at a minimum, to be outdated, given that 25 states now have medical marijuana programs and numerous health studies have found that marijuana is useful in the treatment of certain maladies. However, it remains illegal under federal law.
On Nov. 4, 2015, Democratic presidential candidate Sen. Bernie Sanders (I-Vt.) introduced a bill in the Senate titled the Ending Federal Marijuana Prohibition Act of 2015. The legislation proposes, in part, that marijuana be removed from the schedule of controlled substances listed in the CSA, that the prohibition on import and export of marijuana be removed from the Controlled Substances Act and that marijuana be explicitly excluded from the prohibition on certain shipping or transportation also in the Controlled Substances Act. These actions would serve to legalize the drug under federal law and effectively remove the banking obstacles for those in the marijuana industry.
Additionally, the Marijuana Businesses Access to Banking Act of 2015 was introduced in both the U.S. House and Senate—as H.R. 2076 and S. 1726 respectively—earlier this year. The legislation proposes to insulate depository institutions from potential penalties associated with providing services to legal marijuana businesses, such as the termination or limiting of an institution’s deposit or share insurance. Federal regulators would be prohibited from encouraging depository institutions to either refuse to offer financial services or cancel or downgrade services offered to individuals involved in legal marijuana businesses. Regulators would also be prohibited from obstructing loans connected to legal marijuana businesses solely because of the type of business. The legislation further proposes that depository institutions be granted immunity from federal criminal investigations and prosecutions related to the provision of financial services to marijuana businesses that operate legally in states wherein such businesses are permitted. The protections afforded by this legislative proposal would also seem to eliminate many of the impediments to banking legal marijuana businesses; however, there has been minimal action on either bill at this juncture.
In the current legal environment, “banks that help the marijuana industry could be found guilty of ‘aiding and abetting' marijuana manufacturing or ‘conspiring' to dispense marijuana,” said Julie A. Hill, associate professor of law at the University of Alabama. Also, banks risk losing money as a result of criminal and civil forfeiture laws that allow officials to seize marijuana-related property, including bank accounts. Many banks are not willing to take that risk, Hill said.
Indeed, when contacted by Bloomberg BNA regarding their policy on providing services to marijuana businesses, Bank of America said simply, “As a federally regulated financial institution, we abide by federal law and do not bank marijuana-related businesses.” In Colorado, where recreational marijuana sales began in January 2014, stories of retailers and cultivators using armored transportation services to transport bundles of cash and being forced to pay their workers and taxes in cash are plentiful. There are currently about 10 banks banking the marijuana industry in Colorado, said Jim Marty, a CPA in the Denver area who services cannabis industry clients. Many of them are not accepting new marijuana business customers, however, because there is significant reporting, due diligence and compliance work that goes along with accepting marijuana bank accounts and limited profitability for banks, Marty said.
Last year, the Financial Crimes Enforcement Network (FinCEN) of the U.S. Department of Treasury released guidance intended to clarify how financial institutions can provide services to marijuana businesses and remain in compliance with the Bank Secrecy Act. The guidance indicates that banks should conduct due diligence to evaluate the risk involved in servicing specific marijuana-related businesses. The suggested due diligence steps are significant and include verifying that the business is licensed and registered in accordance with state law, identifying activity patterns for the business so that they are better able to notice suspicious activity and continuous monitoring. The guidance also reiterated the requirement that banks file a Suspicious Activity Report (SAR) on activity involving marijuana-related businesses, saying the requirement “is unaffected by any state law that legalizes marijuana-related activity” because federal law prohibits the distribution and sale of marijuana.
There are three different SAR filings that financial institutions banking marijuana-related businesses must utilize: a) Marijuana Limited filing; b) Marijuana Priority filing; and c) Marijuana Termination filing. The “marijuana limited” SAR filing should be used when the bank reasonably believes that the marijuana business neither violates state law nor implicates one of the priorities set forth in the August 2013 memorandum from Deputy Attorney General James M. Cole to U.S. Attorneys. The “marijuana priority” SAR filing should be used when the bank reasonably believes that the marijuana business implicates one of the Cole Memo priorities or violates state law. The “marijuana termination” SAR filing should be used when the bank determines that they must terminate a relationship with a marijuana business in order to remain in compliance with federal anti-money laundering requirements.
The guidance provides a list of red flags that could indicate a business is in violation of state law or is engaged in activity that implicates the Cole Memo. Still, it can be difficult for banks to know whether a customer’s marijuana business implicates the federal enforcement priorities, and bank mistakes involving suspicious transaction reporting can lead to criminal charges and fines, Hill said.
