SACRAMENTO. Calif. (Oct. 18, 2019) – Last week, California Gov. Gavin Newsom signed a bill that severs a link between state and federal tax law, allowing individuals to deduct expenses from legal marijuana businesses for state income tax purposes despite federal prohibition. Enactment of the bill will encourage the growth of the legal marijuana market in California and further nullify the unconstitutional federal prohibition of cannabis in practice.
Asm. Reginald Jones-Sawyer (D-Los Angeles) introduced Assembly Bill 37 (AB37) on Jan. 11. Under the previous California law, the state personal income tax code conformed to federal tax law with respect to itemized deductions and business deductions. Under the federal tax code, individuals cannot deduct business expenses related to trafficking specified controlled substances, including marijuana. As a result, legal California marijuana business owners could not deduct business expenses from their state income taxes. With the passage of AB37, the IRS code governing expenditures in connection with the illegal sale of drugs does not apply to the carrying on of any trade or business related to commercial cannabis activity by a licensee. The provision will sunset at the end of 2025.
While California marijuana businesses still cannot deduct business expenses for federal tax purposes, under AB37, they can now take deductions for state tax purposes just like any other business.
On Sept. 4, the Senate passed AB37 by a 33-5 vote with some technical amendments. It previously passed the Assembly by a 69-1 vote, and it concurred with the amendments by a 71-3 vote. With Newsom’s signature on Oct 12, it went into immediate effect.
Last year, Gov. Jerry Brown vetoed a similar measure.
In November 2016, voters in California approved a ballot measure legalizing marijuana for general use by adults and the law went into effect on Jan. 1 of this year. Enactment of AB37 removes a barrier facing Californians who want to start marijuana businesses in the state by lowering their tax burden. This will further incentivize the market and allow it to expand despite continued federal prohibition efforts.
Enactment of AB37 will also further mainstream marijuana businesses in California. Destigmatizing the marijuana industry will help it integrate more fully into the mainstream California economy.
EFFECT ON FEDERAL PROHIBITION
Under the federal Controlled Substances Act (CSA) passed in 1970, the federal government maintains complete prohibition of marijuana. Of course, the federal government lacks any constitutional authority to ban or regulate cannabis within the borders of a state, despite the opinion of the politically connected lawyers on the Supreme Court. If you doubt this, ask yourself why it took a constitutional amendment to institute federal alcohol prohibition.
Legalization of marijuana in California removed a huge layer of laws prohibiting the possession and use of marijuana in the world’s sixth-largest economy, something that will be extremely difficult for federal prohibitionists to overcome. FBI statistics show that law enforcement makes approximately 99 of 100 marijuana arrests under state, not federal law. By legalizing cannabis, California essentially swept away the basis for 99 percent of marijuana arrests.
Furthermore, figures indicate it would take 40 percent of the DEA’s yearly-budget just to investigate and raid all of the dispensaries in Los Angeles – a single city in a single state. That doesn’t include the cost of prosecution. The lesson? The feds lack the resources to enforce marijuana prohibition without state assistance.
A GROWING MOVEMENT
California is one of a growing number of states simply ignoring federal prohibition, and nullifying it in practice.
Colorado, Washington state, Oregon and Alaska were the first states to legalize recreational cannabis, and California, Nevada, Maine and Massachusetts joined them after ballot initiatives in favor of legalization passed in November 2016. Michigan followed suit when voters legalized cannabis for general use in 2018. Vermont became the first state to legalize marijuana through a legislative act in 2018. Illinois followed suit this year.
With 33 states including allowing cannabis for medical use, the feds find themselves in a position where they simply can’t enforce prohibition anymore.
“The lesson here is pretty straightforward. When enough people say, ‘No!’ to the federal government, and enough states pass laws backing those people up, there’s not much the feds can do to shove their so-called laws, regulations or mandates down our throats,” Tenth Amendment Center founder and executive director Michael Boldin said.
Efforts to update laws and expand California’s marijuana industry demonstrates another important reality. Once a state puts laws in place legalizing marijuana, it tends to eventually expand. As the state tears down some barriers, markets develop and demand expands. That creates pressure to further relax state law. These bills represent more steps forward for patients seeking alternative treatments and further erosion of unconstitutional federal marijuana prohibition.
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