Legal pot: The taxman’s two favorite words

Business, Marijuana, Taxes

Twenty-three states and the District of Columbia have now legalized medical marijuana, and four states (Alaska, Colorado, Oregon, and Washington) have legalized pot for recreational use.

As the laws have changed and social acceptance has grown, so has the ability to make money—lots of it.

How much money? A recent Washington Post analysis estimates that legal weed (both medical and recreational), which currently stands at about $700 million in sales, will likely grow into a $1 billion industry by 2016. In fact, marijuana is currently the nation’s fastest growing industry.

Furthermore, according to a recent report by the research firm GreenWave Advisors, if all 50 states and the federal government legalized pot, sales could reach as high as $35 billion a year by 2020. That’s about the size of Bolivia’s current GDP.

Besides facilitating economic growth, there’s another huge pot of gold (so to speak) the government could reap if marijuana was legalized nationally: tax revenue.

How is pot taxed?

Until recently, all marijuana bought and sold in the United States was transacted outside of lawful markets where it could be regulated, and thus, taxed. Now, in states that have legalized pot, whether solely for medicinal or also recreational use, the black market is slowly becoming marginalized as more and more marijuana is sold through open, legitimate channels.

There are a number of different ways marijuana can be taxed: sales taxes, excise taxes, and personal income taxes for those in the business of producing, distributing or selling, are some of the most common, along with application and licensing fees. (note: there are many sub-types under each category).

Sales taxes

Currently, 11 of the 23 states that have legalized medical marijuana and the four states with legal markets for recreational use each apply their general sales tax to purchases of weed. General state sales taxes range from nothing to 7.5% (although this number can be much higher if you include city and county sales taxes).

Excise taxes

Because the FDA classifies medical marijuana as a non-prescription drug, there are currently no states in which it is exempted from the general sales tax. However, medical pot is not subject to excise taxes and many other fees.

Excise taxes are additional levies on a specific good. They are often used to off set its social costs, like with cigarettes or alcohol. In terms of pot, there are two main types of excise taxes: per-unit and value-based. Alaska, for example, applies a per-unit tax of $50 per ounce, while Washington has a value-based tax, which imposes a 25% levy whenever marijuana is sold from producers to processors or from processors to retailers.

On top of all those taxes imposed by the state, there are often overlapping and additional local and federal taxes.

When you combine it all, the nickel-and-diming starts adding up fast. For example, in Colorado there is a 10% retail marijuana special tax, a 2.9% retail and medical marijuana sales tax, and a 15% marijuana excise tax—a 27.9% levy at the cash register. And that doesn’t even include the application and licensing fees. Compare that to how much Colorado taxes cigarettes (3.74% with sales tax included) and alcohol (2.9% plus $0.60 per liter for liquor or 0.08 per gallon of beer).

So how is marijuana-generated revenue being spent?

In Colorado, where recreational pot sales this year have been averaging 8% to 12% growth month after month, the state is on pace to collect $125 million and double the amount of revenue it collected last year. Marijuana sales generated so much revenue that a special rule in Colorado’s constitution was triggered that requires voters to choose whether to collect a refund (ranging from roughly $6 to $16 per person) or allow the state to spend the $66.1 million refund amount.

If voters decide to give the money back, which opinion polls show is the more likely outcome, Colorado would see $40 million go to public school construction, $6.3 million to fund youth services, and $5.7 million allocated to resource communities.

What is happening in Colorado is happening elsewhere: politicians are using potential revenue to fund a variety of social service programs – the most popular being schools and drug treatment initiatives – to sell pot legalization to the public. So far this trend has been popular with voters.

There is an important caveat: marijuana revenue is not a magical cure for all our budgetary illnesses. After all, raising $125 million more is certainly helpful, but when you’re dealing with a $25 billion budget as in Colorado, it is important to keep things in perspective.

Is it time for prohibition to go?

Now that the rising tide of marijuana legitimacy appears unstoppable, it may be time to revisit the passage of the Twenty-First Amendment, which overturned the disastrous prohibition on alcohol. In its wake, alcohol laws changed slowly in patchwork fashion in states, counties, and cities across the nation, similar to what is happening now with pot.

For pro-legalization advocates with the winds of public opinion at their backs, the argument for increased tax revenue may not carry as much impact as the usual medical and criminal justice benefits they typically promote. But in an era of economic belt-tightening, government deficits of record proportions, and austerity cuts leveling social services across the board, legalizing marijuana to open up new revenue streams is an easy argument to make.

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