The Cole Memo sets forth some rather encompassing priorities for federal prosecutors in enforcing the Controlled Substances Act against marijuana-related conduct. Those priorities are: a) preventing the distribution of marijuana to minors; b) preventing revenue from the sale of marijuana from going to criminal enterprises, gangs and cartels; c) preventing the diversion of marijuana from states where it is legal under state law in some form to other states; d) preventing state-authorized marijuana activity from being used as a cover or pretext for the trafficking of other illegal drugs or other illegal activity; e) preventing violence and the use of firearms in the cultivation and distribution of marijuana; f) preventing drugged driving and the exacerbation of other adverse public health consequences associated with marijuana use; g) preventing the growing of marijuana on public lands and the attendant public safety and environmental dangers posed by marijuana production on public lands; and h) preventing marijuana possession or use on federal property. The memo also affirms that the federal government is not precluded from investigating or prosecuting financial institutions where it would serve “an important federal interest,” even when the stated priorities are not implicated. Most banks have decided that the compliance obligations associated with banking marijuana businesses are too high and that they cannot economically conduct the level of due diligence expected by FinCEN, Hill said.
In 2014, Colorado and Washington became the first two U.S. states, and according to the Drug Policy Alliance, the first two jurisdictions in the world, to legalize the retail sale of marijuana. Colorado sales began in January, while Washington’s first retail store opened for business in July. The potential for a significant boost in state tax revenue was a primary justification for legalization. Hefty taxes are imposed on retail marijuana in both states.
Colorado imposes a 15 percent excise tax on the average market rate of unprocessed retail marijuana. The tax is imposed on the first sale of such marijuana by a retail marijuana cultivation facility whether it is to another cultivation facility, a manufacturing facility or a retail marijuana store. It does not apply to unprocessed marijuana that is sold or transferred to a medical marijuana center. Colorado also imposes a 10 percent retail marijuana sales tax on all sales of retail marijuana and retail marijuana products by a retailer. Under current law, this tax rate will be reduced to 8 percent beginning July 1, 2017. Both retail marijuana taxes imposed in Colorado are levied in addition to the state sales tax of 2.9 percent and any local taxes imposed in the relevant jurisdiction.
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The Colorado Taxpayer’s Bill of Rights (TABOR) Amendment stipulates that neither the state nor local governments can raise taxes without voter approval, and further requires that governments must get voter approval to spend tax revenues collected if revenues grow at a faster pace than population growth and inflation. When Colorado voters approved the new taxes on retail marijuana via Proposition AA, state spending was estimated at $12.08 billion for fiscal year 2014-15, and the new marijuana excise and sales tax was expected to bring in $67 million over the same time period. Because fiscal year spending was underestimated on Proposition AA—at $12.35 billion it was $270 million more than was predicted—TABOR requires that the state refund the revenue generated from the new marijuana tax if voters do not give approval to the state to keep it in the coffers.
Accordingly, in June, Colorado Gov. John Hickenlooper (D) enacted legislation that required Coloradans to vote on whether marijuana tax revenue should be refunded. This was effectuated via ballot measure Proposition BB which prompted voters to vote yes or no to the question of whether the state could retain marijuana tax revenue that was marked for refund because the state’s actual revenue was less than what was estimated on Proposition AA. On Nov. 3, 2015, they voted overwhelmingly to allow the state to retain the $66 million in collected marijuana tax revenue and use it to provide $40 million for public school building construction, with the remaining monies being used to fund other purposes including marijuana education and prevention programs.
Irrespective of what happened with the refund measure, because spending exceeded the benchmarks presented when voters approved the marijuana taxes, TABOR required the tax rate must be reduced to zero under TABOR. Thusly, Colorado effectuated a one-day repeal of both of the retail marijuana taxes on Sept. 16, 2015. On Sept. 17, the taxes were reinstated.
As in Colorado, Washington voters elected to legalize the possession and sale of recreational marijuana for adults aged 21 and older by approving Initiative 502 in 2012. While possession became legal 30 days after the vote, legal retail sales of the drug did not begin until July 2014, after the state established its regulatory and taxation structure. Initially, the state imposed a three-tier excise tax, taxing sales by producers, processors and retailers at the rate of 25 percent in addition to state and local sales tax. For fiscal year 2014-15, the first full year of legal sales in Washington, the marijuana excise tax alone generated $65 million in tax revenue.
Effective July 1, 2015, Washington replaced the three-tiered model with a single marijuana excise tax of 37 percent on the sale of marijuana concentrates, usable marijuana and marijuana-infused products. The tax is imposed in addition to applicable state and local sales and use taxes and is imposed on both recreational purchasers and medical marijuana patients. The increased tax rate could represent a greater burden for consumers of marijuana products in Washington. If marijuana retailers adjust their pricing to account for their reduced tax burden, this will likely be a non-issue; however, retailers will likely seek to bolster their profits in an industry where profit margins are very slim, due in part to considerable federal tax obligations. When asked whether the 37 percent tax is too high, Marty noted that the Washington marijuana tax rate is not significantly higher than Colorado’s tax and marijuana sales in Colorado are booming: “37 percent may not be too high but it could be, time will tell.”
