Federal Cannabis Legalization Fortune-Telling

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Federal Cannabis Legalization Fortune-Telling

This post originally appeared here.

With the Biden Administration putting together its federal agenda as Democrats take control of Congress (counting Vice President Harris’ tie-breaking vote), many in the cannabis industry are renewing their push for federal legalization. Cannabis legalization could also be a major economic driver for the post-Covid recovery period, just as the end of alcohol Prohibition drove tax revenue during the Great Depression. But do the benefits of decriminalization, access to banking and interstate commerce necessitate the trade-off of high taxes and complex compliance that will reduce equitable access to the legal market?

My partner Erin Kelleher and I were co-authors on a white paper with the National Cannabis Industry Association (NCIA) Policy Council that discusses the different federal regulatory frameworks (recommended background reading) and I spoke in December at an NCIA and Marijuana Policy Project public policy conference about what the cannabis industry can expect from its potential federal regulators, the Alcohol and Tobacco Tax and Trade Bureau (TTB) (perhaps the future Alcohol, Tobacco and Cannabis Tax and Trade Bureau?).  As the NCIA white paper covers in greater depth and as I spoke about at the conference, there will likely be different regulatory schemes for the multitude of cannabis products and the system could be very complicated. But before getting bogged down by bureaucracy, let’s examine the current proposals and likelihood of success.

How close are we to federal legalization?

The first federal cannabis reform bill of 2021 was proposed last week with a House republican sponsor, to reschedule cannabis as a schedule III prescription drug (H.R.365) without existing industry support. Supported by the industry, we may see a MORE in 2021 of the Marijuana Opportunity Reinvestment and Expungement Act (theMORE Act), not only because it was co-sponsored by Vice President Harris and passed the house in 2020. The MORE Act was a sea change in the direction of federal cannabis policy as it was the first time that a house of Congress has voted to decriminalize marijuana. The SAFE Banking Act, which passed the House in 2019, may also be back for an encore performance in 2021. The SAFE Banking Act would ease restrictions on financial institutions serving state-licensed cannabis businesses without decriminalizing cannabis federally, thereby opening up for funding sources for state-legal cannabis businesses. There’s also the milder STATES Act, which was co-sponsored by Senators Warren and Gardner and essentially removes cannabis from the Controlled Substances Act (CSA) for people acting in compliance with state cannabis laws, and leaves it to the states to regulate cannabis as they’ve been doing. Following the racial justice protests in 2020, the MORE Act emerged as the leading vehicle for Democrats and is likely to be revamped in 2021, possibly as part of a larger criminal justice reform package. Let’s take a closer look at the MORE Act, which may be the most likely legislative vehicle to see a vote by both houses.

What would the MORE Act do?

Descheduling and Decriminalization. The MORE Act would deschedule marijuana, taking it off the list of controlled substances. It also would retroactively decriminalize previous federal criminal violations of the CSA and expunge many prior offenses.

Federal Regulatory Oversight. It would create a federal cannabis licensing and taxation scheme to fund federal economic opportunity programs (job training, reentry services, legal aid, literacy programs, youth programs and health education programs) and grant programs for “individuals most adversely impacted by the War on Drugs.”  TTB will likely be the primary agency governing licensees and collecting taxes, while DOJ will be responsible for administering tax-funded economic opportunity programs and SBA will carry out a social equity grant program for “cannabis-related legitimate businesses and service providers.”

Excise Taxes. The MORE Act’s proposed federal regulatory scheme previously planned to treat cannabis like retail tobacco with a 5% sales tax on the retail sales price (see introduced version here), but the language that passed the House was amended to treat cannabis more comprehensively like domestically produced alcohol or tobacco, with excise tax based on weight and due when products are released from bond (see engrossed version here).

Disqualification for Cannabis Violations. Confusingly to supporters of the MORE Act (itself intended to create opportunities in the cannabis industry for marijuana-related felons), the passed language included Treasury authority to deny licensure to applicants with “previous or current legal proceedings involving a felony violation of any other provision of Federal or State criminal law relating to cannabis or cannabis products.” This language is similar to the qualification requirements for tobacco (see, e.g., 27 CFR § 40.498) and alcohol producers (see 27 CFR § 1.24), except that alcohol has restrictions as to the time of the violation (5 years for a state or federal felony and 3 years for a Federal misdemeanor relating to alcohol).

What does TTB currently do?

With experience representing the alcohol industry, we are very familiar with TTB’s role in the federal regulatory scheme and expect it to be similar for federal cannabis regulation. TTB regulates both tobacco and alcohol, but the regulations on alcohol became more robust following Prohibition. Based on the experience thus far in the states, cannabis is more likely to be federally regulated like alcohol because of its similar mind-altering effects and history of prohibition, which makes it very different from Tobacco despite both being smokable.

