Will Legal Pot Cost More Than Black-Market Pot?

High marijuana taxes could derail legalization in Washington and Colorado.

When Congress banned marijuana in 1937, it did so in the guise of taxation, imposing a prohibitive levy on cannabis and created criminal penalties for those who failed to pay it. Marijuana taxes also played a prominent role in what may be the beginning of the end for pot prohibition: the legalization measures that voters in Colorado and Washington approved last fall.

Supporters of Washington's I-502 and Colorado’s Amendment 64 emphasized the revenue that the government could reap by recognizing cannabis production and distribution as a legitimate business. The tricky part, as officials in both states will soon discover, is balancing the desire for tax revenue against the desire to eliminate the black market created by prohibition. Or as UCLA drug policy expert Mark Kleiman, an adviser to Washington’s marijuana regulators, puts it: “What if we gave a pot legalization and nobody came?”

The dilemma is especially clear in Washington, where I-502 specified a 25 percent excise tax at three levels: sales between producers and processors, between processors and retailers, and between retailers and consumers. That’s in addition to the standard state sales tax of 8.75 percent.

According to calculations by BOTEC, Kleiman’s consulting firm, these taxes will make the retail cost of cannabis 58 percent higher than it would otherwise be, accounting for 37 percent of the price paid by consumers. One BOTEC projection, based on a production cost of $2 per gram, indicates the after-tax retail price will be $17 per gram, or $482 per ounce. Another projection, based on a production cost of $3 per gram, puts the retail price at $25.50 per gram, or $723 per ounce.

That’s a lot more than pot smokers in Washington currently pay. According to the website Price of Weed, which collects reports from marijuana consumers across the country, the average price for high-quality cannabis in Washington is $239 per ounce.

Some of those purchases may be from medical marijuana dispensaries, which are not explicitly authorized by state law but operate as patient and provider cooperatives. Washington’s medical marijuana rules are relatively permissive, allowing cultivation and possession by patients with a wide variety of conditions, as long as they have a doctor’s recommendation. Dispensaries in Seattle currently charge $250 or so per ounce, and medical marijuana sales remain untaxed under I-502.

In short, BOTEC’s projections indicate that the after-tax price for marijuana sold by state-licensed outlets will be something like two to three times as high as prices charged by black-market dealers or dispensaries. “That’s a big problem,” Kleiman says. “The legal market is going to have a hard time competing with the illegal market, but a particularly hard time competing with the untaxed, unregulated sort-of-legal market.”

Colorado’s constitution, unlike Washington’s, requires separate voter approval for new taxes. The price of legal marijuana in Colorado therefore will depend on the fate of Proposition AA, an initiative on next month’s ballot that would authorize not only the 15 percent excise tax mentioned in Amendment 64 but also a special sales tax of up to 15 percent. That’s on top of the standard state and local sales taxes, which in Denver total 8 percent. Meanwhile, voters in Denver, where most pot stores will be located, will decide whether to approve an additional municipal marijuana tax of up to 15 percent.

Supporters of the marijuana taxes, including Amendment 64 co-author Brian Vicente and the Medical Marijuana Industry Group, argue that they are necessary to fund an effective regulatory system, which in turn will help discourage federal interference. Opponents, led by Rob Corry, a Denver attorney and longtime marijuana activist, argue that excessively high taxes will undermine regulation by preserving the black market. “Over-taxation creates a marijuana market ripe for takeover by the unregulated, untaxed, underground market,” Corry says.

The Proposition AA campaign deems that prospect “unlikely,” saying “the combined taxes on retail marijuana sales will add about 22 percent to the retail cost of marijuana products”—less than half the impact of Washington’s taxes. That estimate does not include local taxes, which could make a big difference given Denver’s important role in the marijuana industry.

Washington and Colorado legislators will have the power to adjust tax rates. But they may be tempted to keep taxes high in the hope of generating more revenue, even when reducing rates might actually boost revenue by allowing licensed sellers to attract more business. The backers of hefty marijuana taxes are putting a lot of trust in legislators’ ability to anticipate unintended consequences and learn from experience—skills that do not come naturally to politicians.