The amended tax law also requires that the 37 percent tax is separately itemized as a tax on the sales receipt provided to the buyer. This provision means a great deal to marijuana retailers because it precludes them from having to pay federal income tax on monies that belong to the state of Washington. Under I.R.C. § 280E, no deduction is allowed for expenses incurred in any business that involves trafficking in controlled substances prohibited under federal law. Because the new excise tax is collected from the purchaser at the point of sale and clearly delineated as a tax rather than paid by retailers as a percentage of their revenue, they will avoid federal taxes on the state marijuana excise tax going forward, which was the intention of state legislators.
Additionally, memorandum number 201531016 from the IRS Office of Chief Counsel, which was released on July 31 and analyzed the deductibility of Washington excise tax under the prior tax regime, stated that a taxpayer subject to Washington’s marijuana excise tax should treat the payment of the tax as a reduction in the amount realized from the disposition of property rather than as cost of goods sold or a deduction from gross income. I.R.C. § 164(a) permits state taxes resulting from acquisitions or dispositions of property by trades and businesses to be considered reductions in the amount realized from the property’s sale. The memo distinguished the payment of state excise tax on marijuana sold from the prohibitions set forth in I.R.C. § 280E, explaining that the excise tax is neither a deduction from gross income nor a tax credit, both of which are expressly prohibited.
In other federal guidance, the Department of Justice (DOJ) issued a statement on federal marijuana enforcement policy in Native American territories, specifically in light of state legalization in several states that abut those territories. The statement reaffirms the law enforcement priorities set forth in the Cole Memo as their guide for investigative and prosecutorial activity in the territories while also reserving the right to act even when those priorities are not implicated. The statement further acknowledged the necessity that the federal government and tribal governments work together in the pursuit of effective marijuana enforcement in Native American territories.
Operating under a similar philosophy, Washington enacted H.B. 2000 during the 2015 legislative session, which allows the governor to enter into cooperative agreements with federally recognized Native American tribes concerning marijuana. The agreements can cover taxation, criminal and civil law enforcement, regulatory issues related to commercial production of marijuana, dispute resolution and other matters. Regarding taxation, the agreements must set forth a tribal marijuana tax that is at least equal to the excise tax on marijuana and state and local sales and use taxes on marijuana sales imposed by Washington state. Medical marijuana products used for medical treatments in tribal facilities within tribal territories can be exempted from the tax. Sales of marijuana grown, produced or processed in tribal territory and sold to tribal entities can also be exempted from the tax. In light of this exemption provision in particular, it is clear that the Washington government will use these compacts as a way to prevent avoidance of Washington’s marijuana tax by removing the opportunity to do untaxed business with sovereign tribes.
On Sept. 15, 2015, the Suquamish tribe and Washington executed what has been called the nation's first state-tribal marijuana compact. The 10 year agreement applies to the production, processing and sale of marijuana products in Suquamish territory and adheres to the parameters established by H.B. 2000. It stipulates that the Suquamish tribe is able to purchase marijuana products from or sell them to state marijuana licensees without penalty and also sets forth regulatory requirements, including requiring that all marijuana purchased or sold by the tribe be tracked and that the tribe notify the state prior to new producers and processors beginning operations. The compact asserts that the tribe is not subject to any of the marijuana-related taxes or license fees imposed by Washington, but also requires that it impose a tribal tax on marijuana that is at least 100 percent of the Washington tax. As mentioned above, there are several exemptions permitted under the compact, but the tribe can also choose to levy the tax under those scenarios.
Shortly after finalizing the agreement with the Suquamish, Washington entered into a marijuana compact with the Squaxin Island tribe.
Alaska and Oregon became the third and fourth states to legalize retail marijuana sales last year. As Fox told Bloomberg BNA, both states are currently creating regulatory systems to implement the new laws.
Sales of retail marijuana became legal in Alaska when voters passed a ballot initiative, Measure 2, in the November 2014 election.
Measure 2 required the state Alcoholic Beverage Control Board to create regulations for licensing, penalties and public health and safety measures within nine months; the board’s deadline for adopting all regulations is Nov. 24. Draft regulations are available on the board’s website, but comments closed Nov. 11. There are nine articles in these regulations, and they include licensing and fees, local options, retail stores, cultivation, manufacturing and testing facilities, requirements for marijuana establishments, enforcement and general provisions. Fees for new licenses are $1000, and the application fee for a license renewal is $600. Annual license fees range between $1000 and $5000 for retailers, cultivators and manufacturers.
