County Supervisors Hit Pause on Cannabis Tax Reform

By Melinda Burns

Amid plummeting prices for cannabis “flower” in the Golden State, Santa Barbara County is likely to collect only $10.8 million in cannabis tax revenues this fiscal year, or 40 percent less than the $18.4 million that was budgeted last June, authorities say.

Statewide, the newly legalized industry continues to produce an oversupply of wholesale cannabis as new operators get licensed and enter the market, driving prices down, according to the County Executive Officer’s third quarter budget report.

It’s the second time the CEO has been forced to lower the county’s cannabis tax projections for 2021-22. By some estimates, California growers are producing three times as much marijuana as can be consumed in the state. The illegal market is believed to account for at least two-thirds of total sales; Santa Barbara County alone spends more than $3 million on cannabis enforcement yearly.

“We’ve had quite a ride this year, trying to determine how much money we think we’re going to bring in,” Brittany Heaton, the county’s principal cannabis analyst, told the Board of Supervisors at a May 17 hearing.

But the glut on the market and the competition from illegal operations don’t entirely explain the county’s lower-than-expected cannabis tax revenues. The tax structure approved by county voters in 2018 sets a four percent tax on gross sales revenues from cannabis cultivation, as reported every quarter to the county Treasurer-Tax Collector by the growers themselves. That “self-reporting” has led to some loss of tax revenues, county officials say, though they don’t know how much.

Fair share

In 2020, the county Grand Jury issued a scathing report, contending that the Board of Supervisors had “simply opened the floodgates” to the cannabis industry and failed to protect the public by limiting its location and spread. Among a host of recommendations, the jury urged the board to adopt a tax structure based on the area of cannabis under cultivation by square foot, the system most widely in use in other California counties. The board responded that the idea was “not reasonable.”

Fast forward to this May 17, when the supervisors had an apparent change of heart. They said they wanted to come up with a simpler, more equitable system that would boost the county’s cannabis tax revenues and prevent growers from gaming the system. They expressed support for converting to a formula based on square footage without increasing cannabis tax rates overall.

But the board quickly got bogged down, trying to figure out how that formula could be tied to a market index. The supervisors said they didn’t want to put growers out of business, but they didn’t want to sell the county short, either. In a 3-2 vote, they asked the CEO to gather more information and report back in six months.

“The more we look at this, the harder it is to figure out something that works for residents and growers,” said Supervisor Steve Lavagnino, who represents the Santa Maria Valley and was a chief architect of the 2018 cannabis ordinance, along with Supervisor Das Williams.“It’s really difficult to find that perfect ground.”

The delay means that voters will not be able to decide on any changes to the county’s self-reporting cannabis tax structure until November 2024 elections, at the earliest.

Supervisor Gregg Hart, who represents the Goleta Valley, noted that Gov. Gavin Newsom was proposing to eliminate the $161-per-pound state tax on cannabis flowers, beginning July 1, in an effort to level the playing ground between legal operators and the state’s entrenched illegal market.

“It’s hard to hit the right public policy bullseye when things are changing so radically all the time,” Hart said. “We need to pause any change until the state acts.”

Lavagnino and Chair Joan Hartmann, who represents much of the Sta, Rita Hills, the federally-designated American Viticultural Area west of Buellton where the cannabis industry has taken root, reluctantly agreed. But supervisors Williams and Bob Nelson said they wanted to change the cannabis tax structure without delay.

“I don’t fundamentally believe everybody is paying their fair share of taxes, and that to me is an unacceptable situation,” said Williams, who represents the Carpinteria Valley, one of the largest cannabis-producing regions in California.

Zero gross revenues?

Cannabis taxes help pay for libraries, roads, parks and other county services. According to the CEO’s third quarter report, cannabis tax revenues will account for about 3 percent of the county’s $330 million general fund this fiscal year.

During the 2020-21 fiscal year, records show, the county spent $3.1 million on cannabis enforcement, including a five-member Sheriff’s Department team, three county planners and several positions in the County Counsel and District Attorney offices. Another $2 million went into cannabis program administration, education, tax collection, permit appeals, long-term planners and the County Counsel’s office, for a total of $5 million in cannabis-related expenses.

