Can Legal Cannabis Beat the Illicit Market in California?

Do you like a bit of salmonella in your joint? Maybe some mold in that THC gummy you like to pop at the end of the workday? If you buy cannabis on the illicit market in California, there’s a good chance you could be exposed to both. 

According to the findings of a Monterey County testing program, more than 80% of illicit cannabis would not pass compliance screening. And which contaminants did the researchers find in the 55 samples tested? They ranged from pesticides to heavy metals, mold, and even Salmonella. 

The findings are cause for concern, partly because in California, the illicit market continues to surpass the size of the legal market five years after recreational cannabis legalization.

And apparently, it’s not even close. 

How big is the illicit cannabis market in California?

Five years after Proposition 64 legalized recreational marijuana sales in California, tax revenue from legal sales tops $1 billion per year. But the illicit market is estimated to be more than double to triple that of the legal market. Some experts even state that legal marijuana sales may only account for 10% of all sales in California.

The vastness of the illegal market in California could be seen in a $1 billion bust in July 2021, which MJBizDaily described as the largest law enforcement operation in LA County history. 

Those caught illegally growing marijuana rarely face serious prosecution and can quickly return to their illicit operations once the dust settles.

A 2021 Global Go Analytics report stated that the illicit market constitutes $8 billion in annual sales. According to Global Go Chief Executive and Principal Analyst Tom Adams, “California managed to become the only state that actually grew the illicit market by legalizing adult use.”

It may be a problem of the state’s own design.

How big is the legal cannabis market in California?

There are 745 licensed marijuana dispensaries in California, Hirsch Jain of the LA-based consulting firm Ananda Strategy told MJBizDaily in August 2021. According to Jain, the state should have 4,000 to 5,000 dispensaries “on a per capita basis.”

An October 2021 report in Politico found only 2.1 California dispensaries per 100,000 residents, far short of the 14.2 in Colorado and 17.9 in Oregon. 

In 2019, Statista estimated that legal cannabis sales in California totaled $3.1 billion as opposed to $8.7 billion for the illegal market.

The continued dominance of the illegal cannabis market in California shouldn’t be a surprise. It had a several decades-long headstart on the legal market, during which regions like the “Emerald Triangle '' in northern California were world leaders in marijuana cultivation. The state’s underground marijuana culture was also a trendsetter throughout decades of prohibition. 

But high taxation and rigid compliance demands have also helped unlicensed producers stay on top.

Cannabis taxes and compliance in California  

On January 1, 2022, California increased the cultivation tax to $10.08 per ounce of dry cannabis flowers. Cultivators also face higher taxes on leaves and fresh marijuana plants, and the state’s cannabis markup rate will remain at 80% through June 30, 2022. 

California companies must pay a 15% excise tax on wholesale cannabis purchases, which is passed on to consumers.  In addition, consumers also have to pay a state sales tax of 7.25% plus local sales tax. 

Without such tax requirements and operating costs, the illicit market can sell its products at lower prices to consumers primarily motivated by the price. And without any testing requirements on the illegal market, it's easy to see how the current situation can mean less safe cannabis for consumers.

Cities that do and don’t allow cannabis dispensaries in California 

Many picture California as a sort of cannabis Shangri-La, but that’s far from the case. Proposition 64, which legalized recreational cannabis retail sales, allows municipalities to decide whether or not to allow dispensaries within their jurisdiction. As of November 2021, only 174 out of the 482 cities in the state allow legal marijuana sales. 

A 2020 report stated that the illicit market’s dominance is linked to local dispensary bans, high taxes, licensing procedures, and land use regulations.

These bans affect access to licensed cannabis retailers and safe, tested products. They also impact public health. According to a 2020 report, neighborhoods with unlicensed cannabis retailers had a higher proportion of African Americans, Hispanics, and people living in poverty. 

“Minority populations in California are disproportionately exposed to unlicensed cannabis retailers, potentially exacerbating health disparities,” the report found. 

Is social equity failing in California?

Like in other legal cannabis states, the cannabis industry in California does not reflect the state's diversity as a whole. 

Passed in 2018, the California Cannabis Equity Act set up a grant program to help support cannabis professionals “from communities negatively or disproportionately impacted by cannabis criminalization.”

According to the California Cannabis Industry Association, the act has fallen short, mainly because of the limited number of retail licenses and the high entry costs. 

The CCIA says that entry costs can range from $500k to $1.5 million, while equity grants range from $2,500 to $25k. In addition, the banking and credit restrictions placed on cannabis by federal prohibition mean that companies need large amounts of capital to get off the ground.  This creates a situation where the top 10 cannabis brands in California make up almost 27% of all sales in the state, according to data from the cannabis analysis firm Headset. 

“While the barriers to entry are high for any incoming cannabis operator, the odds are against the average equity applicant who might not have the same resources and advantages of other operators in the marketplace.”

Towards the future of legal cannabis in California

But it’s not all bad news. In November 2021, MJBizDaily reported that the state’s legal retail market could reach $7 billion in annual sales by 2025.  

This is partly because the stigma towards people who use marijuana is decreasing, largely because of the proven economic benefits of legalization. 

In addition, California has set aside $100 million to help 17 cities and counties provide full licenses to local cannabis businesses. The money will also support staffing and help offset the cost of entry.

Ultimately, as long as harsh regulatory and financial burdens remain, the illicit market will continue to hold appeal for countless cannabis consumers and entrepreneurs.