H.B. 123, signed into law on May 12, amends and reenacts some statutory provisions of Measure 2. The Alcoholic Beverage Control Board has the power to establish a Marijuana Control Board at its discretion. Under the new law, the governor must appoint the board members; the members must come from the public safety and public health sectors, rural residential areas, the marijuana industry, and one additional member must also be a part of the general public or be involved with the marijuana industry. The board members, appointed July 1, are Peter Mlynarik, Chief of Police in Soldotna; Juneau Assembly member Loren Jones; Bethel City Council member Mark Springer; and Brandon Emmett and Bruce Schulte of the Coalition for Responsible Cannabis Legislation.
Alaska’s tax rate is $50 per ounce of marijuana sold or transferred to a retail marijuana store or manufacturing facility. The Department of Revenue predicts that the first year’s marijuana tax revenue will be between $5.1 and $9.2 million, according to a July 1 gubernatorial press release.
Like Alaska, Oregon voters approved a ballot initiative, Measure 91, in November 2014. The state had begun implementing a modified medical marijuana program the previous year.
The original tax rate, as established in Measure 91, was based on weights and units and referred to as a “harvest tax.” For marijuana flowers, the tax was $35 per ounce; marijuana leaves had a $10 per ounce tax. The rate for immature marijuana plants was $5.
However, a bill from this past legislative session, H.B. 2041, significantly altered the state’s retail marijuana tax regime. Gov. Katie Brown (D) signed it into law July 22. The bill imposes a tax of 17 percent of the retail price of marijuana leaves, flowers, plants and cannabinoid extracts, concentrates and products. Sellers will be responsible for collecting the tax from customers and remitting it. The text of the law is very similar in phrasing to an earlier (unsuccessful) amendment for H.B. 3400.
The 17 percent tax will result in lower consumer prices and more legal marijuana transactions, according to the Legislative Revenue Office’s June 23 H.B. 2041 revenue impact statement. This governmental concern about illegal markets is not new. During a May 20 public hearing for an unsuccessful amendment to H.B. 3400, economist Beau Whitney of Whitney Economics LLC testified that the current harvest tax encourages “grey market” activity because the rates significantly increase the cost of marijuana. His suggestion was for a 12.5 percent tax rate. Other revenue impact statements have examined the elasticity of the grey market and proper actions to eliminate these activities as well.
The state government has also been creating regulations for the substance.
On June 30, Brown signed H.B. 3400 into law. The legislation contains requirements that licensed marijuana businesses only receive products from licensed sellers. H.B. 3400 also outlines requirements for production, processor, wholesale and retail license applications. These licenses must all be renewed annually. The bill also states that the Oregon Liquor Control Commission (OLCC) is to create more detailed regulations. On Oct. 22, the OLCC adopted temporary rules for marijuana licensees; these include details for the application process, licensee qualifications, fees and security.
Under H.B. 3400’s provisions, the state Legislature is in control of setting taxes and fees on marijuana; local level jurisdictions must get approval before imposing their own. Tax and fee ordinances that the Legislature approves cannot have taxes that are more than 3 percent.
H.B. 3400 also calls on the OLCC to create a “Seed to Sale Tracking System,” which is to prevent marijuana from falling into the hands of criminals and being sent to other states, adulteration of marijuana products and to prevent accounting and tax collection errors. The OLCC's new temporary rules elaborate on this system.
Additionally, Brown also signed S.B. 460 into law on July 27. Beginning on Oct. 1, this law allows medical dispensaries to sell retail marijuana in limited amounts until Dec. 31, 2016. Per provisions in H.B. 2041, dispensaries will not collect excise taxes on the retail sales until Jan. 4, 2016. Beginning on this date, the tax rate for dispensaries' sales of retail marijuana will be 25 percent of the retail sales price.
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The first legalized cannabis usage began with states’ legalization of medical marijuana. California was the first state to do so in 1996, and 23 states and D.C. have followed its example. However, the characteristics of these medical marijuana programs vary by state, from the structure of the programs themselves to the qualifying physical conditions to the form of cannabis permitted. Most states have agencies and boards that create and enforce the licensing, medical card registration and possession requirements for medical marijuana. However, local-level jurisdictions control medical marijuana cooperatives and dispensaries in California.
There are currently two bills before Congress that relate to medical marijuana. S.683, or the Compassionate Access, Research Expansion and Respect (CARERS) Act, was introduced in March. This bill would switch marijuana from the Schedule I list to the Schedule II list, redefine the CSA’s definition of marihuana to exclude cannabidiol, exempting people who comply with state medical marijuana laws from enforcement. The bill has the same proposals as S. 1726, which include prohibiting federal banking regulators from preventing financial institutions' providing services to legitimate marijuana-related businesses and requiring banks to follow FinCEN guidance. Another medical marijuana bill, H.R. 667, would require Department of Veterans Affairs physicians to give recommendations about medical marijuana to veterans living in states with established cannabis programs.