Note: Kleiman recently has taken a more optimistic view of the legal marijuana industry's ability to compete with other sources in Washington.

This article originally appeared at Forbes.

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  • waffles||

    It's not like they will make zero sales at these levels, but there's no way the black market won't thrive off this taxation. It seems to me that revenue would be much greater by reducing the taxes such that the legal industry is competitive with the black market. This looks like a big tax percent pulled out of their ass with little thought to how it will actually work in practice. Some people are happy to pay 60 dollars for pot and won't mind. Many others will happily circumvent this asinine levy.

    It won't kill anything, but it does show the regulatory reluctance to treat marijuana as an actual market rather than some begrudged sin.

  • Square||

    I wonder, too, if there's an element of needing to show positive revenue, since this was one of the big selling points for legalization. I remember a few years back, though, it started striking people that all that money funneling through the illegal drug trade has to be laundered somehow in order to be useful, and laundering means subjecting it to taxation.

    Ergo, all we're really doing is moving that money from one tax category into another. The only way to turn that into a net increase of revenue is to tax the receiving category at a much higher rate so that one can say "see, we were right - revenue is up."

    The "we can benefit from taxing it" angle should never have been part of the discussion.

  • Rich||

    Supporters of the marijuana taxes ... argue that they are necessary to ... discourage federal interference.

    So-called "legal". 8-(

  • Jquip||

    "Supporters of the Obamacare breathing taxes ... argue that they are necessary to ... discourage federal interference."

    First Law of Politics: If x is a problem, fix it with twice the x.

  • sarcasmic||

    "See? Legalization doesn't work! The black market is still thriving! Anti-prohibitionists were wrong the whole time!"

  • bassjoe||

    How was the illegal booze trade marginalized following the end of Prohibition?

    I guess it's not the same thing; brewers and distilleries that were shuttered when the 18th Amendment passed were simply restarted and there is no equivalent market force in the marijuana industry.

    But I'm still curious what happened to the bootleggers that were supplying a fair amount of booze during Prohibition.

  • wwhorton||

    I'm on shaky historical ground here, but I believe that a lot of the brewers and distillers just reopened and/or merged with larger concerns, while most of the runners either just stopped or kept running moonshine. Organized crime pretty much just reinvested into other markets--drugs, prostitution, extortion, etc.--or got their sons elected POTUS.

    But yeah, I think since a lot of booze was small scale and local it was more of a quick money on the side thing that just evaporated once the Volstead Act was repealed.

  • Square||

    A lot of it just continued, I think, on a smaller scale, like wwhorton says - I have an uncle in Kentucky who still makes gin in his bathtub and sells it to his neighbors.

  • catbonez||

    Let them overtax it. But keep it legalish. Hell, it is not tobacco. You can grow this stuff on Mars.

  • Zeb||

    The ease of growing decent pot is overstated. Growing hemp is extremely easy. Growing a product of the quality that you see in medical dispensaries and presumably will see in legal retail stores is a bit more involved.

  • ThomasD||

    Decent pot? Near falling off a log, and much easier than many vegetables. Marijuana is highly tolerant of varied growing conditions, unlike things like tomatoes, edamame grade soybeans, etc.

    Yes, there is a learning curve to creating super sick weed, but everything you grow is still consumable. And if you have half a brain (or internet access) becoming proficient does not take long at all. Especially not if your friends set you up with some quality seed.

    The only question is quantity. In places like CO can you really produce enough to lay up to last you through the winter, or are you willing to endure the hassles and expense of an indoor operation?

  • claygooding||

    I don't think pot smokers are going to pay back the trillions of dollars the government wasted protecting the profits of Dupont,Bayer and other corporations that paid to have hemp taken off the market.

  • Mizchief||

    We see the same thing with cigarettes now with people smuggling lower taxed smokes into NYC and other places.

    I think the dirty little secret is that no one is really planning on going the "white" market route and just going to keep getting their Buds the way they do now, just without fear of being pulled over and jailed for possessing a few ounces for personal use.

  • Zeb||

    Well, you'll definitely see lots smuggled into states where it is still illegal. Which I don't see as a bad thing.

