Cannabis Taxes, Political Gravity, and the $370 Million Question

OG article by Dale Schafer

February 18, 2026

I have practiced law in California since 1987 — 39 years navigating courtrooms, regulatory agencies, business formations, criminal prosecutions, and government policy experiments. Over those many years of practice, I have learned that good intentions do not immunize bad policy.

I entered the cannabis space because federal enforcement once criminalized patients and caregivers — including my own family. I am a lifelong Democrat. I believe in civil liberties, competent government, and rational public health policy.

I also believe that arithmetic matters.

And right now, the math in California cannabis does not work.

The $370 Million Allegation

Republican gubernatorial candidate Steve Hilton, through his “CalDOGE” initiative, alleges that approximately $370 million from California’s Cannabis Tax Fund was diverted into political organizing activity rather than strictly prevention and treatment programs envisioned under Proposition 64.

Organizations reportedly involved include:

• Elevate Youth California

• Young Invincibles

• The Jakara Movement

The grants allegedly supported civic engagement, youth empowerment, power building, and voter registration initiatives.

If cannabis tax dollars were used for partisan campaign activity, that is unlawful.

If funds supported broad prevention strategies within statutory scope, then we are debating policy elasticity — not criminal fraud.

Those distinctions matter.

But even if every dollar was technically lawful, the larger structural crisis remains.

The Industry Is Buckling

Licensed cannabis operators in California face a convergence of burdens rarely seen in any other regulated industry:

• A 15% retail excise tax

• State sales tax

• Local gross receipts taxes (often 5–10% or higher)

• Licensing and renewal fees

• Testing mandates

• Track-and-trace compliance

• Banking barriers

• Zoning restrictions

• Municipal prohibitions in most jurisdictions

And then there is the federal government.

The Federal Anchor: 26 U.S.C. § 280E

Cannabis businesses — though legal under California law — remain illegal under federal law.

As a result, they are subject to 26 U.S.C. § 280E, commonly referred to as the “drug dealer tax.”

Section 280E prohibits businesses trafficking in Schedule I substances from deducting ordinary and necessary business expenses. That means:

• No deduction for rent

• No deduction for payroll

• No deduction for utilities

• No deduction for insurance

• No deduction for marketing

• No deduction for compliance costs

Only cost of goods sold may be deducted.

The effective federal tax rate for cannabis operators can exceed 60–70% of net income — sometimes more when layered on top of California’s state and local taxes.

In plain English: the federal government taxes legal cannabis businesses as if they are criminal enterprises.

You cannot build a stable, compliant market on that foundation.

The Structural Reform Agenda

If California wants a viable legal cannabis industry — and stable tax revenue — reform must address both state and federal constraints.

1. Lower or Eliminate the 15% Excise Tax

The 15% retail excise tax widens the price gap between legal and illicit markets. Reducing or eliminating it would:

• Increase consumer migration into the legal market

• Expand the taxable base

• Improve compliance

• Enhance long-term revenue stability

High tax rates on fragile markets do not produce sustainability. They produce insolvency.

2. Treat Cannabis More Like Alcohol

Alcohol, regulated by the California Department of Alcoholic Beverage Control, operates within a commercially viable framework.

Alcohol retailers:

• Are not subject to 280E-style federal tax disallowances

• Do not operate under seed-to-sale tracking

• Do not face widespread municipal bans

• Are regulated for safety, not suppressed for optics

Cannabis should be regulated responsibly — but it should not be structurally handicapped.

If we treat cannabis like alcohol in tax structure and regulatory design, we reduce illicit competition and normalize compliance.

3. Remove Local Government Authority to Prohibit

Approximately two-thirds of California municipalities prohibit retail cannabis businesses outright.

That guarantees illicit supply chains.

If the state legalizes cannabis, local governments should regulate — not veto — lawful commerce.

Cities and counties can:

• Set zoning standards

• Enforce safety rules

• Regulate density

But prohibition at the local level undermines:

• Consumer protection

• Tax collection

• Equity access

• Market stability

A statewide legal market cannot function when most of the state is closed to lawful operators.

4. Reduce Regulatory Layering

California’s cannabis compliance architecture is extraordinarily dense. It disproportionately harms small and mid-sized operators while favoring large, vertically integrated entities.

Reform should include:

• Streamlined reporting

• Consolidated oversight

• Rationalized inspections

• Predictable licensing timelines

Regulatory complexity should serve public safety — not create artificial scarcity.

Accountability Must Be Consistent

If the $370 million allegation proves unfounded, transparency will resolve it.

If funds were misused, accountability must follow.

But even if every grant complied with statutory language, the fundamental problem remains:

You cannot:

• Impose a 15% excise tax

• Layer local taxes on top

• Allow municipal prohibition

• Enforce extensive regulatory burdens

• Subject operators to 280E federal taxation

— and then express confusion when the legal industry contracts.

The math does not support survival.

Final Thought

After decades of practice, I have learned that markets collapse under cumulative pressure — not single events.

California legalized cannabis.It did not fully legalize cannabis commerce.

Lower the excise tax.Treat cannabis like alcohol.Reduce regulatory layering.Eliminate local prohibitions.Advocate federally for relief from 26 U.S.C. § 280E.

If we expect cannabis operators to comply with every rule, government must construct a framework that allows lawful businesses to survive.

That is not partisan.

That is economic reality — and responsible governance.