California’s Cannabis Tax Collections Fall Short of Expectations

Wendel Rosen LLP
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A hand holds money that is burning away.

On May 11, 2018, the California Department of Tax and Fee Administration (CDTFA) released its cannabis tax revenue numbers for the first quarter of 2018. These numbers fall short of the high expectations of industry analysts and the state. The CDTFA reports that it has collected a total of $60.9 million from licensed cannabis operators in Q1. This amount includes the state’s cultivation, excise and sales taxes, but does not include local tax revenue collected by cities or counties. Breaking it down a bit further, the excise tax generated $32 million, the cultivation tax brought in a mere $1.6 million, and the sales tax generated $27.3 million. Medicinal cannabis sales are exempt from sales tax if the purchaser holds a valid Medical Marijuana Identification card.

In addition to regulation and the elimination of the black market, the promise of tax revenues  was a major force behind the passage of Prop 64 back in 2016. The governor’s budget proposal had predicted $175 million in revenue in the first six months of 2018, which has proven to be optimistic based on the first quarter results. Two prime culprits for the tax shortfall may be suppressed sales volumes due to competition from healthy gray and black markets and fewer tax paying operators due to widespread local government bans on commercial cannabis activity and major delays in those jurisdictions that are allowing commercial cannabis.

In addition to competing with leaner gray and black market competitors, compliant operators face strict zoning requirements, slow and reticent local permitting bodies, and moratoriums on commercial cannabis activity. These obstacles result in fewer regulated operators, fewer sales, and fewer tax dollars. The expected tax revenue will only come if the cannabis industry is able to launch at scale and thrive. Imposing high taxes on a fledgling industry, much of it still emerging from the gray and black markets, is not an ideal way to encourage transitioning and new operators to jump through the numerous hoops set up by state and local governments. Local prohibitions on commercial cannabis exist in 70-80% of local jurisdictions. This means that operators are flooding those few jurisdictions that are permitting commercial cannabis activity with applications, resulting in delays.

The CDTFA’s report may have already put a damper on AB 3157, a bill currently in committee that, if passed, would reduce the excise tax to 11% and eliminate the cultivation tax until June 2021. A recent addition to the bill allows the Legislature to restore the excise tax rate to 15% if the revenues collected from the excise tax are “insufficient to adequately fund the reasonable regulatory costs” outlined in the Revenue and Taxation Code. This language seriously weakens AB 3157 and puts a significant amount of pressure on a brand new industry.

Photo credit: istock.com/patterphoto

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DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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