90-day rule for California’s 15-percent retail marijuana tax

Here’s how the California 15-percent retail marijuana tax is supposed to work:

[UPDATE:  The 90-day rule does not seem properly calibrated for outdoor growing, where an annual harvest presumably could get sold over 365 days — as consumer demand is presumably relatively steady all year.  To allow the tax to apply to the actual retail price, retailers would need to buy from sellers on a kind of Just In Time basis — not accumulating inventory beyond what they will sell in 90 days.]

Once a cultivator, manufacturer or distributor sells to a retailer, a 90-day clock starts running. The tax amount due depends on which one of two “Cases” fits the facts.

Case One: If the retailer sells the marijuana on the 90th day or before, 15 percent of the actual price the retailer sells for is the tax.

Case Two: If the retailer sells the marijuana after the 90th day, there’s an artificial price. The retailer looks back to the price it paid the cultivator, manufacturer, or distributor, and multiplies that pre-retail price by an X factor – a markup percentage that the California tax authority will furnish. That X factor is supposed to reflect standard markups that retailers get. So then the retailer has an artificial price to apply the 15-percent rate to.

Comments:

Thanks to Washington state attorney Jim Hunt for helping me understand what California is trying to do.

I’m not sure what problem the artificial price is solving. Maybe the problem is that product gets shoplifted or pilfered or illegally diverted by the retailer, so the retailer never actually sells it. Case Two make them responsible for the tax anyway. Ninety days seems like a short trigger for that consequence.

Avoidance possibilities are limited. Here’s a limited way to beat the system: A retailer will be able to choose between Case One and Case Two by selling inventory quickly (for the actual price – Case One) or waiting to sell after 90 days (for the artificial price – Case Two). A product that commands an unusually high retail markup would benefit from waiting for the Case Two artificial price. But business pressure will encourage retailers to go ahead and sell inventory when the can. Maybe on say the 87th day of holding inventory a retailer might pull it from the shelf to wait for a lower tax bill. But this is not a gaping loophole.

I find the CDTFA’s language below awkward at best. One would think from reading it that whether a tax bill falls under Case One or Case Two depends on what happens when the (cultivator, manufacturer or distributor) sold the product to the retailer. But no. Which Case applies is determined later, when the retailer sells to the customer or when 90 days expire, whichever comes first.

Here’s the proposed rule from the CDTFA, , the successor to the BOE: http://www.cdtfa.ca.gov/industry/cannabis.htm#Retailers:

“Effective January 1, 2018, a 15 percent excise tax applies to the average market price of the retail sale. The average market price is determined by the type of transaction that occurred when the seller (cultivator, manufacturer or distributor) sold the product to you.

“An “arm’s length transaction” [my Case One] is a sale that reflects the fair market price in the open market between two informed and willing parties.

“In an arm’s length transaction, the average market price means the average retail price determined by the wholesale cost of the cannabis or cannabis products sold or transferred to a cannabis retailer, plus a mark-up.  The mark-up will be determined by the CDTFA on a biannual basis in six month intervals.  A special notice will be mailed to cannabis businesses informing them of the mark-up rate when it is set.  The mark-up rate will also be posted on the Special Taxes and Fees Rate Page.

“In a non-arm’s length transaction [my Case Two], the average market price means the cannabis retailer’s gross receipts from the retail sale of the cannabis or cannabis products.”

Premilinary, superseded post on this topic is at https://newrevenue.org/2017/10/19/arms-length-marijuana-tax-rule-in-california/.

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Author: patoglesby

From 1982 to 1990, I worked in tax policy for Committees of the United States Congress. In recent years, I was Adjunct Lecturer at UNC-Chapel Hill's Business School and then Adjunct Professor at its Law School.

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