There has been recent congressional activity regarding marijuana. In the Consolidated and Further Continuing Appropriations Act of 2015, Congress forbade the DOJ from using funds for activities that interrupted states’ medical marijuana programs. In 2015, Congress continued to do the same with the Continuing Appropriations Act of 2016.
On Oct. 20, Judge Charles Breyer of the U.S. District Court for the Northern District of California issued a ruling that effectively limits the federal government’s drug enforcement abilities. In United States v. Marin Alliance for Medical Marijuana, 2015 BL 343447 (N.D. Cal. 2015), the defendants sought to dissolve an injunction placed against them for dispensing marijuana in violation of the Controlled Substances Act. The court ruled that because the federal 2015 Appropriations Act and 2016 Appropriations Act do not permit the DOJ to use funds to prevent states from operating their medical marijuana programs, the injunction could only be enforced against the defendants to the extent that they violated California medical marijuana laws.
Marijuana Policy Project Communications Manager Morgan Fox, National Cannabis Industry Association Deputy Director Taylor West and the Tax Foundation's Vice President of Legal and State Projects Joseph Henchman explained to Bloomberg BNA that states’ medical marijuana legalization experiences have been influential for recreational marijuana legalization. During his June 3 phone interview, Fox said “the medical industry . . . was regulated beforehand and paved the way.” He identified Colorado’s regulatory system as shaping the marijuana policy world in particular. While other states had already started regulating medical marijuana dispensaries, they were on a smaller scale and there were fewer dispensaries in those states. “When you can’t see how something will operate, it makes people less inclined for it,” Fox said, explaining many legalization critics’ concerns. He said because Colorado gained experience with regulating the medical marijuana industry, there was less fear when the state legalized retail marijuana. He said “people could see high-functioning medical marijuana regulations in place,” showing them firsthand how the recreational marijuana industry would work.
West discussed how experiences with medical marijuana have been crucial for setting the tone of their retail markets. She explained that Colorado and Washington took different approaches in handling their systems and received different results. Whereas Colorado’s retail system was built on its state medicinal marijuana regulatory program, Washington’s medicinal marijuana program was unregulated and thus struggled.
Henchman said that Washington had to create a new regulatory program for retail marijuana, and that the Washington State Liquor Control Board (WSLCB) received jurisdiction over marijuana.
Among the WSLCB’s difficulties was the lack of regulation for medical marijuana. Henchman said that it was so unregulated that the state did not know the extent of it.
Moving forward, another problem is the board’s location. The agency only has revenue offices in Olympia. Because marijuana is a cash-only industry, marijuana companies have had to come to that one location to pay their taxes. But, as Henchman noted, “the office has been renovated and now has a teller window.”
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Generally, patients register to use the substance for serious medical conditions and receive medical marijuana cards. However, there are variations in the medical marijuana programs. For example, New York and Minnesota do not permit smoking the substance but do allow using other forms. Minnesota permits only liquid and pill forms of cannabis.
Normally, patients only pay sales tax on these purchases. However, there is a small number of states that impose excise taxes on the products. Washington’s H.B. 2136, which was signed into law June 30, extends excise taxes (37 percent) to medical marijuana. Qualified medical cardholder patients and providers will instead be exempt from retail sales and use taxes, starting July 1, 2016. Additionally, S.B. 5052, signed into law April 24, merges retail and medical marijuana under the same regulatory program. New York imposes a 7 percent gross receipts tax on medical marijuana.
Medicinal marijuana is not a radically separate substance from recreational marijuana. West explained that the primary difference is the potency level. She said patient-consumers have a greater tolerance for the tetrahydrocannabinol (THC), so the medicinal version has a higher potency.
A major concern is that medical marijuana is a “wink and nod” situation, according to Henchman. Within states that have legalized recreational cannabis, there are many people who should be retail purchasers but who are instead participating in the medical market. He further noted that the Colorado tax revenue for FY 2014 is primarily from the retail marijuana market of tourists from other states. Because medical marijuana is usually only subject to sales taxes, and thus cheaper than retail marijuana, purchasers have incentives to avoid the retail market.
West also identified concerns for Bloomberg BNA about H.B. 2136, before it became law, about its implications on medical marijuana. She said that there are worries that “people will see marijuana as purely retail” and that patients will “get the short end of the stick,” because with most other forms of medicine, there are no taxes or tax exemptions that apply.
