California’s High Pot Taxes – A Teachable Moment

Buds are removed from a container at the "Oregon's Finest" medical marijuana dispensary in Portland, Oregon April 8, 2014. Over 20 Oregon cities and counties are moving to temporarily ban medical marijuana dispensaries ahead of a May deadline, reflecting a divide between liberal Portland and more conservative rural areas wary about allowing medical weed. Portland, Oregon's largest city, already has a number of medical marijuana clinics and has not moved to ban them. Picture taken April 8, 2014. REUTERS/Steve Dipaola (UNITED STATES - Tags: DRUGS SOCIETY POLITICS HEALTH) - RTR3KMHE

Do higher tax rates affect human behavior?

As the nation considers tax reform, according to a report, taxes on pot in California could reach as high as 45% for the consumer. Combined with the slew of regulations on the way, suddenly the libertarian fervor of buying and selling pot doesn’t seem so, well, free.

The question is: Will those pushing for the sale of pot and those buying, finally get a lesson in basic economics?

In 2016, California voters legalized the sale of recreational pot.  Many voters felt they were striking a blow for personal freedom with their vote. Since that day, all levels of the California governments have been coming to grips with how to implement the voter’s choice.  Of course, that really means how to regulate the sales and how to tax those sales.

Keep in mind that, at the time of the vote, California already had the largest pot market in the country – although its size is disputed because most of the market is illegal sales. Some have said, that as of 2015, “California  . . . has the largest legal cannabis market in the U.S., at $1.3 billion.” On the other hand, others have reported that over $7 billion in illegal crop has been seized in California. Given the Feds think they seize only around 10% of the illegal crops, you can see how large the market could well be.

On the regulatory front, local governments are setting the bar for obtaining local licenses, while at the state level, something called the Bureau of Cannabis Control, claims it is “the lead agency in developing regulations for medical and adult-use cannabis in California. The Bureau is responsible for licensing retailers, distributors, testing labs and microbusinesses.”

Little wonder that Time reports that “Operators have complained about what they see as potential conflicts in various laws and rules, or seemingly contradictory plans.”

As for taxes, a Fitch Ratings report taxes on pot may reach as high as 45% in parts of the state.

“Consumers will pay a sales tax ranging from 22.25% to 24.25%, which includes the state excise tax of 15%, and additional state and local sales taxes ranging from 7.25% to 9.25%.” Beyond that, “Local businesses will have to pay a tax ranging from 1% to 20% of gross receipts, or $1 to $50 per square foot of marijuana plants, according to the Fitch report. In addition, farmers will be taxed $9.25 per ounce for flower, and $2.75 per ounce for leaves.”

Welcome to the freedom to smoke marijuana in California. It turns out that freedom isn’t free in route to the State’s desire to collect over $1 billion in taxes.

As this unfolds, the question remains whether California consumers, regulators and legislators will study the effects of the high taxes and costs of those regulations.

Let me help them. As Calvin Coolidge would say, high taxes are not paid – they are avoided.

The evidence of that is everywhere.  As my colleague at Forbes.com, Brian Domitrovic, recently wrote: “In the 1950s and early 1960s, IRS data was clear that the 91% marginal rate produced essentially no revenue, that about 80% of earners who should have been subject to it by ordinary definitions legally avoided it. Same thing for 70% in the 1970s and 50% in the early 1980s.”

Even the Democrats who oppose tax reform know that when they tell you that the current top corporate tax rate is meaningless because the “effective” corporate rate is lower.  Corporations that can avoid that high tax by taking legal deductions.*

But that is not the only way to avoid taxes.  There is also the black market.

According to that same Fitch Report, “California’s black markets for cannabis were well established long before its voters legalized cannabis in November 2016 and are expected to dominate post-legalization production.”

Will that black market continue?  Perhaps the 650 billion black market cigarettes sold around the world could be instructive. Here in the United States, according to the Tax Foundation:

“New York is the highest net importer of smuggled cigarettes, totaling 58.0 percent of the total cigarette market in the state (a slight increase since last year’s edition of the report). New York also has the highest state cigarette tax ($4.35 per pack), not counting the local New York City cigarette tax (an additional $1.50 per pack). Smuggling in New York has risen sharply since 2006 (+58 percent), as has the tax rate (+190 percent).”

Can you see through the smoke of it all?

High taxes are quite often avoided. The same will be true for the sale of marijuana in California. With such high taxes, the black market in pot in California will continue to thrive.

Please note two final points about irony in all of this. That Bureau of Cannabis Control that is regulating nearly every aspect of pot in California? Well, it is part of the California Department of Consumer Affairs. Apparently, it is quite the affair to raise the price of pot for consumers in California.

Finally, in 2016 when Californians legalized recreational marijuana, they also raised the taxes on cigarettes – all in an effort to reduce people from smoking. A sin tax they call it. I wonder if in 2018, there will be a ballot measure to raise more taxes to stop people from smoking pot.

Of course, the real sin is that people don’t understand that simple economic law: the more something costs, the less of it you get. That includes the legal sales of pot, jobs and income.

One has to wonder whether there will be a tax reform effort for pot sales once consumers in California learn their lesson – and whether they will support tax reductions on income when they finally do understand that lesson.

Originally published at Forbes.

ormer chairman of the California Republican Party and current candidate for U.S. Senate.