Despite acceptance at the state level, federal tax code 280E is holding the industry back.
Boom and bust?
“We are coming off of some record-breaking years,” Buck Dutton of Native Roots told YS. Despite many businesses struggling during the past few years, the cannabis industry actually saw a boom in sales. “The pandemic was so good for the cannabis industry, [but] there were so many industries that were really hard hit.”
The sudden influx of people staying at home during the pandemic led to a huge increase in the sale of cannabis across the state. Whether it was to help calm the anxiety that world-changing events brought about or simply to occupy the wide-open window of free time many of us faced, people increasingly turned to marijuana.
“People stayed at home, and anytime you’ve looked at the Great Depression, wars, when the country has been through different things, the reliance on drugs, alcohol becomes huge,” Wanda James from Simply Pure explained.
Times of stress generally see an increase in substance use. Covid was no different. The National Library of Medicine generally agrees although the exact correlation may be more complicated. A 2018 study found that “Most of the participants of the survey (58.3%) reported an increase in drug use during the crisis, compared with only 25.6% of the sample who reported a decrease in drug use.” Fortunately for citizens in Colorado, legal alternatives to harder drugs and alcohol were available during COVID-19.
“What I am thrilled about this time was we went through a pandemic, and we had choices for something better than alcohol, right? Better than heroin,” James expanded.
Like any booming industry, the marijuana game saw an influx of interested parties looking to make money. New dispensaries opened up, grow operations expanded, and the misleading appeal of high profits had people who have never smoked a joint in their lives suddenly looking at cannabis as a potential investment.
However, what follows a boom cycle is usually a bust period. Currently, the cannabis industry is facing its most difficult challenge since legalization. Businesses that reported millions in sales just months earlier are now facing a harsh new reality.
As employees have returned to work and free time shrunk back, marijuana sales slipped. Profit margins, already significantly hampered by federal tax code 280E, became razor thin.
I’m a business, man
For many the cannabis business is just that, a business. With sales at all-time highs, more and more people jumped into the cannabis game hoping to turn a fast profit on a booming market. New dispensaries and grow operations sprang up to satisfy the seemingly insatiable demand. Now the market is quite literally oversaturated. The price per ounce of marijuana has dropped significantly. You may have noticed groceries, rent, and gas prices are all affected by inflation, or at least corporate greed, but not marijuana.
Interestingly enough, consumer prices of cannabis have not been noticeably impacted by inflation. Businesses that YS spoke to mostly said that they are eating the costs of higher transportation, packaging, and labor instead of raising the price of marijuana.
In fact, the opposite is happening, prices are dropping, especially in large markets like Denver and Boulder. “It is a race to the bottom that has to bottom out. You can’t just be giving it away. Profit margins are getting really tight, and I think that the smaller operators are really struggling with that,” Dutton explained.
Capitalism pressures businesses to expand. The allure of more profit, new markets, and illusions of grandeur too often lure small businesses into overexpansion. Expenses can grow and are not always in line with new revenues. Expanding at the wrong time is worse than not expanding at all. Sadly, many small cannabis business owners are currently staring at this looming problem head on.
When asked how smaller operations can survive this shifting environment, James replied resoundingly, “They don’t. They don’t.”
These days even high-end flower is not that difficult to grow. Legalization removed many of the risk factors that growing cannabis used to come with. Growers in legal states do not face the same threat of police raids, black markets, and lengthy jail sentences that all contributed to driving the price up.
“So all of these growers went out there, expanded their grows, or people came in and they added all these growers, so we flooded the market with way too much cannabis. They can’t sell it now. And so that’s also just driving the prices lower,” James shared.
Additionally, compared to years ago when cannabis was still illegal in Colorado, prices have naturally fallen as risks of legal jeopardy fell. “The reason why cannabis was expensive, you know, was because if you got caught growing it or making it or selling it, you went to jail. You were taking your life in your own hands,” James shared.
The systemic effects of these harmful policies still reverberate loudly today, but much of the legal risk factor for growing marijuana — at least at the state level — has been removed. That translates into a lower price per ounce and much more flower being grown overall, further lowering its value.
The limbo in between full legalization at the state level and the Schedule I Classification of marijuana at the federal level has led to crippling tax penalties.
U.S. Code 280E states: “No deduction or credit shall be allowed for any amount paid or incurred during the taxable year in carrying on any trade or business if such trade or business (or the activities which comprise such trade or business) consists of trafficking in controlled substances (within the meaning of Schedule I and II of the Controlled Substances Act) which is prohibited by Federal law or the law of any State in which such trade or business is conducted.”
This means there are limited federal tax deductions for any business expenses in the marijuana industry.
“No other businesses are like that. If I own a restaurant, if I make $100 a day, and I pay my staff $50, I’m taxed on the remaining $50. Not true in cannabis. We’re taxed on money that we don’t even have,” said James, sharing the frustrations businesses have with the current tax code.