Each quarter, a number of growers report zero gross revenues to the county or don’t file reports at all. For the quarter ending this Mar. 31, out of 58 growers who filed reports, 17 reported zero revenues. A few others did not file. No one knows if the growers who reported zero revenues or failed to file fallowed their land, turned their harvest into compost because prices were low, or sold their plants “off-books.”

Heaton sends warning letters to the growers who fail to file during two consecutive quarters, telling them to file and pay any taxes due, or the county will withdraw its “letter of authorization” for their state business licenses. At the end of last year, she said, she sent out six such letters. To date, the county has never withdrawn a letter of authorization for failure to pay taxes, Heaton said, although it is poised to take that action against one unnamed grower.

Heaton told the board that other growers may be selling their cannabis to themselves for processing, fixing artificially low prices to avoid higher taxes.

“I think it’s just a handful of the operators,” she said. “We just hear from the industry that they know for sure people are doing it.”

Indoor and outdoor

Lavagnino noted that many of the jurisdictions that originally based their cultivation taxes on square footage have had to reduce those rates to help keep their growers in business. There’s no set price for a pound of marijuana, Lavagnino said, and that makes it hard to come up with a fair tax rate based on square footage.

Members of CARP Growers, a Carpinteria Valley cannabis greenhouse industry group, said they favored a tax of $1 per square foot of cannabis grown indoors. A representative for the Santa Barbara Coalition for Responsible Cannabis, a countywide advocacy group, spoke in favor of at least $3 per square foot. Around the state, the tax rates for cannabis greenhouse “canopy” range from $2 to $7 per square foot.

Carpinteria growers pay about 65 percent of the cannabis taxes collected by Santa Barbara County, Heaton said, while outdoor growers in the North County pay 35 percent.

A tax based on the square footage of cannabis under cultivation “actually gets people who are not paying their taxes to pay their taxes,” said Mike Palmer, who works for members of the Van Wingerden family, prominent cannabis greenhouse operators in the Carpinteria Valley. Palmer said members of CARP Growers produce “some of the largest brands” and are “some of the highest taxpayers” in California.

For outdoor cannabis, the board heard proposals for tax rates of $1 or less per square foot — but North County growers, who grow marijuana under hoop-houses or in open fields, harvesting just twice a year, told the board they were opposed to any fixed rates.

Sara Rotman, the co-owner of Busy Bee’s Organics, an outdoor cannabis “grow” west of Buellton, said she was fallowing her farm this year, in part because she was “financially depleted” after successfully defending her operation from a coalition lawsuit against the board and Busy Bee’s last year. A per-square-foot tax on cannabis cultivation would do what the lawsuit could not, Rotman said, adding, “It would mean the end of our business here in Santa Barbara County.”

“This feels so much like a ban by proxy that it’s hard for me to maintain my dignity in this moment,” she said.

Individual audits

County officials told the board they have begun taking steps to recover tax revenue that is likely being lost under the present system. At a cost of $500,000 per year, Heaton said, the county has joined the California Cannabis Authority, a joint powers agency that gives members access to a statewide data platform, including information from the state’s “track and trace” system, a database that the state promised to provide to the county early on but has not yet materialized.

In addition, Heaton said, the county has hired a consulting firm that is training county employees on how to conduct individual audits of cannabis operations and close loopholes. The program will cost the county $300,000 over the next three years. Harry Hagen, the county Treasurer-Tax Collector, sent a message to growers at the hearing: “Everyone will be audited at some point — not every year. Your number will come up.”

Nelson, whose district includes a portion of the Sta. Rita Hills, said he wanted to do away with the “audits, attorneys, consultants and analysts” that the present system requires.

“I’m leaning more and more towards a square-foot calculation,” he said. “It creates that transparency so there isn’t that worry that somebody isn’t paying.”

Melinda Burns is an investigative journalist with 40 years of experience covering immigration, water, science and the environment. As a community service, she offers her report to multiple publications in Santa Barbara County, at the same time, for free.