States looking to legalize recreational marijuana might believe they're going after easy money.

Think again. States that have legalized recreational cannabis are finding that it's not always the cash cow they envisioned. And there are plenty of other complicated issues to confront as they try to create and manage a legal market for a product long considered taboo.

Eleven states and the District of Columbia have given the green light to recreational cannabis, starting with Colorado and Washington state in 2012, with sales already underway in seven states. In those states, bringing marijuana into the legitimate economy was often sold to officials and the public as a way to raise new tax revenue from sales and production and funnel it into areas like education, mental health and law enforcement.

So what have those states experienced? Tax revenue that has largely fallen short of expectations and a growing recognition that taxing marijuana is pretty complicated.

It’s not just that states have struggled in projecting the size of a legal marijuana market and deciding how to best tax and regulate it. In a lot of ways, states are also grappling with their central goal of bringing cannabis out of the black market.

Advocates for legalization in California originally envisioned legalized pot raising $1 billion a year. As it turns out, the state raised not even a third of that in fiscal 2018-19, the first full year since recreational sales began. Massachusetts had projected it would bring in $63 million in revenue for its first year of recreational pot, which ended in June, and didn’t even get half of that.

A worker at a medical marijuana dispensary in Oakland, California, prepares an order for a customer, top. Bottom, some of the varieties on sale at a dispensary in Los Angeles. | Justin Sullivan/David McNew/Getty Images

There are a few exceptions: Colorado got its original revenue estimate for legal marijuana almost exactly right, and Nevada zoomed past its projections. But one reason that some states have had difficulties is that it’s hard to predict consumer demand for legal recreational cannabis, in part because it’s still competing with the black market. And when you can’t predict demand, it’s hard to predict how much revenue you’ll get.

Experts say that making those projections is getting easier, as state budget analysts lean more on hard data from states that have already legalized instead of on independent surveys of drug use for which respondents might not want to admit to breaking the law.

But at the same time, analysts warn that legalized marijuana is an inherently volatile market that will also change as consumer preferences evolve, neighboring states legalize and the federal government potentially considers changes to cannabis policy.

“Forecasts probably will become more reliable because they have extra data to work with,” said Alexandria Zhang of the Pew Charitable Trusts, one of the authors of a recently released study on marijuana revenue. “But marijuana revenues are reliant on consumer behavior, so it’s really hard to say if consumer preferences would dramatically shift in the long term.”

Then there’s the problem of figuring out the right level of taxation, including how much to tax purchases and whether or how much to tax growers.

In fact, California’s structure for taxing recreational cannabis has been perhaps the biggest scapegoat so far for the state’s lagging revenue. The Golden State taxes marijuana on three separate levels, charging a 15 percent excise tax on purchases on top of the statewide 7.25 percent sales tax, as well as a variety of taxes on cannabis flowers, leaves and plants.

The backlash to California’s taxing regime was so severe that Democratic officials there, including the state treasurer, supported eventually unsuccessful legislation this year that would have temporarily cut taxes on the marijuana industry.

But other issues might be at play as well. Analysts who defend California’s high taxes on cannabis point out that Washington state’s legal market is thriving even with an aggressive taxing regime, and put more of the blame on the state’s licensing requirements.

And then there is the larger question of just what the goal is for taxation of marijuana. Governments need to have a clear idea of their main goals in legalizing recreational pot and setting up a tax system, as with other so-called sin taxes, like on alcohol and gambling. States use cigarette taxes, for instance, to raise revenue and discourage smoking.

“Why are you legalizing marijuana? Are you battling the black market? Are you dealing with equity issues within criminal justice? Are you trying to maximize revenues?” asks Richard Auxier of the Urban-Brookings Tax Policy Center, which is run by a senior Treasury official from the Obama administration. “Different priorities will lead you to different policies.”

In all, five of the nine states that have set up tax systems for legalized marijuana employ cultivation levies on growers, while all but Alaska charge an excise tax specifically on cannabis sales. Five states also charge the general sales tax, though not the same exact group that has a cultivator tax.

The actual effective tax rates that states charge on marijuana varies wildly, according to Carl Davis of the liberal Institute on Taxation and Economic Policy, from a high of around 46 percent in Washington to a low of 16 percent in Michigan.

States will continue to have plenty of questions to grapple with even after they’ve dealt with initial implementation problems, in no small part because the marijuana market is so new and the policy landscape over pot remains uncertain.

“No matter how sophisticated the economic model, there are crucial inputs on which everyone is basically just guessing,” said Jared Walczak of the conservative-leaning Tax Foundation, who himself wondered how much marijuana use would grow as it faced less of a stigma and how much of a revenue boost early adopters have gotten from marijuana tourism.

Medical marijuana activist and Oaksterdam University founder Richard Lee speaks during a news conference to bring attention to California State Proposition 19, a measure to legalize marijuana in California on October 12, 2010 in Oakland, California. Lynne Johnston of Los Angeles, California celebrates after purchasing marijuana products at the 3-D Denver Discrete Dispensary on January 1, 2014 in Denver, Colorado. | Justin Sullivan/Theo Stroomer/Getty Images

The biggest looming question might be when or if the federal government will legalize marijuana or at least liberalize its cannabis policy — something that seems quite unlikely in the short term, though it polls well.

There’s more: Western states have taken the lead in legalization so far, but will it be harder for states in the more crowded East to project demand and cross-border sales?

Will states be able to keep up with consumer preferences between concentrates, edibles and extracts? How would pot revenue be affected by a recession? And how much will marijuana prices fall as cannabis gains a greater toehold across the nation?

“Look at the price of cannabis compared to other agricultural products — it costs far, far more than other products that involve a similar amount of effort to grow,” Davis said. “The price is being propped up by federal and state restrictions.”

The answer to all that uncertainty, these experts say, is for states who are legalizing to be conservative in predicting pot revenue and to frequently check back in with taxing and regulatory regimes to ensure they’re working correctly. In a sign of how volatile the taxing situation is, Nevada is putting its collections from marijuana into its rainy-day fund, instead of incorporating them into the state budget, and California and Colorado hold off a year before using cannabis revenue for the same reason.

That said, it’s also quite possible that the concerns about the amount of revenue states are bringing in from marijuana are more of a perception issue than anything else. After all, those governments are bringing in hundreds of millions of dollars a year to help their bottom line, and states like Alaska, Colorado, Nevada, Oregon and Washington saw marijuana tax collections spike as the legal market took hold — even though some analysts believe those gains will level off with time.

“You’ll see people get mad at the revenue. It’s not the revenue’s fault. The revenue’s fine,” said Auxier of the Tax Policy Center. “The problem is that you’ve either promised or budgeted too much, on something you at the very least should have known was volatile.”

Bernie Becker is a tax reporter for POLITICO Pro.

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