Oregon lawmakers introduced a flurry of cannabis-related bills in this year’s legislative session. Most were friendly to the industry, including proposals to promote social equity, cut regulatory red tape, change how funds from the existing cannabis sales tax are allocated to local governments, and rename the state’s regulatory agency. But two measures to help balance budgets by raising taxes on cannabis have retailers scared.
The bill that has the industry most concerned, HB 2015, would increase the maximum cannabis sales tax local governments can impose from 3% to 10%, raising the total potential sales tax on cannabis to 27%. The measure was introduced by Rep. Mark Owens (R-Crane) at the request of officials in the eastern-Oregon city of Ontario. Proponents hope that HB 2015 will help raise as much as $70 million at a time when state and local governments are desperate for revenue.
Retailers blasted the bill, pointing to an analysis by industry economist Beau Whitney that predicts the tax increase would drive up cannabis prices by as much as 14%, sending many consumers back to the illicit market. That drop in demand for legal weed could force many small businesses to close, eliminate up to 2,800 jobs and $107 million in wages, and actually cost the state $24 million in lost tax revenue.
“As a high-production state, Oregon [is] one of the leading cannabis exporters… to other illicit markets,” said Casey Houlihan, executive director of the Oregon Retailers of Cannabis Association (ORCA). “That means here domestically we have an extraordinarily large and readily available secondary market for untaxed cannabis that is very easy for people to obtain by, you know, ‘phoning a friend’.”
The other tax measure, HB 2294, sponsored by Rep. Lily Morgan (R-Grants Pass), would impose a new tax on wholesale transactions for cannabis that is sold outside the county in which it was grown. The idea is to capture more tax revenue for the rural counties in southern Oregon where most of the state’s cheaper outdoor cannabis is grown. While it’s unlikely to pass this year, the concept embodied in the bill is an important step in preparing the state for eventual federal legalization, said Houlihan.
Strange days in Salem
In normal times, these Republican-sponsored proposals might have little chance of passing through a statehouse where Democrats hold strong majorities in both chambers. But this is far from a normal year. The pandemic recession, Measure 110, slowdowns in the legislative calendar due to legislative gamesmanship and COVID infections, and news of the cannabis industry’s explosive growth all make the bills’ prospects harder to predict.
The COVID recession has left state and local governments gasping for revenues to pay for public services. Adding to their budget woes is Measure 110, the drug decriminalization ballot initiative approved by voters in 2020. The law pays for expanded drug treatment, education and enforcement by diverting funds from the state’s existing 17% cut of cannabis sales taxes—over $180 million in 2020. Before Measure 110, the legislature returned nearly all of that money to local governments. In Eugene, for example, officials estimate that Measure 110 will reduce the city’s cut of existing cannabis sales tax by over 80%, from $1 million in 2020 down to just $200,000 per year going forward.
Another factor that may ease HB 2015’s passage is that it doesn’t actually raise the sales tax. It merely authorizes city and county authorities to raise their local cannabis sales tax. That clever wording gets around the legislature’s 60% supermajority requirement to raise taxes.
Meanwhile, headlines trumpeting the cannabis industry’s explosive growth—according to BDS Analytics, 2020 saw $17.5 billion in sales nationwide, a 46% increase over 2019, including a record $1.1 billion in Oregon—have understandably caught the attention of local and state officials desperate to balance their budgets.
At a contentious House Revenue Committee hearing on March 4, a parade of city and county officials from across Oregon endorsed HB 2015. In a written statement, officials from Ontario, a town of 11,000, argued that the tax increase is essential to pay for the impacts of cannabis consumers crossing the border from neighboring Idaho.
“Ontario is the second largest retailer of cannabis behind only Portland and accounts for 10% of all Oregon sales,” the statement reads. “Ontario cannabis retailers are grossing approximately $100 million in sales and 892,857 transactions per year. The public costs of importing 90% of our buyers from Idaho is staggering and a unique situation to Ontario that is not adequately covered by the current local 3% retail tax rate.”
The Ontario statement argues further that a 7% increase in the sales tax will not significantly impact cannabis sales. “The average retail transaction of $112 will not be impacted by an increase of $7 for customers coming in from Idaho to make these purchases.” Local officials from Hines, Eugene, Lane County, and the League of Oregon Cities made similar arguments.
Portland-based economist Beau Whitney countered that Oregon cannabis consumers are extremely price-sensitive. His research has shown that, historically, a 1% increase in price leads to a 2% drop in demand. Thus, “the impact of an increase of 7% in taxation would be a demand decrease of 14%. This equates to a decrease in demand of $140,000,000 based on 2020 sales.” That could translate to a decline of as much as $24 million in local tax receipts, rather than the $70 million in new revenue the bill’s proponents hope for.
Cannabis licensees from across the state echoed Whitney’s concerns. “Excessive retail prices brought on by hikes in sales taxes will drive the consumer to the unregulated black market,” warned Tom Thompson, COO of Hotbox Farms in a statement to the committee. “If products can be purchased for a lesser price from an unregulated and untaxed source, there will be no incentive to purchase products from licensed, regulated stores.”
Booming industry with razor-thin margins
The cannabis industry’s massive growth belies the fact that, due to a quirk of the federal tax code, legal cannabis businesses are taxed far more heavily than any other industry. Section 280E of the Internal Revenue Code says that a business engaged in the trade of a federally-illegal narcotic cannot deduct the normal business expenses that most companies can, such as marketing, rent, insurance, legal fees, etc. The only expense they can legally deduct is, ironically, the cost of goods sold (COGS)—the very thing the federal government considers illegal. That means Oregon retailers pay an effective tax rate anywhere from 50-70%.
According to Whitney, because of this high tax burden, the “viability threshold” for a cannabis retailer in Oregon—the minimum gross sales needed to stay in business—is $2.4 million. Despite record sales of $1.1 billion in 2020, with more than 730 licensees competing for a share of that pie, the average retailer in the state made just $1.5 million.
Unless Oregon’s retail cannabis market can sustain its current growth rate while staving off proposed tax increases, the prospects look bleak for small players in this crowded field.
Prospects unclear for tax bills
At this point in the legislative session, the prospects for these tax bills are unclear. Republican delaying tactics—like insisting that the full text of bills be read aloud before they can move to a vote—and a 10-day shutdown of the state capitol building due to positive COVID tests–caused the House Revenue Committee to miss a key March 19 deadline.
That doesn’t mean the bills are dead yet, says Houlihan. “They could just as easily be moved over to the Ways and Means Committee,” which is exempt from that deadline, “and therefore could still be moved very rapidly at the end of session. So we’re still monitoring them very closely [and] doing everything we can to make sure that they don’t move forward.”