Different operations face different challenges in the business world, but nearly everyone agrees that 280E is the most crippling law for the industry. “The tax regulation 280E has been a massive handicap on the cannabis industry from the beginning. Cannabis is a legal industry in Colorado, but we’re not treated as such. The cannabis industry functions with an effective tax rate of roughly 70%,” Dutton wrote.
280E was originally intended to strip illicit drug dealers of potential revenue. It is a punitive tax meant to drive illegal drug dealers out of business — and it’s working.Rescheduling cannabis on the national level would provide numerous benefits. “If 280E is removed, licensed cannabis companies can invest that capital back into the business and community. This would strengthen our efforts in community engagement, research, expansion, product development, staff compensation, and marketing. Those efforts would increase sales and in turn, drive the state tax revenue that has decreased in recent years,” Dutton expanded.
The IRS provides information on how to navigate these challenges, and they do allow one specific tax benefit. “Marijuana business owners can deduct their cost of goods sold, which is basically the cost of their inventory. What isn’t deductible are the normal overhead expenses, such as advertising expenses, wages and salaries, and travel expenses, to name a few,” wrote De Lon Harris, commissioner of the IRS Small Business/Self Employed (SB/SE) Examination.
Not being legal on the federal level also impacts what payment methods are available. MasterCard recently announced it will not be allowing purchases of marijuana, even on debit cards. This limits ways customers can pay and adds more hurdles for already struggling businesses to overcome.
James is leading the fight against these harmful penalties that no longer reflect the reality of the cannabis industry. “I am the only elected official that owns a dispensary in Colorado. So that’s the other reason why I really want to fight the government right now because I am the government,” she said.
Colorado once shone as the lone beacon of marijuana freedom in the United States. For years the legal cannabis industry in the state attracted tourists. Even if the factor that brought them here is weed, tourists, directly and indirectly, contribute to the local economy.
“Even if you came here for cannabis tourism, you still went to a restaurant, you brought a Rockies t-shirt,” James, also a former member of the Colorado Tourism Board, explained.
Fortunately for the consumers, but unfortunately for Colorado tourism, other states followed the light and legalized marijuana. From Alaska to Washington, people now have a choice of places to take a vacation if they want to participate in marijuana tourism.
“What we saw last year and after COVID is we have lost cannabis tourism to about 70%. Now that people can go to Las Vegas, they can go to New York, they can go to California, they can go to Oregon, and people still come here to Colorado because it’s a wonderful place to come, but it’s not the singular place to come,” James expanded.
To the benefit of everyone except Colorado’s tourism, access to marijuana continues to expand nationwide. The political climate is one of acceptance or at least tolerance. This is all to say that marijuana sales have also declined because of fewer people traveling to Colorado to obtain it.
The path forward
Rescheduling marijuana on the federal level would immediately bring relief to small businesses across the nation. Once 280E no longer applies, cannabis business owners can start operating much more like any other business — with tax deductions and write-offs — to help improve their bottom line and reinvest in their company and community.
However, the tax code is not the only challenge facing would-be dispensary owners. “My question to most dispensary owners right now is how many liquor stores in your neighborhood can you actually name? Yeah, there’s a liquor store on the corner. What’s the name of it?” James elaborated on the importance of branding.
James’ advice to would-be newcomers is that “if you’re getting into the cannabis game, and this is really important for people to know, what’s your niche? Why do people know you? Why do you go to Starbucks and not Dunkin’ Donuts? Or why do you use Nescafé at home and don’t go to any of them?”
Fortunately, Simply Pure’s brand is a strong one. “We’re well known because we’re Black-owned women-owned, and we’re the very first dispensary owned by African Americans in the United States. And we do so much for social justice and for politics, and we call ourselves the most political dispensary in America,” James proudly shared.
James sees the wine industry as a potential model for the future of the cannabis industry. There could be tours of the fields, examining the flower as it grows, tastings, and food pairings as a way to elevate the experience. However, overly harsh regulations stifle this creativity.
“I can’t even take a bud out of my grow facility. So if I go in there and see a great bud, I’m not allowed to walk out of my facility with it. So the ridiculousness of regulation prevents, I guess, what I would call ‘fun marketing,’ you know, things that consumers would love to do,” James shared.
There is a bill currently working its way through the California legislature that would allow public marijuana consumption at places like cafés that would also serve food and drinks. This could usher in an entirely new smoking experience involving more socialization and de-stigmatization centered around a “coffee house” culture. As many know from Amsterdam’s reputation, this model can draw tourists by the millions and could be a way to make certain states stand out again in the tourism realm.
Boutique experiences, tastings and pairings, and coffee house-style settings would all still run afoul of the many laws surrounding this still relatively new industry. Legalization at the national level would not mean every state follows suit — cannabis would likely remain illegal in some areas, but it would remove much of the burden on business owners in states that have legalized it.