The medical marijuana regulatory programs differ in the states; while some like Colorado have been successfully operated, other states have not fully implemented theirs. Though California was the first state to legalize medical marijuana, the state did not have regulations for many relevant aspects of medical marijuana. However, Oct. 9 Gov. Jerry Brown (D) approved three medical marijuana regulation bills that form the Medical Marijuana Regulation and Safety Act. Brown's press release to the state assembly described these regulations as “long-overdue” and “a clear and certain signal to our federal counterparts that California is implementing robust controls not only on paper, but in practice.” A.B. 266 requires state-issued cannabis licenses, which must be renewed annually. Among these license requirements is testing the marijuana products produced and sold. The legislation also establishes a division of the Department of Consumer Affairs, the Bureau of Medical Marijuana regulation. A.B. 243 gives different state agencies the power to create and administer environmental regulation for marijuana cultivation; one of Brown's press releases identified unregulated marijuana as “one of the greatest threats” to the state's wildlife. S.B. 643 regulates standards for doctors that prescribe medical marijuana to their patients and creates disciplinary procedures. The legislation charges the Department of Food and Agriculture, the Department of Consumer Affairs and the State Department of Public Health with responsibility for licensing and standards requirements. The Department of Food and Agriculture will supervise cultivation and transportation regulations, the Department of Consumer Affairs will administer transportation and storage licensing and the State Department of Public Health will govern manufacturing and testing rules.
A lawsuit has been filed in response to the new regulations. A medical marijuana collective owner's complaint, Armstrong v. State of California (Cal. Super. Ct.), filed in the Santa Clara Superior Court on Oct. 21, argues that the new regulations violate the state constitution. The complaint states that the regulations amend the 1996 Compassionate Use Act without prerequisite voter approval and hinder the purpose of the act by placing restrictions on how much marijuana sick people can grow, regulating physicians' medical marijuana recommendations and imposing licenses and fees on growers and providers. The collective operator also argues that the federal Controlled Substance Act preempts the new regulations.
Nevada’s production and distribution regulations only became effective last year, even though medical marijuana was legalized in 2000. Before the Legislature approved the senate bills that required the state health department to create regulations in 2013, qualifying patients had to grow their own cannabis. The regulations also impose an excise tax of 2 percent of the sales price on three transactions: 1) cultivation facilities’ wholesale sales of marijuana to another medical marijuana establishment, 2) facilities’ wholesale sales of edibles and infused products for producing edibles and infused goods to another establishment, and 3) dispensaries’ retail sales of marijuana and marijuana products. State and local sales and use taxes also apply to retail sales.
Separate from medical marijuana is cannabidiol (CBD) oil. States that have legalized the oil are not considered medical marijuana states. Cannabidiol oil is made from strains of marijuana with less THC, producing fewer or no psychoactive effects. It has therapeutic qualities and is helpful for children with epilepsy. There are 15 states that have legalized it, and states that have legalized a comprehensive medical marijuana program generally permit CBD oil use as well.
West mentioned some problems with states only legalizing the oil. In her June 5 interview with Bloomberg BNA, she explained that CBD oil is not a panacea; the oil does not work for all disorders and so having access to whole plants is necessary for treatment. She identified legalizing only the oil as “not a good long-term plan.” She explained that marijuana has an “entourage effect,” meaning that it works better with many forms instead of just using a single type. Additionally, she noted that in some CBD oil states, there are not actually any regulations that allow making the substance legally or providing other modes of access to CBD oil.
There are a number of campaigns to put marijuana legalization and taxation initiatives on states’ ballots in both the 2015 and 2016 elections. There are a few states in particular receiving attention for their ballot initiative campaigns, such as Massachusetts, Nevada and Maine.
There was a 2015 ballot initiative to legalize both medical and recreational marijuana in Ohio.
On Nov. 3, 2015, voters decided against a ballot initiative, Issue 3, that would have amended the state constitution by legalizing medical and recreational marijuana (2015 Weekly State Tax Report 36, 11/6/15). The official state results as of Nov. 6 recorded 2,003,641 voting against and 1,122,386 voting in favor.
Legalization organization ResponsibleOhio’s initiative proposed a 15 percent gross revenue tax on growth, cultivation, extraction and manufacturing facilities. For retail facilities, there would have been a 5 percent tax on gross revenue.
Issue 3 was controversial due to the structure of the marijuana legalization program. Ten individuals would have received exclusive rights to cultivate, grow and produce the marijuana in ten counties; those owners had supported the ballot petition campaign financially. An additional license every four years would have been granted if demand exceeded supply. Retail licenses would have also been available for approximately a thousand businesses.
According to opposing arguments posted for interested voters on Ohio Secretary of State Jon Husted's (R) website, the structure of this licensing program would have created an oligopoly.
