"Marijuana dealers get slammed by taxes"

The title of this post is the headline of this new piece over at CNN Money.  Here is how it begins:

Thanks to a decades-old law targeting drug runners, entrepreneurs in the nascent medical marijuana industry face a unique burden: an effective federal income tax rate that can soar as high as 75%.

The hefty levy is the result of a 1982 provision to the tax code, known as 280E, that stemmed from a successful attempt by a convicted drug trafficker to claim his yacht, weapons and bribes as businesses expenses, according to 280E Reform, a group working to overturn the statute. Enacted in the wake of that PR debacle, the rule bars those selling illegal substances from deducting related expenses on their federal income taxes.

It may have been effective against cocaine dealers and smugglers of other hard drugs, but the law now means purveyors of medical marijuana in the 18 states that have legalized the drug can't can't take typical things like rent or payroll as a business expense. That's taking a heavy toll on this new field.

"I'd personally love to give my employees a raise," said Kayvan Khalatbari, co-owner of Denver Relief, a medical marijuana center in its namesake city. "But because of the industry we're in, that's not always possible." Khalatbari said Denver Relief does just over $1 million a year in sales, and that not being able to take some standard business deductions costs him tens of thousands of dollars annually. He estimates his effective federal tax rate is about 50%.

For Denver Relief -- one of the largest marijuana dispensaries in Colorado, with a full-time staff of 15 -- the burden isn't killing the business. But for others, it's been lethal. Jim Marty, an accountant in Colorado specializing in medicinal marijuana tax law, said he has one client that didn't turn a profit in 2009, 2010 or 2011. In 2012, though, she was handed a $300,000 tax bill from the IRS for those three proceeding years.

Entrepreneurs whose businesses are legal under state laws are getting hammered by outdated federal tax rules. "If you have a license from the state hanging on your wall, that doesn't fit the definition of trafficking," Marty said. "Yet the IRS is aggressively auditing this industry." He said he often sees clients facing effective tax bills of 65% to 75%. That compares to 15% to 30% for businesses in general.

I generally favor high "sin" taxes, based in part on the reality that many "sin" products result in significant taxpayer costs from collateral harms. But in the arena of new state marijuana businesses, I fear that the uniquely heavy federal tax burden might prompt some to operate in the grey or black markets rather than under a regulated state regime.  Chalk this up to another important matter that the states and feds are going to need to work through as the modern marijuana laboratories of democracy continuing with their real-time experiments.

Notably, this new commentary by Christopher Matthews at Time, headlined "Will High Marijuana Taxes Encourage Black Markets?," talks through the connection between tax rates and market realities. Here is how it concludes:

For opponents of prohibition, taxes are the one of the best tools to convince citizens and governments of the benefits of a well-regulated marijuana industry.  But the marijuana industry in America — in all its various stages of legality — is large and well-developed. Some even estimate it to be the single largest cash crop in the country.  Given that fact, one can’t expect the black market to dissapear overnight if taxes and regulations make legal marijuana prohibitively expensive.  And as legislators continue the process of setting up a tax and regulatory structure for this budding industry, it’s a reality they had better take into account.