Tobacco is regulated by TTB and the Food and Drug Administration (FDA) like a commodity product, with its sale and advertising very controlled because of the significant public health consequences and history of industry-sponsored misinformation. The most significant taxes are collected at the point of sale like a use tax and from manufacturers as a user fee because, from a regulatory priority perspective, there’s greater
concern about tobacco being sold responsibly to adults fully aware of the risks, with taxes supporting public health education and mitigation to
address the harms caused by smoking.

With alcohol, on the other hand, the regulation acknowledges alcohol’s intoxicating affects and potential for harm. TTB’s alcohol regulation focuses on safe manufacturing (an issue during Prohibition), keeping organized crime out of the industry, and managing the public health and societal harms from irresponsible sales of alcohol. TTB regulates alcohol production, facilities, formulas, labeling, advertising, excise tax, wholesale distribution, industry trade practices, interstate commerce, and international imports and exports. A big part of the regulatory scheme is creating definitions of product formulations so that if the product is produced as defined, it does not require formula testing. TTB is not the primary regulator of retailers because their jurisdiction is limited to products intended for interstate commerce, which means that producers and importers are subject to greater federal regulation and state agencies are primarily responsible for regulating retailers. Taxes are collected based on gallonage and alcohol content, in some cases, and divided into product categories. Smaller producers generally pay lower taxes, either through tax credits or reduced tax rates for initial production. Ideally consumers get an efficient marketplace but aren’t too influenced by the industry to overconsume a product that can create public health problems if left uncontrolled. It’s a delicate balance, but the regulation of the alcohol industry reflects our societal values that it is better to have a regulated alcohol market than to have an illicit or free market.

How would cannabis fit in?

Alcohol is the only product for human consumption that has successfully come out of prohibition into state and federal regulated markets with public and private industry participants. The period of prohibition was shorter for alcohol than it has been for cannabis, and the products are different, but the path of cannabis regulation that the states have pursued thus far most closely mirrors post-Prohibition alcohol regulation, where the states get to decide how to regulate the product within their borders and the feds focus interstate commerce issues (see, e.g. 2013 DOJ Memo, which required “robust” state regulatory regimes to avoid federal enforcement). There will likely be different regulators for different product categories and potency – with FDA having primary responsibility for pharmaceutical drugs, low THC products and cosmetics and TTB primarily regulating higher THC adult use/recreational products.

Social equity cannabis programs, which attempt to give community members affected by the War on Drugs licensing priority and other support, have thus far fit within those state systems, but have been hamstrung by the high compliance costs and taxes required to support a “robust” regulatory system. Federally regulating cannabis would involve tasking federal agencies with creating an efficient, regulated market that consumers will choose over an illicit market, which means even more compliance costs and capital requirements for under-capitalized social equity applicants.

We are left with a catch-22: accept the higher barrier to entry in exchange for eliminating the illicit market by creating an efficient and safe (but expensive to access) market for licensed participants, or work towards a less powerful federal regulatory regime with DOJ and DEA continuing to prosecute and the states controlling industry regulation, likely at the expense of streamlined interstate commerce and banking.

What can be done to improve the MORE Act or other federal legalization bills?

It’s a big political lift to reverse generations of prohibition, manage diverse state interests, and regulate products that defy simple categorization, but here are some ideas:

  1. The industry should be pushing for expanding social equity grant programs, which under the 2020 MORE Act focus more on criminal expungement and job training for those incarcerated during the Drug War. Grant programs and economic opportunity programs should provide compliance job training (sure to be the most valued and difficult to source industry role) and legal aid and grants should support future social equity business owner compliance programs. These could be funded by excise taxes or a larger use tax like we have for tobacco, which also supports education programs to reduce the harms caused by tobacco.

  2. Cannabis retailers should not have federal licensing or taxation requirements. Like with alcohol retailers, this structure allows small businesses to operate in local communities with less federal compliance costs and deferring to local control.

  3. TTB should be able to consider prior cannabis-related violations, but it shouldn’t be an immediate bar to licensure and there should be an opportunity for the licensee to demonstrate rehabilitation, as exists for potential alcohol licensees with criminal convictions. (We’ve worked on many of these rehabilitation cases, which generally involve presenting counter evidence showing community involvement and references.)

  4. TTB should work with the industry to create recognized product formula categories and advertising and labeling guidelines, with no additional federal product testing. TTB should conduct regular audits of products in the market to protect the public.

If a stronger federal regulatory system is applied to cannabis, it’s important not to hide the ball. How we choose to regulate cannabis will reflect today’s societal values about cannabis, but also social equity. TTB is well-positioned to be the primary federal regulator for recreational products, but expect FDA to have a strong supporting role. There will be significant growing pains and compliance costs, especially for the guinea pig licensees. But it’s a big opportunity to get consumers safe access to cannabis, open up banking and investment for the industry, enable interstate commerce and eventually international trade, all while creating a viable social equity framework that could be a model for other industries.

No pressure, everyone. We can do this.