Cannabis Potency Tax Feasibility Study: A Report for the Washington State Liquor & Cannabis Board

Abstract

This report investigates the feasibility of implementing a potency tax on cannabis products in Washington State. Attention is given to the theoretical and technical considerations of replacing the current 37% ad valorem tax basis, in whole or in part, with a tax based on the concentration or amount of THC within a given product.

Interviews were conducted with a broad range of stakeholders to articulate their estimated costs for adaptation and compliance cost faced in response to a hypothetical tax on potency.

A literature review illuminates the history of cannabis taxation in Washington, and explores taxation in Illinois, and Canada, which have taxed cannabis based on THC concentration. The origins of the concept of a potency tax are discussed and an overview of the case for taxing cannabis by potency is presented. Two broad arguments in favor of the potency tax are explored. Firstly, a potency tax could protect the balance in the state’s budget by tethering (if somewhat imperfectly) revenue to THC with the goal of meeting any rise in consumption costs due to increased THC consumption with a proportionate increase in revenue. Secondly, tax on THC products could encourage consumers to select lower potency products thus slowing the trend towards higher potency and avoiding associated public health harms.

Several models of taxing potency are identified, along with their potential drawbacks:

▪ A direct potency tax that establishes a dollar value per milligram of THC.

▪ A tax that creates different tax brackets for different types of cannabis products (for example establishing a distinct tax rate for flower, another for concentrates, and another for edibles).

▪ A tax based on ranges of THC concentration, that identifies different ranges of THC amounts and establishes corresponding tax rates for those ranges.

▪ A combination; maintaining a stable excise tax and adding one of the aforementioned THC taxes listed above as a supplement.

A brief econometric analysis demonstrates that the effectiveness of a potency tax is difficult to estimate at this time due to scarcity of academic research and practical experience. Specifically, we do not know enough about cross elasticities of demand between the licit and illicit markets and between products of different potencies making it difficult, if not impossible, to predict how consumers would respond to a potency tax. Additionally, imperfect evidence regarding the marginal harms of various levels or forms of THC consumption make it impossible to guarantee that a tax on THC would be successful in reducing public health harms related to THC consumption. Thus, the legitimacy of the arguments in favor of a potency tax is unstable.

This report also explores several specific features of Washington’s regulatory and enforcement infrastructure that would limit the effectiveness of any potency tax implemented at this time.

The report concludes that a potency tax is likely to affect consumer purchasing habits to an unknown extent, and it is currently impossible to quantify any public health gains resulting from those effects. It is not feasible to estimate the potential long-term revenue changes afforded by a switch from ad valorem to a potency tax. However, the considerable costs relating to the implementation of a cannabis potency tax in Washington State, as well as both theoretical and practical challenges in doing so, are better known. Therefore, at present, any change in the tax structure would require embracing large known costs and additional unknown costs in exchange for unknown benefits.

Keywords: Cannabis, Marijuana, Drug Policy, THC, Taxation, Sin Tax, I502