    As for participation in the white market, I think that a lot of people will for the convenience. As long as it doesn't cost more than black market stuff. But with the legal home grow option, I bet most people will end up getting it from their friend with the green thumb.

  • Square||

    Yes - we'll still have a stupid situation that will be a headache for dealers, but the end user won't be getting shafted anymore. Just like if you are smoking a cigarette that you didn't pay taxes on, the danger of you getting caught vs. the guy who sold it to you getting caught are pretty slim.

  • Firework Surprise||

    Another perspective might be that only those that don't mind paying the premium will really utilize the legal market. I make a good living here in CO, and therefore will be sure I stick to the legal market so that I am no longer in danger of arrest. Those with lesser means will incur the danger of the black market (I know the pot market is marginally dangerous).

    Gov't, forcibly dividing social classes and incarcerating the poor....since...well...forever.

  • Square||

    The trouble with an analysis like this is that the studies on prices in the black market have always been speculative and highly skewed, and don't tend to take account of the fact that, for example, eight eighth-of-an-ounce bags of marijuana cost way more than one one-ounce bag of marijuana.

    When they're talking about production costs and costs per ounce, do they even have any actual idea what they're talking about? Past experience says, highly unlikely.

    So far, I've noticed dispensaries tracking basically exactly with black market rates (I speculate, of course). It's almost as if they know what the black market rates are.

    You can get something high quality at black market rates, or you can get something a little stale at a discount.

    Given how cheap it is to produce now in a gray market, once it is above board production costs will be practically nil. It would take an unbelievably draconian tax rate to make the black market stay viable.

  • larry hammond||

    Well an extremely draconian rate is exactly what Washington state has. Coupled with one of the best developed black markets going. Will be fun to see what happens.

  • pronomian||

    I've been saying all along, this overtaxation is nothing more than the anti pot pundits to derail legalization. It's a way for them, and the feds, to say, "see, we tried it and it didn't work. It didn't get rid of the black market, it didn't decrease crime and monies to the coffers isn't what the pro legalization people said it would." Make me wonder if the feds are involved in this charade, could be a reason they aren't cracking down on the law.

  • pronomian||

    I've been saying all along, this overtaxation is nothing more than the anti pot pundits to derail legalization. It's a way for them, and the feds, to say, "see, we tried it and it didn't work. It didn't get rid of the black market, it didn't decrease crime and monies to the coffers isn't what the pro legalization people said it would." Make me wonder if the feds are involved in this charade, could be a reason they aren't cracking down on the law.

  • ||

    Frickin politicians. Were the government in charge of the Sahara in five years it would have a shortage of sand.

  • ThomasD||

    Why pay an exorbitant sum for something you can grow in your backyard, or on your patio easier than you can grow cherry tomatoes.

    Oh, that's right, because they'll make that illegal.

    Nothing says "freedom" quite like being able to purchase a heavily taxed, mass produced item that they forbid you from making for yourself.

    Libertarian victory this is not.

  • OneOut||

    Will Obamacare pay for Dr. prescribed pot ?

    And how can a cop tell the difference between black market weed and legal taxed weed ?

    I once lived in a medium sized town in Texas. The city had a nice lake on the outskirts of town created by a power plant. It was very popular with the Hispanic families on Sundays as it was an inexpensive family entertainment to picnic and barbecue. So, the City Council, in all their wisdom decided to take tax money from the majority who seldom used the lake as it had boating restrictions, to build some nice camp spots with permanent shade and pits to cook in. After development the city raised the entrance rates from $2 per carload to $5 per carload. Suddenly revenue dropped off because the main customer base went to free city parks instead. So in all their wisdom the functionaries in the city council decided to raise the rates to $10 a car to make up for the revenue shortages below the original projections. Of course readers here all know than then revenue dropped almost to zero except for the few of the majority who now used the lake because it was illegal alien free and young white girls could walk around in their skimpy bikinis with out catcalls and harassment from people they didn't want it from. The town itself is the support system for a major university and the city council was composed of grad students and professors attempting to put various academic theories into practice.

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