The state Legislature wrote a ballot initiative to counteract Issue 3. Issue 2 asked voters to decide whether to amend the state constitution to “prohibit from taking effect any proposed constitutional amendment that appears on the November 3, 2015, statewide ballot creating a monopoly, oligopoly or cartel for the sale, distribution or other use of any federal Schedule I controlled substance.” The state elections website listed the results for Issue 2 as 1,489,703 voting “No” and 1,587,060 voting “Yes” as of Nov. 6.
Fox told Bloomberg BNA in a Nov. 6 e-mail that the oligopoly structure “certainly played a large part” in voters' reactions, noting that the initiative would have amended the state constitution and required greater efforts to change it. Fox also said that the ten cultivation licenses would have caused supply issues. Additionally, ResponsibleOhio's marijuana mascot (Buddie the marijuana bud) caused concern for voters “who though that it resembled something that could appeal to children.”
Now less than a year away, marijuana advocates are working to get cannabis legalization on the ballots for several states. There has already been considerable activity as some organizations are currently seeking signatures to get their initiative petitions reviewed by state officials. Other initiatives have received certification and require certain numbers of signatures to be on the ballot, while Nevada has already placed an initiative on its 2016 ballot.
The Marijuana Policy Project is sponsoring The Campaign to Regulate Marijuana Like Alcohol initiatives in Arizona, California, Maine, Massachusetts and Nevada in addition to supporting federal and state legalization legislation. When asked about the organization's decision-making process for tax rates, Fox told Bloomberg BNA Nov. 6 that “[t]he key is to ensure that the tax rate is high enough that it will cover administrative costs of regulation and be attractive to voters from a revenue perspective, while also not increasing the cost to the point where there is serious incentive to continue to operate in the illicit market. The exact number is usually influenced by polling and economic estimates. State regulatory bodies also have the ability to add taxes at various levels of production or sale.”
In Massachusetts, there are currently two organizations collecting signatures to put their initiatives on the state ballot. The Campaign to Regulate Marijuana Like Alcohol and Bay State Repeal filed retail legalization ballot initiatives for the 2016 election with state Attorney General Maura Healey’s (D) office Aug. 5, and Healey certified both groups’ initiatives Sept. 2.
The Campaign to Regulate Marijuana Like Alcohol’s initiative calls for an excise tax of 3.75 percent of retail marijuana’s sales price, in addition to state and local sales taxes. The excise tax would not apply to medical marijuana. If successful, this initiative would go into effect on Dec. 15, 2016.
A local advocacy group, Bay State Repeal, submitted three ballot petitions with Healey's office. In two of the three versions, “Law Ending Marihuana Prohibition for Persons 21 Years of Age or Older,” marijuana products would be subject to state sales tax and a 0.75 percent excise tax on marijuana cafes’ gross receipts. A $25 yearly excise tax on cannabis club members would also be imposed. Local governments with restaurant meals sales tax would also impose the same tax rate on marijuana edibles, 0.75 percent of vendors’ gross receipts. Currently, the state sales tax rate is 6.25 percent of the sales price.
Adhering to state ballot procedure, the organizations submitted their ballots to Secretary of the Commonwealth Francis Galvin’s (D) office to receive blank petition forms for supporters’ signatures. They must now collect signatures in order for their initiatives to advance.
There are two things that can happen with the initiatives, according to Galvin’s State Ballot Question Petitions publication. If the petitions’ signatures meet 3 percent of all votes made for governor in the last election (for 2016, 3 percent would be 64,750 votes), they will go to the state Legislature for consideration.
Failing that, the initiatives can go directly before the voting populace. They must receive another half of 1 percent of votes for governor in the past election, or for 2016, 10,792 signatures, to be put on the ballot.
In Maine, two campaigns have signed onto one marijuana legalization ballot initiative. Originally the Campaign to Regulate Marijuana Like Alcohol and Legalize Maine were both collecting signatures for their initiative petitions that Secretary of State Matthew Dunlap approved earlier this year. However, the Campaign to Regulate Alcohol’s Oct. 26 press release announced the two organizations' agreement to work together. Fox told Bloomberg BNA in his Nov. 6 e-mail that the Campaign to Regulate Marijuana Like Alcohol will now be supporting Legalize Maine's initiative. The release emphasized that combining the campaigns’ efforts would increase the likelihood of marijuana legalization. Legalize Maine’s release, posted on Nov. 2, explained that the organizations “have formed the Maine Industry Group, which will fight for the existing medical marijuana program and prepare to protect the spirit of our language during implementation.” Fox also explained in his e-mail that “[b]oth campaigns did not want to confuse voters or split our community of supporters, so we agreed to work together on a single initiative.”
The Campaign to Regulate Marijuana Like Alcohol’s initiative would have subjected retail marijuana to a 10 percent sales tax in addition to pre-existing sales tax but exempted medical marijuana. Legalize Maine’s proposed tax is 10 percent and specified that it can be “the only tax charged” for retail marijuana purchases; medical marijuana would not be taxed.
