Cannabis SALT Shaker: State and local tax developments (Q1 2023)

• Illinois
• California
• New Jersey
• Connecticut
• Massachusetts

Legislation has been introduced in the Illinois House of Representatives that would amend the Illinois Income Tax Act to allow cannabis businesses to deduct ordinary business expenses for Illinois income tax purposes. The deduction would be equal to the federal income tax deduction disallowed by IRC Section 280E. If passed into law, the bill would become effective immediately; however, the deduction would apply to tax years beginning Jan. 1, 2024.

IRC Section 280E disallows the deduction of ordinary business expenses by businesses that traffic in Schedule I and II controlled substances. Due to Illinois’s current conformity to federal tax law, the Illinois Income Tax Act does not provide for a modification to federal income to subtract the disallowed deduction for Illinois purposes. The proposed legislation would allow for that modification.

Takeaways:

• If the bill is passed into law, the effect of the legislation would provide a tax benefit to Illinois cannabis businesses. Businesses are encouraged to follow the legislation and be aware of the potential tax implications if it becomes law. CohnReznick will continue to monitor this legislation to provide relevant updates.

On Jan. 30, California’s Office of Administrative Law approved emergency regulations proposed earlier this year by the California Department of Tax and Fee Administration to implement recent changes to the cannabis tax statutes. The emergency regulations “implement, interpret, and make specific” the provisions in the Cannabis Tax Law for excess cannabis tax, cannabis tax permits, cannabis excise tax credit, and vendor compensation. The new regulations address these issues as follows:

• Excess cannabis tax – Provides information related to the reporting and remittance of excess cannabis tax collected by a retailer, distributor, or manufacturer.
• Cannabis excise tax permits – Requires retailers to remit collected cannabis excise tax to the Department and not the distributor effective Jan. 1, 2023; requires cannabis retailers to have a cannabis retailer excise tax permit to engage in the business of a cannabis retailer.
• Cannabis excise tax credit – Provides information on taking the credit on a retailer’s cannabis tax return and the necessary documentation to support the claim for credit.
• Vendor compensation equity fee waiver – Creates rules to implement the vendor compensation program, including the application process and retention periods. (See next brief.)

Takeaways:

• The emergency regulations address subjects that include both cannabis tax benefits and new administrative burdens for cannabis taxpayers. As such, California cannabis businesses should familiarize themselves with these regulations as they relate to new cannabis tax statutes that were effective Jan. 1, 2023.

The application period for eligible cannabis retailers to receive vendor compensation for remitting the cannabis excise tax is now open, the California Department of Tax and Fee Administration recently announced in a special notice. Established by Assembly Bill 195, the equity fee waiver allows approved cannabis retailers to retain 20% of the cannabis excise tax due on the retail sale of cannabis and cannabis products. Cannabis retailers approved for the program may submit applications for vendor compensation during the vendor compensation program period, which began Jan. 1, 2023, and ends Dec. 31, 2025.

Cannabis retailers are required to provide the following information when applying:

• Address of the approved retail location
• Issuance and expiration dates of the retailer license
• Fee waiver approval date
• Contact information for the individual completing the application
• Copy of the fee waiver approval notice
• Copy of the cannabis retailer license

Once the application is approved, the cannabis retailer will be notified of the retention period (generally 12 months) during which vendor compensation may be retained. The retention periods begin on the first day of the quarter following the quarter in which the application is approved. All retention periods end Dec. 31, 2025.

Takeaways:

• Eligible cannabis retailers should take advantage of this program to help offset the expenses associated with collecting and remitting the cannabis excise tax. Retailers should submit applications as soon as possible to make sure that their assigned 12-month retention period is completed by Dec. 31, 2025.

As of Jan. 1, the New Jersey Social Equity Excise Fee tax is now $1.52 per ounce of cannabis sold by a Class 1 Cannabis Cultivator license holder. This is an increase from a rate of $1.10 per ounce of cannabis sold. License holders who are required to pay the tax must report it on their monthly SF-100 returns, which will identify the total ounces sold as well as the total excise tax due. SF-100 returns are due monthly on the 20th of the month following the end of the filing period. 

It is important to note that the social equity excise fee is not imposed on a transfer of cannabis by a Class 1 Cannabis Cultivator to another Class 1 Cannabis Cultivator, or to a licensed medical cannabis holder for use in medical cannabis. 

Takeaways:

• The social equity excise fee tax is not a new tax being imposed in New Jersey. All Class 1 Cannabis Cultivator license holders should be aware of the tax increase and maintain accurate records to establish when exempt sales occur.

With adult-use cannabis now legal, Connecticut has enacted various taxes on the retail sales of cannabis plant materials, cannabis edible products, and other cannabis sold by a cannabis retailer, hybrid retailer, or micro cultivator. These include:

• 6.35% state-level sales tax
• 3.00% local-level sales tax 
• 10%-15% cannabis tax

The cannabis tax rate is dependent on the type of product as follows:

• Cannabis plant materials: $0.00625 per milligram of THC
• Cannabis edible products: $0.0275 per milligram of THC
• Cannabis other than plant materials and edible products: $0.009 per milligram of THC

Cannabis sales for palliative use, resale, or by a delivery service to a consumer are exempt from tax.

While not every municipality will impose a local cannabis tax, the municipalities that do impose the local-level sales tax will subject a single cannabis product to all three taxes: state sales tax, municipal-level taxes, and the statewide cannabis tax. 

Takeaways:

• Connecticut’s taxing scheme impacts all cannabis retailers, hybrid retailers, and micro cultivators. Retailers should be mindful of the correct rates and should check their local municipality laws to confirm that they comply with any locally adopted cannabis tax.

Massachusetts has adopted regulations on the excise, local optional, and sales taxes imposed on retail sales of marijuana. 

• The excise tax is imposed on all sales of marijuana by a marijuana retailer, absent specific exemptions, including those for medical marijuana and sales to retail establishments. The marijuana excise tax is imposed at a rate of 10.75%. 
• Cities and towns can accept the marijuana local tax option for retail sales of marijuana by a marijuana retailer operating in their local taxing jurisdictions. This tax is imposed in the same manner as the marijuana excise tax. The marijuana local option taxes are imposed at rates set by the local jurisdictions at a rate up to 3%.
• Marijuana sales tax is imposed at a rate of 6.25% on all retail sales of marijuana regardless of whether the seller is considered a marijuana retailer. Specific exemptions are carved out for sales for medical use and for sales to another marijuana establishment as materials that both 1) have a useful life of less than one year and 2) become an ingredient or component of a product to be sold; are consumed in manufacturing or agricultural production; or are consumed in research and development by a qualified manufacturing or research and development corporation. 

It is important to note that for tax exemptions to apply, the purchaser must present an exempt certificate to the seller at the time of sale. The burden of proving that the sale is exempt from tax is on the selling marijuana establishment, unless an exempt certificate is received timely and in good faith.

The adopted regulation also explains that “marijuana establishments that merely deliver on behalf of a marijuana retailer, and do not sell, marijuana to consumers, including marijuana couriers,” are not subject to the above requirements. Therefore, the marijuana retailer, and not the marijuana courier, is required to collect and remit the marijuana retail taxes. “In such a transaction the marijuana retailer must source such sales and deliveries of marijuana to the same host community in the same manner as described … for purposes of the marijuana local tax option.”

Takeaways:

• As more guidance is issued by the Massachusetts Department of Revenue, it is important for sellers to be mindful of specialty taxes, such as excise or local taxes that their sales may be subject to. It is critical to understand that sales of marijuana in Massachusetts could be subject to taxes at both the state and local level.