STATES 2.0 Act Sets the Stage for Federal Cannabis Policy

According to recent reports, 72 percent of the current marijuana market in the US is illicit. Evidently, the federal criminalization of marijuana has failed to prevent its sale or consumption.

Faced with increasingly widespread nullification of federal marijuana prohibition, popular support for legalization, and the temptation of excise revenues, policymakers are seriously considering significant reforms to federal marijuana policy. Last December, members of Congress introduced the STATES 2.0 Act, which would remove marijuana from the Controlled Substances Act, federally legalize its sale and use, and allow for interstate commerce.

A defederalized marijuana prohibition policy would allow states to decide for themselves whether cannabis would be legal within their borders—which they have already been doing for decades—and how that legal cannabis market would be taxed.

What legal markets already exist are burdened by federal prohibition and punitive taxation, which keeps prices substantially higher than illicit markets. Bolstering black markets is a common unintended consequence of prohibition, and marijuana has been no different—even with existing state legalization. Revisions to federal cannabis policies, such as those in the STATES 2.0 Act, would give much-needed reform to a market struggling with a messy policy landscape.

Regulating Cannabis Markets

Instead of enforcing marijuana prohibition through the Drug Enforcement Administration, the STATES 2.0 ACT would rely on the Food and Drug Administration (FDA) to regulate marijuana products permissible in US markets and the Alcohol and Tobacco TaxA tax is a mandatory payment or charge collected by local, state, and national governments from individuals or businesses to cover the costs of general government services, goods, and activities. and Trade Bureau (TTB) to track products and collect taxes. Federal and state law enforcement would be able to shift focus and budgets away from petty offenses for marijuana possession toward removing more dangerous substances from illicit markets and preventing violent and property crimes.

The recent failings of the FDA to properly facilitate a legal vaping market may call into question its ability to do the same for cannabis, and there are more efficient ways to ensure product safety. However, the STATES 2.0 Act specifies that no premarket approval would be required, which would preclude the type of disaster inflicted on the vaping market.

Allowing legitimate businesses to manufacture and sell cannabis products, as well as allowing banks to do business with a legal cannabis industry, would do much to enable a safe, legal market to undercut the existing black markets dominated by cartels.

The STATES 2.0 Act would allow interstate commerce in cannabis and cannabis products when traveling between states that have provided for legalized cannabis within their borders, even if passing through states that have chosen to keep marijuana illegal.

TTB would be responsible for administering a national track-and-trace system. Similar track-and-trace systems are already in place within states that have legalized recreational marijuana, allowing states to track marijuana plants from seed to consumer sale.

A federal system administered by TTB could incorporate existing state systems into a national database. TTB would also enforce consistent and timely tax collections.

Tax Design and Tax Rate

The federal legalization of marijuana has several benefits. Particularly attractive to both federal and state policymakers is the potential to capture excise taxAn excise tax is a tax imposed on a specific good or activity. Excise taxes are commonly levied on cigarettes, alcoholic beverages, soda, gasoline, insurance premiums, amusement activities, and betting, and typically make up a relatively small and volatile portion of state and local and, to a lesser extent, federal tax collections. revenue from a legal, regulated market. This potential for revenue generation, however, should be weighed against the more important impact: harm reduction through shifting users to a safer, legal market. Proper tax design and rate setting are pivotal for accomplishing harm reduction and revenue generation.

Burdening legal markets with extreme taxes drives consumers to illicit markets, where products are significantly more dangerous. Not only are they often unchecked for elevated levels of toxic substances, but illicit products are also made more potent.

The existing cannabis tax landscape is complex and unique. Federal prohibition necessitates that each state has entirely isolated production processes and markets. Each state also has its own tax structure, applying different types of taxes at different stages in the production process. The table at the end of this article highlights recreational cannabis tax rates and designs for states that have legalized recreational marijuana sales.

The variety of forms, types, and potencies of cannabis products also makes taxing them difficult. Taxing based on price does not effectively target any harm-causing element and increases the volatility of revenues. Taxing based on weight better targets a harm-causing element but does not account for the potency of each product. Taxing based on potency—per mg of THC—would be the most efficient solution. However, technology to measure THC content in many types of cannabis products may be too costly to yet be viable.

The solution to marijuana taxation is to tax by potency where possible and by weight where THC content is impractical to measure. The weight-based approach would capture harm derived from the use of smokable products. Eventually, when product testing for THC content in plant materials becomes less costly, products taxed by weight can transition into being taxed by potency. In the short term, a weight-based approach captures harm better than a price-based system and is simple enough to allow new products to enter the market without prohibitively high barriers to product testing simply for tax purposes.

The federal tax rate applied to cannabis products is incredibly important as well. Federal taxes pyramid on top of applicable state taxes. A 10 percent federal excise tax on cannabis, for example, would mean that consumers in California would face a 25 percent excise tax—the 10 percent federal tax plus the 15 percent state tax.

The total tax burden from federal excise taxes, state excise taxes, and other taxes should be low enough to keep the legal cannabis market competitive with the illicit market. Overtaxing cannabis would simply bestow market share on cartels and other illicit operators who sell more dangerous products.

Cannabis rates don’t need to be exorbitantly high to generate strong revenues. Extrapolating from average tax rates and revenues from states with a recreational cannabis market, we estimate US states could generate $8.5 billion in annual revenue. A similar federal tax could match that revenue, possibly increasing total tax collections as users are pulled from illicit markets into legal ones.

Legal cannabis markets have been stunted by federal prohibition. Allowing for limited interstate commerce between states that have legalized marijuana and allowing legitimate marijuana businesses to participate in the normal banking process would do much to help legal markets develop. Legal markets are a particularly effective tool to combat the individual and social harms brought by bestowing monopoly power on illicit operators.

The framework set forth in the STATES 2.0 Act would be an important move toward creating a safer, well-regulated, and tax-producing marijuana market. With a simple, low-rate tax, legal cannabis could generate significant revenue and drastically reduce harm from cannabis by shifting consumers into a legal market.

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