The Nevada Campaign to Regulate Marijuana Like Alcohol’s initiative would amend the state constitution and impose an excise tax on 15 percent of the wholesale price and subject the substance to state and local sales taxes. The tax is imposed on cultivation facilities, and pre-existing state and local use taxes will apply. The Initiative to Regulate and Tax Marijuana would legalize possession, sale and use for adults 21 and older. The Department of Taxation would control the licensing process and adopt regulations for the substance. Adults would be able to buy, consume and possess up to an ounce of non-concentrated marijuana, possess 12 plants in one residence and possess/use/buy one-eighth of an ounce of concentrated marijuana. Retail stores, manufacturing and cultivations facilities must all have licenses to operate. Distributors must also have licenses.
Licenses are issued on an annual basis. The application fee is $5,000, and it is a one-time fee. There are also additional fees based on the type of license and whether it is an initial licensee fee or a renewal.
The campaign in Nevada already has the required number of signatures necessary for the initiative to be on the ballot in next year's election. If voters approve the initiative, it will be effective on Jan. 1, 2017. The petition was submitted to the state Legislature earlier in 2015, but lawmakers did not approve it and it was instead placed on the ballot.
California has not yet legalized retail marijuana, despite numerous ballot initiatives and bills attempting to do so. There are currently nine retail legalization ballot initiatives filed with California Attorney General Kamala Harris’ (D) office that have been approved for gathering signatures. There are also eight initiatives waiting on Harris’ review.
While there are many differences in specific rates, many of the initiatives call for an excise tax not to exceed a certain percentage of the retail price and subjecting retail marijuana to pre-existing state and local sales and use taxes. Exempting marijuana sold for medical and dietary purposes from taxes is another common feature. The deadlines for collecting signatures for these initiatives are in December, January, March and April.
The Marijuana Policy Project announced Nov. 4 that the organization will be supporting a recent initiative, the “Control, Regulate and Tax Adult Use of Marijuana Act.” The blog post announcement states that the initiative would regulate marijuana like alcohol, prevent black market sales and provide millions of tax revenue. This initiative was filed Nov. 2 and is awaiting approval. It proposes a tax of 15 percent on gross receipts from retail sales, in addition to existing state and local sales and use taxes. Medical marijuana would be exempt from the tax. Licensed cultivators would also have to pay cultivation taxes. The rate for flowers would be $9.25 per dry ounce; for leaves, $2.75 per dry ounce. In Arizona, the Campaign to Regulate Marijuana Like Alcohol's initiative would impose an excise tax of 15 percent of the retail price of marijuana and calls for a regulatory licensing system, with applicants receiving licenses by Dec. 1, 2017. Application fees would be $5,000, but additional annual licensing fees would vary depending on the applicant’s business, such as testing facilities renewal licenses ($3,300) and retailers ($6,600 for retailer renewal fees).
The website reports that the campaign had gathered more than 75,000 as of Nov. 2; they need 150,0642 for the initiative to be on the ballot.
In addition to the recreational marijuana legalization campaigns, there are also medical ones as well. A few examples are Arkansas and Missouri.
Another state is Florida. During the November 2014 election, a Florida ballot initiative, Florida Amendment 2, to legalize medical marijuana failed to receive voter approval. National Cannabis Industry Association Deputy Director Taylor West explained to Bloomberg BNA June 5 that the amendment failed because the state constitution requires a 60 percent supermajority vote for ballot initiatives. However, she noted that there are plans in place to bring this initiative back for the 2016 election, where there may be more voters at the polls due to the presidential election.
The organization that introduced Amendment 2, People United for Medical Marijuana, filed their initiative for 2016 on Jan. 1.
Additionally, there are two other ballots seeking signatures that are currently listed on the Florida Department of State’s website. One of these targets both medical and recreational marijuana, and the other proposes that the state regulate medical cannabis through the Department of Health. Sensible Florida, Inc. filed the full marijuana legalization initiative on Aug. 26, and Florida Citizens for the Legalization of Medical Cannabis filed on Sept. 3.
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In 1996, California was the first state to legalize medical marijuana, and in the intervening years, 23 states and D.C. have followed suit. Likewise, in 2012, Colorado was the first state to legalize the manufacture and sale of retail marijuana, and since then four states have followed suit. While federal prohibitions concerning marijuana have certainly complicated legalization in the states, it does not appear to be the impediment it once was, as numerous other state Legislatures are actively considering how to effectively legalize and tax the sale of marijuana.
Until there is a marked change in federal policy, legal marijuana businesses will continue to combat issues such as limited access to banking and limits on the deductibility of legitimate business expenses, both of which stem from conflicts between state and federal law. The winds of change are definitely in the air, but only time will tell just how powerful they are.
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