“Issues with Taxing Marijuana at the State Level”

The title of this post is the title of this notable new report from The Institute on Taxation & Economic Policy that a helpful reader highlighted for me. Here is how it substantively gets started: 

Since 1996, when California voters enacted the nation’s first medical marijuana law, twenty-two states and the District of Columbia have followed suit with laws allowing production and use of marijuana for medicinal purposes.

In 2014, Colorado and Washington took legalization efforts one step further by implementing systems that allow regulated production and retail sale of marijuana. Oregon, Alaska and the District of Columbia are currently creating their own legalization regimes aft er the passage of ballot initiatives legalizing marijuana in each jurisdiction last November.  Given the current political momentum, more states may consider marijuana legalization in the future.  

While much of the debate around marijuana legalization rightly focuses on health and criminal justice effects, legalization also has revenue implications for state and local governments that choose to tax newly legal purchases of marijuana.  This report examines issues surrounding the design and implementation of taxes on marijuana at the state and local level.

Forty-five states levy general sales taxes which, in theory, should apply broadly to most or all retail transactions.  Until recently, however, the illegal and unregulated nature of marijuana has resulted in it being sold entirely outside of state sales tax structures. Twenty states have laws requiring illegal marijuana sellers to purchase and place tax stamps on their marijuana, but virtually no one buys the stamps since selling marijuana is illegal even with the stamps attached.

Now that an increasing number of states are legalizing medical and retail marijuana, the de facto sales tax exemption enjoyed by marijuana is becoming somewhat less common.  Eleven states with legalized medical marijuana apply their sales taxes to the product, and the only two states with functioning, legal markets for retail marijuana (Colorado and Washington) each apply their general sales taxes to marijuana as well. Bringing marijuana out of the black market allows state and local governments to include the product in their sales tax bases in the same manner as most other goods and services.

But appropriate marijuana tax policy could go beyond simply adjusting existing sales tax bases to include the product.  Another potential reason to tax marijuana is to mitigate the negative impact of its use by both discouraging its consumption and raising revenue that can be used to off set its social costs.  In other words, the tax treatment of legalized marijuana could be similar to that of tobacco and alcohol, both of which face significant excise taxes at the federal, state and local levels.