Federal Study Finds High Marijuana Taxes Drive Consumers to Illicit Market

Study Methodology and Core Finding

Researchers tracked consumer purchasing patterns in six legal states over 18 months and documented a statistically significant migration to illicit channels when total tax burden exceeded 25 percent of retail price. The study, conducted by a consortium of public-health economists, used anonymized transaction data from licensed retailers and self-reported survey responses from 4,200 consumers. The threshold held across demographic groups and product categories.

"Total tax burden" meant the sum of excise taxes, sales taxes, and local levies applied at point of sale. States with combined rates above 30 percent saw illicit-market share increase by an average of 18 percentage points compared to baseline measurements taken at legalization launch.

State Tax Structures Under Scrutiny

California, Washington, and Illinois—three of the largest legal markets—impose combined tax rates that exceed the study's identified tipping point, with California's effective rate reaching 34.5 percent in some municipalities. California levies a 15 percent excise tax plus local taxes ranging from zero to 10 percent, alongside standard sales tax. Washington's 37 percent excise tax is among the highest in the nation. Illinois charges 10 to 25 percent based on THC content, plus local option taxes.

The study didn't name specific states in its published findings but provided aggregated rate bands. CannIntel cross-referenced the bands with current state tax schedules to identify the jurisdictions most likely affected.

Revenue Implications for State Budgets

States that set taxes above competitive thresholds may collect less total revenue than jurisdictions with moderate rates, according to the study's fiscal-impact modeling. A state with a 35 percent combined rate collects roughly 12 percent less annual revenue per capita than a comparable state at 20 percent, due to volume loss to the illicit market. The model controlled for population density, prior-use prevalence, and enforcement spending.

California collected $1.29 billion in cannabis tax revenue in fiscal year 2025, below projections. Illinois took in $702 million the same year. Both states have faced legislative pressure to reduce rates. Budget dependencies have stalled reform efforts.

Industry Response and Operator Economics

Multi-state operators and independent retailers have cited tax burden as the primary structural disadvantage against illicit competition, a position now supported by federal research. Licensed operators face Section 280E federal tax treatment, which disallows ordinary business deductions, on top of state excise and sales levies. The combined load compresses margins to single digits in high-tax states.

One California retailer interviewed for background noted that pre-tax wholesale costs have declined 40 percent since 2023, but post-tax retail prices have remained flat due to the tax wedge. Legal product can't compete with delivery services operating outside the regulated system, the operator said.

Federal Funding and Policy Context

The study was funded through a $2.1 million grant from the Substance Abuse and Mental Health Services Administration, part of a broader federal research initiative examining state cannabis policy outcomes. SAMHSA's cannabis research program, authorized under the 2023 appropriations bill, has funded 14 studies to date. This is the first to directly quantify the tax-rate elasticity of illicit substitution.

The timing matters. Congress is debating federal legalization frameworks that would impose a national excise tax. The leading Senate bill, S. 1782, proposes a 10 percent federal excise tax on top of state levies. The study's findings suggest that additive federal taxation could push combined rates in high-tax states well beyond the competitive threshold.

What Comes Next

State legislatures in California, Illinois, and Washington are expected to reference the study in pending tax-reform bills, though passage remains uncertain given budget constraints. California Assembly Bill 195, introduced in February 2026, would reduce the state excise tax from 15 percent to 11 percent and eliminate the cultivation tax. The bill has cleared committee but faces opposition from education and public-health lobbies that depend on cannabis revenue allocations.

For additional context on how state tax structures have evolved since legalization, see the CannIntel topic hub on Cannabis Taxation Policy. California's budget reconciliation in September is the next inflection point, when the legislature must decide whether to prioritize revenue stability or market-share recovery.